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Distribution: Momentum slows in a challenging market
1:35 PM MDT | May 20, 2013 | —Ian Young
Europe’s chemical distributors struggled to increase revenue last year. Any growth they achieved was most likely in the first half of 2012 as the already weak European economy deteriorated toward year-end. Conditions remained tough in the first quarter of 2013, and companies say the market may not grow this year. Meanwhile, industry consolidation continues as distributors seek to boost their geographic footprint or fill gaps in their portfolios through acquisitions.
European distributors relied on the traditional resilience of their business model to generate growth in the first half of 2012 despite weakness in the regional economy following a strong 2011. However, a worsening economic picture in the second half of last year, especially in southern Europe, caused demand for chemicals to soften and brought momentum to a halt. Distributors’ ability to maintain top-line growth was complicated by declining prices for many chemical products. “Growth slowed overall in 2012, and the first half was better than the second,” says Günther Eberhard, managing director at consulting firm DistriConsult (Wädenswil, Switzerland). “Economic uncertainty increased as the year went on, and with that came market volatility. Customers typically slow their orders in the last few months of each year to reduce inventories, and this process began earlier than usual in 2012. Prices also came down, making it a challenge for distributors to increase revenue.”
The recent performance of Germany’s chemical distribution sector, Europe’s largest, reflects the regional trend. German chemical distributors’ association VCH (Cologne) reports that overall sales by Germany’s chemical distribution industry declined 1.4% in 2012 compared with the previous year, to about €12.9 billion ($16.6 billion). Domestic volumes decreased 2.9%, to 5.98 million m.t. “After two years of growth, German wholesale and foreign trade in chemicals closed the year 2012 with a decline in volumes and revenues,” VCH says. “Overall, the industry had to struggle with stagnation and with marked increases in costs, for example for the implementation of environmental rules, which increasingly suppressed profits. The development of sales and volumes, in Germany and in Central [Europe] and Eastern Europe, was restrained, and there was a continuing fall in demand in all southeastern European countries.”
Most of the leading distributors were nevertheless able to record improved full-year financial results. This was partly because of acquisitions and restructuring, however, analysts say. Organic growth for many distributors in Western Europe was elusive, but some of the large and medium-size players boosted sales by increasing market share. “Even in a declining market, some companies were able to grow,” Eberhard says. “A lot of that growth is acquisition related and some companies achieved it by taking market share, at the expense of margins. There is a competitive landscape and that makes life increasingly difficult for the smaller distributors; they may be crowded out of the market by more aggressive, financially strong competitors.”
Higher sales by the leading European distributors also reflect growth in emerging economies, where many of these companies have been boosting their presences. “Companies with international activities were able to profit in 2012 from the positive development in other regions such as Southeast Asia and South America,” VCH says.
Brenntag, the worldwide market leader in chemical distribution, posted a 21% increase in 2012 profit after taxes, to €338 million, on sales up 12%, to €9.7 billion. Operating Ebitda grew 7%, to €707 million, and gross profits rose 9%, to €1.9 billion. “The first half of 2012 provided encouragement, but the second half was more challenging,” Brenntag CEO Steven Holland tells CW. “But we’re highly diversified in terms of products, suppliers, customers, and end-users, and we have variability in our cost base, so we can adapt to difficult market conditions. There was a good contribution from acquisitions. Normally, about two-thirds of our growth is organic and one-third is generated by acquisitions, and 2012 wasn’t very different.”
Brenntag’s operating Ebitda in Europe, the company’s biggest market, slipped 1% in 2012, to €302 million, on sales up 6%, to €4.5 billion. The Ebitda figure includes €10 million in one-off costs. The full benefit of efficiency measures implemented by Brenntag in Europe during the first half of 2012 will be visible in 2013, Brenntag says. “The European region did not grow as we had hoped from a macroeconomic point of view,” Holland says. “We expected to see growth during the course of the year, but it was a relatively flat picture throughout. We rationalized some of our cost base within the European organization. For 2012, the overall finance impact was almost neutral.”
