Trinseo's Dip: Has Something Changed or is it Just a Down Cycle?

Key Points

• Trinseo is trading at its lowest price per share since 2014; the losing track record comes amid the latest cyclical downturn in the company's product demand. 
• The latest blow to investor morale comes from a multi-million dollar loss stemming from non-core activities; some bulls may find hope that clearing these losses and returning to core operations will aid the stock's valuation. 
• The volume declines across products are industry-related, as other names suffer from similar symptoms. 
• Analysts expect a more than double upside potential in this stock, as management turnaround initiatives could more than offset the effects of a down cycle. 

Shares of Trinseo NYSE: TSE have suffered a bearish spell since their initial decline in March 2021, where the stock traded at nearly $76 per share. Today, after an 83.5% decline two and a quarter years later, the company faces a tipping point where management must step up and define itself as a turnaround story or face investor backlash.

Now that the company has reported its second consecutive quarterly loss, and its management has failed to disclose information on a faulty facility that it recently acquired, investors with renewed risk appetites could gain exposure to a newborn cycle.

Despite management outlooks preparing investors for an even darker finish to 2023, it would be beneficial to dissect where exactly these losses are stemming from in an attempt to put together a more constructive image of the future. Moreover, trust and sentiment over the faulty Pennsylvania facility are undergoing remediation as Trinseo looks to increase its ESG scores through new partnerships.

Finally, from a financial standpoint, the business is also implementing new initiatives to increase its cash flow position, which will test long-term investor commitments. After all, analysts still stand by their view of a more than doubling potential in this stock. 

The Quarter Drawdowns 

Trinseo announced via its press release a worrisome start to the year, as first quarter 2023 net sales contracted by 28.2% to finish the period at $996 million. Management attributes these declines to lower volumes across global markets, increased costs, and an ill-timed natural gas hedge position. In addition, engineered Materials, a segment that provides solutions to consumer needs within electronics, building construction, and wellness applications, saw a 30% revenue decline.

What is more important to note in this segment is the $10 million loss from natural gas hedging, a losing activity expected to deliver further losses through the fourth quarter of 2023, accruing a total loss of $9 million per quarter. 

Some bulls may find hope in perspective, noting that these natural gas hedging losses are a non-core item in the business that is out of management's control as the commodity's volatility peaks and troughs in the market. What is more important is the core operations of the business, especially what the administration is taking responsibility and action for.

Even though net income (which includes the negative impact of hedging) posted a $49 million loss, free cash flow provided a favorable $24 million position to shareholders. Furthermore, it looks like management is beginning to implement a certain level of restructuring in the company, as it disposed of a Mexican facility, "Matamoros," for a $19 valuation expected to close during the second quarter. 

Cycle Rebound

Considering that Trinseo's customers are mostly - if not all - cyclical by nature, it would be expected that sales also suffer from a certain level of cyclicality. European sales declined by 22% annually as the region's building and construction activity deteriorated. In the North American area, sales contracted by 14% due to a similar decline in construction activities and consumer durables, a trend reiterated by similar decreases in 3M NYSE: MMM. A 20% decline in APAC sales saw no difference, as they were also rooted in slowing demand for consumer electronics and durables. 

Just as Trinseo stock rose to its 2021 high due to increased activity across these segments, stock prices now see the opposite end of the cycle. This otherwise ordinary event is amplified by disappointed participants who kept previous performance as a benchmark for future business. Just as these regions and products posed as drivers of a dire quarter, they will be the same forces that will bring renewed growth and stability to Trinseo's financials upon recovery. Management, however, is standing to act immediately.

Trinseo analyst ratings see a 129% upside from today's prices, which may result from the following dynamics. Within management's presentation, clearer pathways are laid out to achieve a better second half to 2023. First, a more than $100 million cash improvement is expected to come from working capital reductions, capital expenditure deferments, and a dividend reduction on top of the Mexican facility sale. While a dividend reduction will surely upset anxious investors, it will be the ultimate loyalty test as Trinseo looks to turn its position around.

Management is taking further action to elevate the company's public persona, as it initiates a partnership with a polycarbonate dissolution facility in the Netherlands. This new facility will enable effective end-of-life plastic recycling, which may act as a potential boost to margins in the business.