Friday, December 20, 2019

A Current AIM Small Cap Equity Holding: Innospec (IOSP, $98.52): “Can Innospec Continue to Fuel its Growth?”

 Innospec (IOSP, $98.52): “Can Innospec Continue to Fuel its Growth?”
By: John Nick, AIM Student at Marquette University

Disclosure: The AIM Equity Fund currently holds this position. This article was written by myself, and it expresses my own opinions. I am not receiving compensation for it and I have no business relationship with any company whose stock is mentioned in this article.

Innospec Inc. (NYSE:IOSP) develops, blends and supplies fuel additives, oilfield chemicals, personal care, and specialty chemicals through the following segments: Fuel Specialties, Performance chemicals, Oilfield Services, and Octane Additives. The Fuel specialties segments supplies a variety of specialty chemical products that act as additives to fuel, distributing primarily to aviation and marine applications. The Performance chemicals segment provides technology-based solutions for customers’ processes or products focused in the personal care, agrochemical and mining industries.  The Oilfield Services segment develops and markets products to prevent loss of mud in drilling operations, chemical solutions for fracturing, stimulation and completion operations, and products for oil and gas production. The Octane Additives segment produces tetra ethyl lead for use in automotive gasoline and trading.

• IOSP recently reached its 52-week high (107.10 ion 11/06/19) as a result of historically high revenues in the third quarter of FY 19’. These revenues were primarily driven by Fuel Specialties and Oilfield Services.

• Eco-friendly initiatives including IMO continue to drive IOSP revenues and seem to offer vast potential for Innospec moving forward.

• Management recently announced an ex-dividend on the 13th of November incentivizing investors to purchase shares before the 18th in order to receive a $.50 dividend payable on the 29th of November.

Key points:

Management has focused on increasing gross margins while keeping performance strong in a struggling industry. The chemical product industry has steadily declined from 2014-19 at an annualized rate of -.4% and is expected to continue this shrinkage at a rate of -.3% over the next five years through 2024.  The primary reason for Innospec’s ability to fight these headwinds in a struggling industry is largely attributed to their diverse product portfolio. They have recently expanded upon this portfolio with their Drag Reducing Agents (DRAs) business.

IOSP has continued to capitalize on their diversified product portfolio through the most recent quarter by showing a 2% growth in third quarter sales despite a 13% decrease in Performance Chemicals sales by increasing sales in their Fuel Specialties and Oilfield Services segments by 7% and 17% respectively. Further, they have increased their operating income and EBITDA by 14% by increasing their margins. With this cash flow they have reduced debt to 22 million, a mere .1X EBITDA.  

IOSP has capitalized on the paradigm shift towards a more environmentally conscious society. Their Fuel Specialties and Oilfield Services segments have especially benefitted from this shift. For Fuel Specialties, the International Maritime Organization’s (IMO) initiative has been a primary driver of growth. The IMO is the UN’s body responsible for the safety and environmental impact of the shipping sector. Their 2020 initiative states that they will reduce the global sulfur cap to .5% by 2020, from a cap of 3.5% at the time of announcement. Innospec has a specialty in sulfur reduction and this has positioned them to benefit from these regulations.

What has the stock done lately?

Innospec released its quarter 3 earnings report on November 5, 2019 and hit its historic and 52 week high at $107.10 intraday on the 6th, closing at $100.31. Currently it is priced at $98.52 a share and shows stable pricing relative to its 52-week high about of month ago. 

Past Year Performance: 

IOSP has increased in value by more than 59% over the past year. This growth is incredible but the main question become: is this growth sustainable. It recently hit its record high and Innospec is aware that these immense growth rates are not consistently obtainable. However, investors are optimistic about Q4 earnings are believe stable growth will be within IOSP’s capabilities. Further, Debt has been substantially reduced over the past year and management enjoys rewarding shareholders by distributing excess cash towards dividends.

Source: FactSet

My Takeaway

Innospec’s strong performance in a struggling specialty chemical industry is certainly an impressive feat as well as a strong positive for shareholders. By leveraging their product portfolio diversification they are battling the cyclicality of the industry and should be able to see strong performance going forward. Further, IOSP shows constant hungry for growth as it has shifted its product portfolio into the increasingly popular Drag Reducing Agents (DRAs) space. They are building the infrastructure to mass produce and distribute DRAs and should be able to capitalize on this largely untapped market, realizing hefty returns on their top and bottom line. Additionally, their constant focus on environmentally friendly products positions them to benefit in today’s increasingly conscious social environment. This aspect of the company is especially exciting to me considering the consistent emphasis we put on ESG at Marquette.  I believe our position in this company is secure and that additional returns will be materialized.

Source: FactSet