Investing like Warren Buffett requires patience and a belief in the fundamental strength of the businesses you pick, even in the face of potentially negative short-term news. That's pretty much how investors should be looking at chemicals company Celanese (CE 0.97%) right now. The company has a lot of long-term growth potential, and its dividend, which yields 2.3% at the current share price, doesn't hurt either. And for those who like to follow Buffett's lead, note that Berkshire Hathaway has been buying the stock this year.
Introducing Celanese, a Berkshire Hathaway holding
Celanese stock is down 35% in 2022 and down 21% over the past three months. There's a reason for that. Demand for its products depends on industrial production, so when the going is good, economically speaking, market prices for its chemicals tend to soar. When a slowdown comes, though, they retreat.
Celanese describes itself as a "global producer of high performance engineered polymers." You probably won't have heard of it because it manufactures intermediate chemicals that are used in manufacturing a wide range of other products. It sells to a host of industries -- among them, automotive, industrial adhesives, consumer products, food and beverage, paints and coatings, and energy storage. Its principal competitors include BASF, Eastman, INEOS, and LyondellBasell.
Given that the stock currently trades at just six times estimated earnings for 2022, it's safe to say the market expects the elevated prices it has been receiving for its acetyl products to fall off of a cliff in response to slowing demand.
In fact, the consensus estimate among analysts is that its earnings before interest, taxates, depreciation, and amortization (EBITDA) will peak at $2.8 billion in 2022, then drop to $2.5 billion in 2023 and 2024. Obviously, there's a risk that those estimates could be overly optimistic given the deteriorating economic outlook.
Near-term risk, long-term opportunity
That said, Buffett isn't known for buying stocks for the short term, and there's a lot to like about Celanese and the ongoing development of its business. Here are three points to consider.
First, management's restructuring of the company -- including "rationalizing" less-productive plants and investing in technology -- has resulted in expanding gross margin and its earnings before interest and taxes (EBIT) margin over time.
Gross margin is simply profit after the cost of goods has been taken out -- a useful gauge of a company's pricing power -- while EBIT margin also takes out operating expenses, making it a good indicator of how well the company is run operationally. Consequently, its return on assets has improved. All of this has occurred even as its revenues have been volatile.
Data by YCharts
Second, Celanese's long-term margin and return on assets are likely to receive a boost from its investments to expand capacity in its lower-cost production plants. A good example is its Clear Lake plant. According to Celanese, it's the lowest-cost acetyl chain product plant in the world, and management plans to double capacity by the end of 2023.
Third, the company's $11 billion acquisition of DuPont's mobility and materials business gives management an opportunity to grow earnings. Given that the acquired businesses are expected to bring in an estimated $900 million in EBITDA in 2022, the deal values the acquisition at 12.2 times EBITDA. That's not exactly cheap. Moreover, the $450 million in synergies predicted by year four of the deal is around 4% of the deal value -- and a synergy figure of 5% is what is typically viewed as a "good" result for an acquisition. However, management believes it will lead to significant margin expansion and a doubling of its free cash flow in 2026.
As you can see below, Celanese's free cash flow and earnings per share easily cover its dividend -- the passive income it pays shareholders -- so there are plenty of opportunities for the company to grow its dividend, even during a slowdown.
Data by YCharts
A stock to buy
Celanese is undoubtedly an attractive stock, but taking on debt in order to make acquisitions when its markets are about to head into a cyclical downturn is a risky maneuver. There's potential for near-term disappointment here. That said, if you can close your eyes and ears to short-term bad news and follow Buffett into the stock for the long term, the upside potential is significant.