Other distributors acknowledge a gradual deterioration as the year went on. “The second half of 2012 started quite well and seemed to confirm our expectations for the year, but at the beginning of the fourth quarter we could see that our forecast for the whole of 2012 would not be reached,” Edgar Nordmann, chairman of family-owned specialties, polymers, and synthetic rubber distributor Nordmann, Rassmann (NRC; Hamburg) and president of the European Association of Chemical Distributors (FECC; Brussels), tells CW. “Following a number of good to very good years, we had all expected a return to normal conditions, but the euro crisis and margin problems in the southern European countries led to a considerable slowdown. The automotive and construction industries were affected most.” NRC forms part of Georg Nordmann Holding, a group with sales of about €450 million/year.
Biesterfeld (Hamburg), an independent, pan-European specialties and plastics distributor and among Europe’s top-10 distributors overall by revenue, says its operating profits increased 5%, to €29.7 million, in 2012. Sales rose to €996 million, from €963 million in 2011. The company achieved higher sales in Eastern Europe and Africa as well as in its traditional Western European markets.
“At the beginning of 2012, the business climate and development for chemical distributors were dynamic,” Birger Kuck, CEO of Biesterfeld, tells CW. “In the second half of the year, this dynamic declined. In early summer especially, the increasing uncertainty in financial and capital markets came back into focus. This was caused basically by economic developments in some southern European states. One consequence was inconsistent demand and early destocking by our customers at the end of the year. Last year was less dynamic than 2011 basically because of economic uncertainty.”
Hugo Häffner Group (Asperg, Germany), another family-owned distributor of specialty and commodity chemicals with sales of about $160 million/year, says that demand was relatively firm in Germany during 2012. “Outside Germany, the biggest challenges for distributors [were] the low level of consumption and customer requirements, and credit risk with customers,” Derk Proff, managing director of Hugo Häffner Group, tells CW. “But in Germany, volume was good in 2012.”
However, Proff estimates that volumes declined about 5% in Germany during the first quarter of this year, and other distributors confirm that the tough conditions at the end of 2012 persisted in the first 3 months of 2013. “Sales were slightly lower in late 2012 and the pressure on margins was quite high, and this trend continued in the first months of this year,” Nordmann says.
An exceptionally long winter in Europe also had an acute effect on certain customer segments. “Some industries, such as paints and construction, were down for a long time; building activity only restarted in mid-April,” Eberhard says. “And there is a big geographic variation. Markets such as Italy, Portugal, and Spain are almost static.”
Brenntag’s first-quarter 2013 profit after tax dropped 12% compared with the same period of last year, to almost €70 million, on sales up 1.4%, to €2.4 billion. Gross profit edged up 0.6% year-on-year (YOY), to €478 million, but operating Ebitda declined 4%, to €165 million. “The first quarter was more challenging than we expected,” Holland says. “We had been more optimistic at the start of the year, and gross profit per day was positive in January and February.” But the Easter holiday fell in March this year, as opposed to April, and that meant as a whole almost three fewer working days in most of Europe during the first quarter than in the corresponding period of 2012. “It impacted us in terms of Ebitda,” Holland says. “While overall, industrial output fell in Europe during the first two months, which affected demand.”
Brenntag’s operating Ebitda declined 6.2% YOY in Europe during the first quarter, to €76 million, on sales up slightly, to €1.15 billion. Operating Ebitda fell 5.8% in North America, to just under €70 million, on sales down slightly, to €756 million. Operating Ebitda and sales also declined in Latin America, but they each increased at double-digit rates in Asia/Pacific.
Traditionally recession-resistant segments nevertheless held up well in the first quarter. “Certain sectors, such as cosmetics and personal care, did quite nicely,” Eberhard says.
Biesterfeld says its specialties business performed well. “The first quarter of 2013 started unexpectedly strongly, but it was less dynamic than in the previous year,” Kuck says. “Sales of premium products are still good, but the optimism is slowly declining. The plastics segment is closely influenced by weak developments in the automotive industry.”
