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3 Chemical Specialty Stocks to Watch From a Challenging Industry

The Zacks Chemicals Specialty industry is hamstrung by demand slowdown, partly due to COVID-related impacts in China and the slowdown in Europe. Margins of companies in this space also remain under pressure due to elevated supply chain, logistics and input costs.

Industry players like Ashland Inc. ASH, Quaker Chemical Corporation KWR and Flexible Solutions International Inc. FSI are banking on strategic measures, including operating cost reductions to tide over a still-challenging environment.


About the Industry

The Zacks Chemicals Specialty industry consists of manufacturers of specialty chemical products for a host of end-use markets such as textile, paper, automotive, electronics, personal care, energy, construction, food & beverages and agriculture. These chemicals (including catalysts, surfactants, specialty polymers, coating additives, pesticides and oilfield chemicals) are used based on their performance and have a specific purpose. Specialty chemicals can be single molecules or a combination of molecules referred to as formulations, and they provide a vast range of effects on which various industries rely upon. Their compositions significantly influence the performance of the finished products. Specialty chemicals have applications in the manufacturing process of a vast range of products, including paints and coatings, cosmetics, petroleum products, inks and plastics.

What's Shaping the Future of the Chemical Specialty Industry?

Headwinds From Demand Slowdown: Companies in the chemical specialty space face headwinds from customer destocking and softness in building and construction and industrial end markets, especially in Europe and China, due to the economic slowdown. New lockdowns are taking a significant toll on China’s economy. Moreover, the ongoing geopolitical tension, elevated energy costs and high inflation have resulted in a decline in demand in Europe. A weak automotive market in China is also a concern. The demand slowdown is expected to weigh on volumes of chemical specialty companies over the short term.

Input Cost Pressure a Concern: Specialty chemical makers are facing headwinds from raw material cost inflation, and supply-chain and freight transportation disruptions. The closure of a large swath of factories to stem the spread of the COVID-19 outbreak disrupted the global supply chain. This has affected the availability of key raw materials for the chemical specialty industry. Some of the companies are also facing challenges from elevated logistics and labor costs. The shipping bottlenecks have led to a surge in freight costs. The Russia-Ukraine conflict and new lockdowns in China following a resurgence in coronavirus infections have increased the pressure on the global supply chain. The lingering impacts of supply chain and logistic bottlenecks are expected to continue over the short haul and exert pressure on the margins of chemical specialty companies.

Strategic Actions to Aid Results: The companies in this space are executing a raft of self-help measures — including cost-cutting and productivity improvement, expansion into high-growth markets, restructuring, operational efficiency improvement, and actions to strengthen the balance sheet and boost cash flows — in a bid to stay afloat amid the prevailing headwinds. Notably, the industry participants are aggressively implementing actions to cut costs. The measures are likely to help the companies sail through the ongoing challenges.

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Zacks Industry Rank Indicates Bleak Prospects

The Zacks Chemicals Specialty industry is part of the broader Zacks Basic Materials sector. It carries a Zacks Industry Rank #222, which places it in the bottom 12% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates a gloomy near term. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

Despite the industry’s downbeat near-term prospects, we will present a few stocks worth considering for your portfolio. But before that, it’s worth taking a look at the industry’s stock market performance and current valuation.

Industry Underperforms Sector and S&P 500

The Zacks Chemicals Specialty industry has underperformed both the Zacks S&P 500 composite and the broader Zacks Basic Materials sector over the past year.

The industry has declined 16.6% over this period compared with the S&P 500’s decline of 9.2% and the broader sector’s decrease of 2.5%.

 

One-Year Price Performance



Industry's Current Valuation

On the basis of the trailing 12-month enterprise value-to EBITDA (EV/EBITDA) ratio, which is a commonly used multiple for valuing chemical stocks, the industry is currently trading at 14.36X, above the S&P 500’s 12.17X and above the sector’s 8.14X.

Over the past five years, the industry has traded as high as 18.61X, as low as 8.34X, with a median of 13.45X, as the chart below shows.

 

Enterprise Value/EBITDA (EV/EBITDA) Ratio

 

 

Enterprise Value/EBITDA (EV/EBITDA) Ratio



3 Chemical Specialty Stocks to Keep a Close Eye on

Quaker Chemical: Pennsylvania-based Quaker Chemical makes and markets a range of formulated specialty chemical products for various heavy industrial and manufacturing applications. The acquisition of the operating divisions of Norman Hay plc and the Coral Chemical buyout is expected to drive its top line. It is also expected to benefit from cost-saving and pricing actions, integration synergies, new business wins, improvement in product margins, and healthy cash flows.

Quaker Chemical, carrying a Zacks Rank #2 (Buy), has an expected earnings growth rate of 19.4% for 2023. The Zacks Consensus Estimate for 2023 earnings of KWR has been revised 0.4% upward over the past 60 days. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

 

Price and Consensus: KWR

 

 

Ashland: Delaware-based Ashland is a leading specialty chemicals company serving a vast range of consumer and industrial markets. It is benefiting from strong demand in its end markets. Its industrial businesses are witnessing strong demand recovery. Ashland is seeing higher demand across core personal-care end markets. The company is also gaining from contributions from the Schulke & Mayr acquisition. Ashland’s restructuring actions have also provided it with a profitable, high-margin portfolio focused on high-quality markets and better positioned it for future growth. The company’s pricing and mix improvement actions are also helping it to counter the current inflation.

Ashland, carrying a Zacks Rank #3 (Hold), has an expected earnings growth rate of 11.6% for fiscal 2023. The Zacks Consensus Estimate for earnings for fiscal 2023 for ASH has been revised 4.3% upward over the past 60 days.

Price and Consensus: ASH

 

 

Flexible Solutions: Canada-based Flexible Solutions specializes in biodegradable, water-soluble products as well as energy and water conservation products for drinking water, agriculture, industrial markets. The company remains committed to explore new opportunities in applications such as detergent, water treatment, oil field extraction and agriculture to further grow sales in the NanoChem division, which accounts for a significant portion of the company’s revenues. FSI's cash resources are also expected to be adequate to meet its cash flow requirements and future commitments.

Flexible Solutions, carrying a Zacks Rank #3, has an expected earnings growth rate of 22.7% for 2023. FSI also has a trailing four-quarter earnings surprise of roughly 52.7%, on average.

 

Price and Consensus: FSI



Want the latest recommendations from Zacks Investment Research? Today, you can download 7 Best Stocks for the Next 30 Days. Click to get this free report

Ashland Inc. (ASH) : Free Stock Analysis Report

Quaker Houghton (KWR) : Free Stock Analysis Report

Flexible Solutions International Inc. (FSI) : Free Stock Analysis Report

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