Stocks get cheap for a reason -- and in the case of Berkshire Hathaway holdings Celanese (CE 0.85%) and UPS (UPS 0.14%) I think that reason comes down to fear. The market is worried about both companies' near-term prospects in 2023. However, if you can look beyond the potential for bad news in the near term, both stocks look like excellent long-term values. Here's why.
Celanese, a chemicals stock to buy
There are two interconnected things the market is worrying about with Celanese right now. The first is the company's earnings outlook in 2023, and the second is that Celanese completed an $11 billion acquisition of DuPont's former mobility and materials business in late 2022. Loading up on debt to make an acquisition just as the economy is slowing is not usually good news. Moreover, the sector relies on economic growth for demand for its end products.
Celanese is not a household name, even though its products are found in most households. It's a leading producer of engineered polymers and acetyl products -- intermediate chemicals used in a wide range of applications including consumer products, paints, automotives, food & beverages, construction products, and textiles. The broad exposure means its sales will always rely on economic growth and consequent demand for intermediate chemicals and materials.
As for the earnings outlook, Celanese could be under margin pressure from a potential fall in chemical prices and ongoing raw material inflation, notably from energy.
That said, it's important to keep some valuation perspective here. Wall Street analysts have Celanese generating $1.3 billion, $1.5 billion, and $1.8 billion in free cash flow from 2023 to 2025. Given the current market cap of $11.8 billion, those figures make Celanese look very cheap.
Moreover, suppose you conservatively prefer to compare FCF to enterprise value, or EV (market cap plus net debt), and use the market's estimate of $12.2 billion for net debt at the end of 2023. In that case, Celanese will generate 5.5% of its EV in FCF in 2023.
Meanwhile, Celanese's management believes the mobility and materials acquisition (which is complementary to Celanese's core chemicals operations) will generate $500 million in synergies and result in a doubling of its FCF over the next five years.
All told, while the near-term outlook is uncertain, Celanese's valuation can support some potentially bad news, and the long-term potential for growth is considerable. If you want to invest patiently, just like Warren Buffett, Celanese is a useful option, and its 2.6% dividend yield provides decent income.
UPS's underlying growth is excellent
The package delivery giant currently trades at less than 15 times earnings and a price-to-FCF multiple of less than 18. Those are good valuations for a company with good long-term growth prospects. However, what the market is concerned about is the prospect of declining earnings and FCF in 2023. The reason comes down to slowing economic growth negatively impacting delivery volumes and a natural correction from a few years of solid growth.
As you can see below, UPS's operating profit and FCF boomed in 2021 and 2022 and are set to decline in 2023. In a nutshell, UPS benefited from the surge in demand created by the stay-at-home measures imposed on the public and the subsequent boom in e-commerce and other deliveries needed to keep the economy going.
In addition, UPS has fundamentally restructured its businesses through its transformational strategy to focus on key end markets like small and medium-sized businesses (SMB) and healthcare. The strategy came at exactly the right time, and UPS has largely exceeded its expectations and hit its 2023 targets a year earlier than planned.
Data source: marketscreener.com Wall Street analyst consensus estimates.
Of course, if you want to focus on the negative, UPS's earnings/FCF are declining. On the other hand, this year is likely to prove a trough year (or at least that's what Wall Street analysts think), and the company should return to growth in 2024. It will take time to return to the 2022 levels of FCF. However, note that the earnings/FCF expected in 2024 and onwards are still significantly higher than in 2019. Moreover, the "trough" year of 2023 would still (according to these estimates) result in a price-to-FCF multiple of slightly less than 20 times FCF.
In a nutshell, UPS's transformation has worked, and its valuation -- whether you look at 2022 earnings or estimates for 2023 and beyond -- makes it a very attractive stock for investors.
