Albemarle Corp. (ALB) would appear at first glance to be a casualty of the COVID-19 pandemic. However, the truth is that this chemical firm’s prospects have been delayed, not defeated. Consequently, the short-term issue that the pandemic presents provides an opportunity for long-term investors to start a position here.
The basis for wanting to start a position with the Charlotte, North Carolina-based chemical company is the future of automobiles – the electric car. Such cars will require batteries, naturally, and as the leader in the lithium mining sector, Albemarle Corp. is poised to benefit from car makers such as Toyota (TM) scaling up their production of electric vehicles. After all, sales of electric vehicles are set to exceed sales of internal-combustion-engine vehicles by 2030, by which time electric vehicles are expected to hold 51% of market share.
As the market leader in the lithium mining sector, the 132-year old Albemarle Corp. is poised to benefit from the growing electric vehicle market. Image provided by Arkel Constructors.
Progress in this direction, however, has been stalled by COVID-19. As the brakes have been slammed on the global economy, funding for lithium projects has dwindled. As Vincent Mascolo, Ironridge Resources’ chief executive, put it:
We don’t want to spend a great deal on lithium at the moment…Investor appetite is not there.
Albemarle has made no pretence that COVID-19 will have no effect on its operations in the short term. Expansion projects in Australia and Chile have been reined in, and ahead of Q1 2020 stated that Q1 in China would be weak due to coronavirus. Much of Albemarle’s processing facilities are located in China, and 13% of Albermarle’s revenue is derived from China, so this was far from ideal. And while Q1 2020 revenue of $738.85 million missed estimates by $30.26 million, earnings per share of $1.10 for the same quarter beat estimates by $0.16. Nonetheless, Albemarle has issued downside guidance for Q2 due to COVID-19, and Goldman Sachs (NYSE:GS) has downgraded the stock from Buy to Neutral citing reduced sales of electric vehicles because of COVID-19.
However, the issue affecting Albemarle is short term. While tangible progress on a vaccine may take a year (at least), the likelihood that the COVID-19 pandemic will be something that will affect us for many years is remote – despite how things seem at present. A longer-term concern – the environment – will make electric vehicles a growing trend which Albemarle will capitalize on for the long term.
It is important to note that, in addition to lithium (which comprises 37% of 2019 revenue), Albemarle also profits from its bromide specialties (28% of 2019 revenue) and catalysts (29% of 2019 revenue) sectors. Lithium is the growth sector by a considerable distance, reporting 20% of industry growth in 2019 against 2% for bromide specialties and 3% for catalysts in the same time frame, but all three have contributed greatly to Albemarle’s revenue and net income figures that the firm has reported over the past five years.
|Year||Revenue ($)||Net Income ($)|
|2015||2.83 billion||302.43 million|
|2016||2.68 billion||441.54 million|
|2017||3.07 billion||54.85 million|
|2018||3.37 billion||693.56 million|
|2019||3.59 billion||533.23 million|
Figures collated from annual reports available on Albemarle Corp.’s investor relations page.
Albemarle’s short-term profitability is of course going to be stymied by COVID-19, and its reported free cash flow of -$59.48 million demonstrates that. Furthermore, because of the current economic climate, its impressive twenty-six-year record of consecutively rising dividends may see a freeze or a cut, even with a low payout ratio of 30.80% and an operating margin of 18.16%.
That said, Albemarle is certainly strong enough from a fiscal perspective to weather the COVID-19 storm. Its long-term debt of $3.22 billion is outpaced by a net worth of $4.04 billion, and its total current liabilities of $1.19 billion are offset by total current assets of $2.16 billion, cash-on-hand worth $553.23 million and total accounts receivable of $592.47 million. Thus, projected earnings-per-share growth over the next five years of 15.00% may not be fanciful, and nor is the idea of Albemarle as a prospective investment.
At close of market on 05/27/2020, Albemarle Corp. traded at $75.04 per share. Chart generated by Finviz.
At close of market on 05/27/2020, Albemarle Corp. traded at a share price of $75.04 with a price-to-earnings ratio of 15.74 based on earnings per share of $4.77. The current P/E is lower than the five-year average P/E of 36.64, and the current dividend yield of 2.05% is higher than the five-year average dividend yield of 1.65%. This suggests that Albemarle Corp. is trading at a discount to fair value, prompting the question of what fair value for Albemarle Corp. is.
To determine fair value, I will first divide the current P/E by the historical market average of 15 to get a valuation ratio of 1.05 (15.74/15 = 1.05) and divide the current share price by this valuation ratio to get a first estimate for fair value of $71.47 (75.04/1.05 = 71.47). Then I will divide the current P/E by the five-year average P/E to get a valuation ratio of 0.43 (15.74/36.64 = 0.43) and divide the current share price by this valuation ratio to get a second estimate for fair value of $174.51 (75.04/0.43 = 174.51).
Next, I will divide the five-year average dividend yield by the current dividend yield to get a valuation ratio of 0.81 (1.65/2.05 = 0.81) and divide the current share price by this valuation ratio to get a third estimate for fair value of $92.64 (75.04/0.81 = 92.64). Finally, I will average out these three estimates for fair value to get a final estimate for fair value of $112.87 (71.47+174.51+92.64/3 = 112.87). On the basis of this estimate, the stock is undervalued by 34% at present.
In summary, while investors are bearish on lithium stocks such as Albemarle due to how COVID-19 has impacted the market, I view this impact as short term and Albemarle’s long-term prospects as excellent. The trend towards electric vehicles and resultant demand for lithium batteries have been delayed by COVID-19, not destroyed. Consequently, Albemarle is a buy at a 34% discount to fair value.
Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in ALB over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.