Almost five years of economic turbulence have presented a number of major challenges for Europe’s chemical distribution sector. Distributors have, on the whole, adapted well to tough conditions, but the relentlessness of the challenges has taken its toll.
Short-term buying by customers—more frequent ordering and lower-volume orders—has been a feature of the European distribution market for more than three years. “We’re seeing short-term buying patterns more than ever,” Eberhard says. “Customers only order when they have their own customer for the product or if they’re planning to use it in-house. So, in preparation, distributors have to hold relatively high inventories, which is a financial risk. But distributors are becoming more and more professional and are better at managing their supply chains than before.”
Brenntag also confirms short-term patterns in the market. “We saw a little more short-term buying in the first quarter,” Holland says. “Orders became slightly smaller and more frequent. You have to have a flexible approach, and we’re highly diversified. This is nothing new; it’s our business model.”
Distributors’ inventories have come to act as a buffer between suppliers and customers. “An even closer cooperation between suppliers and distributors can be seen,” Kuck says. “Suppliers ask their distributors to purchase products in considerably larger amounts and reduce the number of points to ship to. This makes it easier for our suppliers to optimize production and reduce logistics costs, and optimize their own stocks. On the other hand, our customers want to buy smaller amounts of product and they ask for longer payment terms. They want to optimize their working capital: effective purchasing with long terms of payment and low stocks. As a result, the financing aspect is getting more important for us. We work closely together with our suppliers and banks, and we discuss our financial strategy. The challenge is to optimize all of our sites.”
Distributors’ average volume per delivery is 30–50% of former delivery volumes, Proff says. “However, customers expect the same price, so additional logistics costs are a burden and the increased flexibility that customers expect from distributors costs more money. Human resources cannot be reduced in line with volumes because the business is labor intensive when there are small-lot sizes per order. As a result, inventories have increased, which makes distributors more vulnerable to price swings.”
Price volatility is one symptom of the economic downturn. Prices generally increased in 2011 but have been declining since 2012. Distributors have adapted to these fluctuations and learned to minimize their impact. “Weaker prices do not have a big effect on margins if distributors manage them properly,” Eberhard says. “Distributors have become more professional and should be able to maintain margins.”
A lack of bank credit, another outcome of the economic and financial crisis, remains a challenge for distributors and their customers. “There’s no sign of credit easing,” Eberhard says. “Banks are under continuous pressure.” The impact is greatest on the smaller distributors, he says. “The medium-size and larger firms are well financed and banks are offering them credit,” Eberhard says.
Being family owned is not a barrier to companies such as Hugo Häffner Group obtaining credit, Proff says. “In general, we feel very well-served by the banking sector,” he says. “It seems that the long-term view and strategy, and financial backup, of a family-owned company versus, for example, a private equity company is very much accepted and results in good access and conditions for capital.”
Meanwhile, consolidation in the chemical manufacturing industry—also driven by tough economic times—has a direct impact on the distribution sector. Each M&A deal involving chemical manufacturers typically leads to a reduction in the number of distribution contracts. “Distributors cannot take long-standing relationships with manufacturers for granted anymore,” Eberhard says. “Every time consolidation happens on the manufacturing side, there are repercussions on the distribution side. And manufacturers, in general, want to deal with a smaller number of distributors.”
However, internal cost-cutting by manufacturers in a challenging economic environment often leads to greater outsourcing of services, presenting opportunities for distributors. “Manufacturers are thinking more and more about how best to use distributors,” Eberhard says. “The undercurrent of thinking is let’s reduce complexity. I think that’s good news for distributors; more business will come their way.”
Distributors can also generate business opportunities through the many services they offer. “Chemical distribution is a service business, and often in a more challenging economic environment there are opportunities for service providers,” Holland says. “The more flexible distributors can offer services such as mixing and blending to help their customers through the challenging conditions. There’s still an opportunity for distributors in terms of capturing more value-added services irrespective of more challenging conditions.”
