Lanxess: hands-off investmentPremium
Berkshire Hathaway likes the German group’s strategy just as it is
In chemistry, a catalyst is an agent that facilitates a reaction without actually participating in it. Berkshire Hathaway’s acquisition of a stake in Lanxess is the financial equivalent.
The 3 per cent stake in Lanxess revealed on Monday confers no management influence and is worth €185m, small beer by Berkshire standards. But news of the purchase, via insurer General Re, still pushed the chemical group’s shares up 9 per cent by Tuesday.
At first glance, the German company does not look like typical Buffett fayre. It operates in a cyclical industry selling intermediate products to other manufacturers, rather than the consumer-facing industries Mr Buffett prefers. It has no obvious defensive “moat” to insulate it from competition. Returns on capital, Mr Buffett’s preferred metric for evaluating companies, have been in single digits for the past three years.
Berkshire knows parts of the company, having held Great Lakes Chemical Corp stock in the early noughties. Great Lakes merged to form Chemtura, which Lanxess acquired in April. That transaction was pivotal. Combined with its partial retreat from synthetic rubber, the deal took Lanxess away from cyclical sectors and into higher-margin niches with lower capital intensity, such as fire retardants. By 2018, just a fifth of revenues will come from sectors deemed heavily cyclical.
Margins should improve, reflecting the business mix. The Chemtura purchase will push debt up, until rising cash flow reduces it. Better profitability and lower borrowing will automatically boost returns on capital.
Lanxess shares are up 60 per cent in a year, pushing its enterprise value to over seven times earnings before interest, tax, depreciation and amortisation. That is about what Berkshire paid for Lubrizol in 2011. Mr Buffett told that company’s chief executive to continue with his existing strategy. His message to Lanxess is likely to be the same.