Extracting capital from commodities
Although Mexico’s economy is now less reliant on commodity prices than in the past, revenues from the sector do still make up a sizable proportion of the country’s GDP. We speak to Rodrigo Guzman, CFO of Mexichem about future projects and funding opportunities in the new economic realities.
What is your view on the Mexican economic outlook?
In general, the Mexican economy is the most resilient economy in LatAm, and the evolution of the economy over the years has contributed to the country’s current standing.
In the past, Mexico was dependent on oil for about 80% of its revenues, although now it is closer to 30%. The decline of Mexico’s dependence of oil comes mainly from NAFTA and other trade relationships with various nations.
These trade deals have brought investment, and are partly why the Mexican peso is so volatile. Investors hedge their positions in LatAm with the peso, and this increases the volatility in the exchange rate, which has been at an elevated level for the last few years.
For the coming years, Mexico’s economy will be the most attractive in the region. Furthermore, reforms such as those in the energy sector are further enhancing Mexico’s standing.
What is your outlook on the petrochemical sector in Mexico?
As oil prices fall, profits in commodity-related industries fall, and companies connected to such industries begin to struggle. The energy and petrochemical industries are no exception.
Consolidation in the energy sector has been high over the past couple of years, and not only because certain companies are buying up others. Many smaller companies connected to the sector have failed.
We are very exposed to prices in the oil industry, especially in the vinyl business of the company.
The vinyl business is mainly a commodity business, after which cost reduction and efficiency are the name of the game. As a result, we decided three years ago to hedge our position in order to reduce our exposure to the oil industry and reduce our PVC cost of production.
This was achieved through being linked to the shale gas industry, as it is the cheapest way to produce the ingredients we need for the creation of PVC. To this end, we are constructing an ethylene cracker (petrochemical plant) in Texas.
To what extent have global commodity prices affect operations at Mexichem? Has there been a significant impact or not?
Mexichem is vertically integrated. So we are involved in every step of the business, from the extraction of salt to the added value products to distributors and retailers.
In the commodity part of the company, lower prices have been affecting our markets. However, we are recovering our margins in the added value products of the business.
What are the company’s short-term growth plans?
At present we have been very strict on capex as we are building the cracker in Texas. We are doing so because we want to work independently from third parties.
Over the last few years we have been investing about US$625 million in the cracker, which has significantly affected our capex and cash flow. We want to close that investment at the end of the year. The cracker should then begin producing in the first quarter of next year, at which point the pressure on our capex and cash flow will be significantly lower.
We will then be able to focus on further acquisitions or integration within the company. Our focus now will be on our organic growth model, levereging our worldwide infrastructure to push into the markets our fill our portfolio of products.
In the M&A side our focus will be on specialty products, which means products that have higher margins and increase our profitability. Both initiatives tend to increase the returns of the company and its overall profitability.
Our organic growth model is based on the fact that, for example, if we want to sell our PVC products in Brazil, we will use our end market infrastructure there to sell our products. We therefore will grow in size organically. We are currently creating strategies to introduce products that we already have in our portfolio, but that we do not sell in some of the countries in which we are present.
To what extent does the company rely on external funding versus balance sheet funding? How is this likely to change in the near future?
We are not able to increase our leverage by more than 2x net debt to EBITDA. When we started the cracker project we were nearing our limit, so we cannot currently fund any expenditure with debt.
To finance the cracker, we extracted funds from working capital of around US$625 million, and invested the cash in our cracker. This should then generate a higher IRR than the one we obtained in the past with SKU's that we eliminated form our catalogues than we produce and sell at break-even prices or with losses.
What are the company’s funding requirements over the near term?
Once we have closed the investment in the cracker we will begin to look for other opportunities globally. Each acquisition or investment should be analysed in order to find the best way of funding it. For the moment however, we don't have any need for funds.
How does local funding compare to its dollar equivalent? What is the outlook for peso funding in the near term?
The functional currency of Mexichem is the US dollar. Over 60% of our company operates through dollars. Roughly another 15-25% is euro related and the remainder is made up from a basket of currencies including the pound sterling, the Brazilian real and the Colombian and Mexican pesos amongst other currencies.
The currency that we use depends on the type of investment or project in which we are going to work, as well as the region in which we will operate. This allows us to have a natural hedge on certain currencies.
We are normally looking primarily for dollars, followed by euros. Our choice of currency after that depends on the operation we will be conducting.
What advice do you have to other borrowers looking to come to the markets? What risks should they be aware of?
In the commodity sector there will be a lot of opportunities to access the markets in the near future as we are at the bottom of the cycle, a fact the markets are aware of.
The markets will be considering how long we will remain at the bottom of this cycle, and as nobody knows how long we will be here many opportunities will be created, which investors are likely to take advantage of.