Distributors, meanwhile, are dealing with the demands of the European Union’s Registration, Evaluation, Authorisation, and Restriction of Chemicals (Reach) regulation. The second Reach registration deadline is due at the end of this month and, since it covers substances made or imported in the European Union at or above 100 m.t./year, has major implications for small and medium-size enterprises, including many distributors. “The biggest challenges for distributors are mainly regulatory issues,” Nordmann says. “The second Reach registration deadline is certainly a huge challenge for all of us, but especially for the smaller companies.”
M&A activity also impacts the smaller companies, as medium-size and larger distributors drive the industry’s ongoing consolidation process. “There will definitely be further consolidation and specialization,” Nordmann says. “We will see much more M&A activity and, sadly, the demise of a number of companies.”
“Concentration and consolidation in the distribution market is accelerating, and we assume this will continue in 2013,” Kuck says. “This process affects, first and foremost, the business of the smaller distributors.”
M&A, for some of the leading companies, is a means of hooking up to growth in emerging markets or better serving fast-developing sectors, such as the shale-based energy industry in North America. Brenntag and Univar have each made acquisitions during the past year in North America’s oil services industry. The fracking process for shale gas extraction requires mixes of chemicals, and distributors’ traditional expertise in blending and mixing is proving valuable to the US energy sector.
Univar, the second-biggest chemical distributor worldwide by sales and the market leader in North America, completed last December the acquisition of Magnablend (Waxahachie, TX), a provider of custom chemical manufacturing, blending, and packaging with sales of about $400 million/year. The acquired company specializes in completion chemicals used in the oil and gas industry, including guar gum slurries, cross-linkers, breakers, and buffers. “The acquisition of Magnablend is an important step forward in Univar’s continued focus on the rapidly growing North American oil and gas market,” says Univar president and CEO Erik Fyrwald. “Magnablend’s geographic position at the heart of current and developing shale basins allows us to offer a comprehensive suite of products and services to meet increasing customer demand.”
Brenntag announced in March the acquisition of Lubrication Services (Oklahoma City), a distributor of lubricants and chemicals, for an investment amount of $42 million. Lubrication Services supplies the oil and gas industry through a network of facilities across 6 US states that covers many of the country’s shale gas plays and has sales of $135 million/year. The deal followed the acquisition by Brenntag last July of Treat-Em-Rite (Pearsall, TX), an $11-million/year provider of well-treating chemicals and specialized services in southern Texas. The company is located in the Eagle Ford Shale.
Brenntag also announced earlier this year that its Brenntag Pacific subsidiary would upgrade its site at Dickinson, ND, to satisfy customers’ growing demand in the North Dakota oil and gas market. The project includes new rail siding, acid bulk storage, and blending capacity.
The acquisitions and investments complement Brenntag’s existing Coastal Chemical (Abbeville, LA) subsidiary, which serves the oil and gas industry across the United States. “We’re a long-term player in oil and gas in the United States through Coastal Chemical, and our recent acquisitions increase our capability in that sector,” Holland says. “The shale gas phenomenon represents a fundamental shift in the North American energy market. Oil and gas is a focused industry for us and we look at it on an ongoing basis for further development.”
Meanwhile, IMCD Group (Rotterdam), another global top-10 chemical distributor, having built up a comprehensive European network, is pursuing growth in emerging economies, particularly in Asia/Pacific. IMCD acquired assets in India, Indonesia, and Malaysia, as well as South Africa in the past year. The company also has operations in Australia, New Zealand, China, and Singapore.
IMCD, which distributes specialty chemicals and food ingredients, opened an office at Bangkok last month and confirmed that its Asian sales had reached €270 million/year, 19% of the company’s €1.4-billion/year total. IMCD is owned by private equity firm Bain Capital. “We are aiming to become a preferred distributor for the leading suppliers of specialty products in Asia/Pacific,” says Albert Stevens, v.p./Asia at IMCD. “IMCD wants to apply the capabilities and know-how acquired in Europe to the same sectors in the Asian markets.”
