This report is published by Research Dynamics, an independent research boutique


Diversification: Key to profitable growth

The overarching theme of diversification continues to be the focus of the group to grow further. The Investor Day presentation at CPH's Chemistry division in Rüti, Switzerland, highlighted CPH's successful journey towards becoming a geographically diversified group from a Swiss-based paper manufacturer. This is evident from the fact that Chemistry and Packaging together comprised 44% of 2018 total sales (2013: 36%). Similarly, CPH continues to diversify its geographical footprints, improving its presence in non-European countries (22% in 2018 vs. 16% in 2013). This complements the group's strategy of maintaining cost leadership through diversifying its production base away from the Swiss Franc which will act as a natural hedge (proportion of total costs in CHF: 40% in 2018 vs. 70% in 2013).

Chemistry division: Innovation and integration
Revenue from the Chemistry division - which was the focus of the Investor Day presentation and facility tour - has grown at a CAGR of 6.5% during 2013-2018, contributing 15% of total sales in 2018 (2013: 12%). Even more impressive was the turnaround in profitability as it achieved EBIT margin of 7.7% in 2018 from a negative of 8.9% in 2013. The growth in the Chemistry division reflected the strategic, organisational and operational turnaround, together with a conducive economic environment and an increase in the demand for molecular sieves particularly from purifying industries and pure medical oxygen.

The Chemistry division over the past five years has thus consequently and successfully pursued its strategic repositioning, which included the transfer of production from the historic Uetikon site and closure thereof. A first building block in this was the acquisition and integration of ALSIO in China in 2015-16 in order to move and expand the molecular sieves business and gain increased access to Asian markets. In this connection, another important step was the build-up of the Zeochem distribution centre in Shanghai. Furthermore, Zeochem in the fall of 2016 acquired industrial land in Zvornik, Bosnia and Herzegovina, where it built up a plant and to where it moved part of the production facilities from the Uetikon site. This allowed the Chemistry division to expand the reach of its products such as chromatography gel, zeolite powder and specialty zeolite businesses as well as to geographically diversify its footprint. In addition, according to the company, the capacity at the Louisville plant in the US has also been expanded with the commissioning of new installations in 2017 in order to meet the increasing demand for lithium products. As a further part of the strategic repositioning, the Chemistry division in the summer of 2018 also transferred its global head office and deuterated products manufacturing from the Uetikon site to Rüti with increased capacity. Moreover, the division simplified the organizational structure in Switzerland through the merger of smaller subsidiaries previously domiciled in Uetikon into one consolidated company Zeochem AG. The company also integrated the business activities of Armar, its long-term and established business partner acquired in November 2017, to strengthen the division's deuterated products segment further and grow its high margin businesses.

Deuterated products, part of the Specialties segment under the Chemistry division, cater to a niche segment with application in high potential markets such as NMR (laboratory) analysis, electronics (OLEDs) and the pharmaceuticals (active pharmaceutical ingredients, APIs) segment. The production of deuterated products at the Rüti site has already begun in the last quarter of 2018 and should have a positive impact on 1H2019 figures.

With all the strategic initiatives and steps taken to expand capacity and streamline the distribution and supply chain, together with the healthy growth of the underlying sub-sectors, we believe that CPH's Chemistry division should witness healthy growth in the coming years.

Valuation
CPH continues to focus on its strategy to diversify its geographical revenue base, to reduce its vulnerability related to currency volatility, lower its dependency on the Paper division and invest in the faster growing Packaging and Chemistry divisions. Based on the successful execution of its strategic initiatives so far, we believe the Group is on track to meet its objectives in the mid-to-long term. Even though the contribution of the Paper division to total revenues has remained high, the company managed to grow its market share in the domestic and European markets. Our DCF based target price of CHF 100.7 per share (unchanged), implies an upside of 21.3% from the current level. We have not made any changes in our estimates currently, as we await the release of 1H19 results on 19 July 2019.