Brenntag has also been building up its business in emerging markets. The company recorded sales of €919 million and €708 million in Latin America and Asia/Pacific, respectively, in 2012. The 2 regions together accounted for almost 17% of Brenntag’s total 2012 revenue.
Brenntag, meanwhile, completed in mid-2012 the acquisition of ISM/Salkat Group (Highett, Australia), a deal that expands the market position of Brenntag’s specialty products portfolio in Australia and New Zealand. Brenntag will seek further growth in Asia/Pacific and Latin America partly via acquisition. “Asia/Pacific is a growth market for us organically and it offers opportunities for growth through acquisition,” Holland says. “We continue to review our options; the distribution industry in Asia/Pacific is highly fragmented, so it’s a relatively rich environment for bolt-on, regional acquisitions.” Potential targets could be in China, India, or Southeast Asia, he says.
Biesterfeld also created a subsidiary in Thailand recently and says it is interested in moving into other Southeast Asian markets in addition to its existing presence in China, India, and Indonesia. The company is also looking at CIS markets such as Belarus and Kazakhstan, and is interested in South America. “Biesterfeld is looking for new markets to enter,” Kuck says. “We are discussing expansion strategies closely together with our suppliers.”
Meanwhile in Europe, Azelis (Antwerp)—another top-10 global distributor—has been active in the M&A space, but mainly as a seller. The company divested its thermoplastic polymers business in mid-2012 to Gazechim Plastics (Béziers, France) and sold its composites business last October to Velox (Hamburg). The composites divestment followed a review by the Azelis board that identified industrial chemicals, coatings, plastics, rubber, and life sciences as the areas Azelis should focus on, the company says. Analysts estimate that the 2 divested businesses generated combined sales equivalent to about 10% of Azelis’s total.
Azelis’s restructuring has been accompanied by a number of refinancing measures. The company’s shareholders injected a capital increase of €30 million into Azelis last October. Most of the capital was provided by its main shareholder, private equity company 3i. Azelis’s bank financing was extended recently for three years at market interest rates. 3i and funds managed by 3i also said they would provide an additional €10 million in equity support to Azelis.
Azelis, meanwhile, hired a new CEO from the chemical manufacturing industry, appointing Hans-Joachim Müller last year to succeed Joris Coppye, who stepped down. Müller joined Azelis from Clariant, where he had been an executive committee member.
Azelis has also been seeking to expand in Asia/Pacific. The company announced an agreement last year to cooperate with Marubeni in Asia, and it opened a Chinese headquarters at Shanghai earlier this year and will open an office at Beijing in early July. Azelis says it has sales of about €1.2 billion/year, generated by 37 facilities across 32 countries.
One of the biggest M&A deals in Europe this year was Stockmeier’s (Bielefeld, Germany) acquisition of Kruse (Balve, Germany) in January. Kruse had earlier filed for bankruptcy. Analysts say the deal made Stockmeier the second-biggest distributor in Germany, after Brenntag. Stockmeier had sales of €420 million/year before the deal and Kruse had sales of €250 million/year.
Other recent M&A deals include Biesterfeld’s purchase of €25-million/year rubber, additives, and carbon black distributor Küttner (Speyer, Germany) at the beginning of this year. “As the market leader in the distribution of plastics in Europe, covering Europe with an almost complete portfolio in thermoplastic raw materials, the rubber business gives us a chance for diversification,” Kuck says. “Further acquisitions in this market segment may follow. If there is an interesting option for growth or acquisition, we will examine it.”
DistriConsult estimates there were about 38 M&A deals in the worldwide chemical distribution industry in 2012, up from about 30 deals in 2011. The stream of deals has continued at a steady pace this year, with about 12 transactions in the first 4 months of 2013. “Overall, the number of deals is about the same on a pro rata basis,” Eberhard says. The numbers would be higher but for a lack of available assets. “The medium-size distributors are looking for acquisitions based on the idea that you need an enhanced geographic footprint in Europe, and the fastest way to do it is through acquisitions. But there are few willing sellers.”
However, the enormous financial challenges facing small distributors could convince more of their owners to exit the industry. “It’s beginning to dawn on the smaller distributors that their [lives] will be difficult operating independently,” Eberhard says. “That could lead to greater availability of assets for sale, but they would be relatively small.”
Another significant deal in the past year was the exit of Brenntag’s former private equity owners last July, leaving Brenntag a 100% publicly traded company. Brachem Acquisition sold its remaining 13.7% stake in Brenntag via a placement of shares with institutional investors on the Frankfurt Stock Exchange, a transaction valued at €611 million. Brenntag originally became a listed company in 2010 when a 30% stake was floated in an initial public offering.
The change in ownership structure to a 100% free-floating company has not had a major effect on Brenntag’s operations, Holland says. “It doesn’t affect the day-to-day management of the company,” he says. “Some of our previous investors were able to participate further and gain additional shares in the company, and we have some new investors and, as a result, a broader shareholder base.”
The only other publicly traded distributor is DKSH Performance Materials following an IPO by its parent company DKSH (Zurich) in March 2012. DKSH’s free float increased from 35% to 40% last month through a share placement.
Univar’s main shareholders—private equity firms CVC Capital Partners and Clayton, Dubilier & Rice, each holding 42.5% of the company—earlier stated their commitment to an eventual IPO for Univar.
Analysts speculate that Nexeo Solutions (The Woodlands, TX) may seek to make a major acquisition in chemical distribution in Europe. Nexeo is one of the five biggest distributors worldwide with its main activities in North America. The company has an important polymer distribution business in Europe, but it does not have a significant presence there in chemicals. Nexeo is owned by private equity firm TPG Capital.
Distributors also continue to grow through capital investments. Hugo Häffner Group is building a 12,000-sq meter warehouse for completion by April 2014 at Marbach, Germany. The facility will store ingredients for cosmetics, pharmaceuticals, food, and feed. It will be the company’s third warehouse site in Germany.
Distributors, meanwhile, are looking ahead with a degree of caution, based on the assumption that there will not be a major recovery in Europe this year. “It is clear that this year will present very similar challenges to 2012,” Holland says.
Brenntag continues to forecast growth in the company’s main performance indicators for its worldwide business in 2013. “We expect to post growth in North [America] and South America, and Asia/Pacific, and we expect Europe to be the same as or slightly ahead of last year,” Holland says. “In Europe, the principal challenge in 2013 is to achieve organic growth in very challenging markets. It is clear that the northern European countries have a more positive outlook, but it remains a significantly more challenging environment in southern Europe.”
The current quarter could be crucial to the outcome of the whole year, analysts say. “A lot depends on the second quarter and on developments in some of the consumer sectors that have been weaker so far, such as construction,” Eberhard says. “Distributors are hoping for a solid second quarter. But it could still slide later in the year.”
Some distributors do not foresee conditions getting any better until year-end. “We expect a slight improvement in the fourth quarter of 2013 and a better year in 2014,” Nordmann says. “But the euro crisis will continue to burden our industry for some years to come and will also affect our colleagues in Eastern Europe. Distributors will need to be financially very stable and have ample facilities for investment in hardware and human resources.”
“Generally, the conditions will not be easier for distributors,” Kuck says. “Uncertainty in the markets, caused by the economic crisis in some European countries, will persist. The coming years could be difficult, especially for segments such as the automotive industry. But, considering our good results in the first quarter, Biesterfeld is cautiously optimistic for 2013.”
Proff expects a 5–10% decrease in volumes in Germany this year compared with 2012, and a 0–5% decrease in volumes for Europe as a whole.
With little or no growth on the immediate horizon, Europe’s distributors are focusing more and more on internal measures to improve their competitiveness and resilience. “The level of anxiety is going up, particularly on the industrial chemicals side,” Eberhard says. “The mood is not about growth; it’s more about restructuring. Distributors will watch their costs and not do anything growth oriented unless there’s a quick return. They’re cautious and keeping a watchful eye on all developments.”