Rhodia's Rebound

Earlier this year, Rhodia sold its custom pharmaceutical chemicals business to India's Shasun Chemicals & Drugs. As other diversified chemical firms have done, Rhodia was exiting a market that it spent top dollar to enter, only to find an overcrowded field of suppliers vying for an ever-shrinking pool of contract work from major drug firms.

For Paris-based Rhodia, however, the sale meant much more. Spun off from Rhône-Poulenc in 1998, Rhodia was plagued by missteps almost from the start, and one of the worst was the purchase of the pharmaceutical chemicals business in 2000 for $545 million. The sale closed a chapter in the troubled history of a company that by 2003 faced a potential bankruptcy. It was also the latest in a string of divestitures and other moves implemented by Chief Executive Officer Jean-Pierre Clamadieu, who took the helm at Rhodia that year after the forced resignation of Jean-Pierre Tirouflet.

Over the past three years, Clamadieu has worked to get the company back on track. In 2004, his management team, working in emergency mode, succeeded in maintaining sales at $6.6 billion while cutting net loss by 54% to roughly $775 million and reducing debt by 25% to $3.0 billion.

In 2005, however, new problems surfaced. Rhodia was accused by the Autorité des Marchés Financiers (AMF), France's stock market regulator, of improper financial disclosures dating back to 2000. That was a period during which France's finance minister, Thierry Breton, was a board director and the chairman of Rhodia's auditing committee.

A separate criminal probe into possible accounting irregularities and insider trading also surfaced, and minority shareholders, led by French shareholder rights activist Colette Neuville, attempted to force the company's top management out.

The bad news, all stemming from Tirouflet's tenure, has tended to obscure Clamadieu's progress. In fact, Rhodia showed real momentum toward recovery in 2005. The firm met a key goal of bringing the ratio of earnings before interest, taxes, depreciation, and amortization to sales—a figure known as the EBITDA margin—up to 11.7%, due primarily to price increases and cost reductions. The company reduced debt by 11.3%, to $2.7 billion, and reported a net loss of $757 million, a slight improvement over 2004.

Rhodia also made headway in focusing on its strongest businesses by off-loading operations such as latex and industrial phosphates. The process culminated with the sale of the custom pharmaceutical chemicals business, called Pharma Solutions.

Though the turnaround is not complete, Clamadieu can claim that it is well under way. Following the Pharma Solutions sale, Rhodia restructured into seven business units that, in turn, are grouped into three enterprises: performance materials, functional chemicals, and organics and services, the latter including a new program to generate revenue through the sale of emissions credits in Brazil and South Korea under the Kyoto protocol on climate change.

With the restructuring, Rhodia finds itself considerably downsized—it had 17 business units when Clamadieu took over-and focused on highly competitive specialty markets. Clamadieu is confident that the company is on its way to profitability. He insists it will meet his goal of a 15% EBITDA margin in 2008, just as it hit its 2006 target of 13% earlier this year. Of its business units, he notes, only polyamide, or nylon, is heavily cyclical, and he expects that even this business will be buffered in the next down cycle by its focus on growth markets such as automotive.

Most important for now, Rhodia claims to be out of emergency mode. "I think the financial crisis episode ended at the end of 2005," Clamadieu says. This is a significant accomplishment, he says, given that the firm was close to defaulting on bank loans in 2003. "I guess entering into a liquidity crisis came as a surprise and a shock to everybody, because Rhodia is perceived as the successor of Rhône-Poulenc in the chemical business," he says. "And Rhône-Poulenc was seen as an unsinkable ship."

The first move by Clamadieu in 2003 was a high-yield debt issue and a series of negotiations with banks. "By June of 2004, the liquidity issue was behind us," he says. From there, he implemented a two-pronged strategy of refocusing the portfolio and reducing fixed costs.

"I was convinced from the first that this company has some quite strong business positions," Clamadieu says. Most significantly, Rhodia is number two worldwide in polyamide and number three in engineering plastics and acetate for cigarette filters. "If we were able to refocus on these businesses, Rhodia should be able to generate a level of profitability in line with our competitors. In fact, I believe it can be better than the average profitability of our competitors," he says.

Rhodia sold several small businesses that were not performing well and others, such as food phosphates, that were performing well. "Some of these were businesses in good condition, but we didn't have the cards to play as worldwide leaders," Clamadieu says. In the case of food ingredients, for example, he saw specialty food companies such as Danisco leading the sector.

The Pharma Solutions sale was a major step, he says. The company had invested significant money and effort to advance the business, recently setting up a U.S. operation in space rented from DuPont in Deepwater, N.J. "Once you have spent a lot of money trying to build a position, it is hard to say, 'Okay, I am ready to sell it at any price,' " Clamadieu acknowledges. "But by mid-2005, I became convinced that our efforts were not bearing fruit."

That sale, for an undisclosed sum, was followed by internal restructuring. Business units are now aligned with products rather than markets. "I am absolutely convinced that, if you are going to manage a chemical business, the prime line of organization needs to be product and technology," he says. "Then you can add, if it makes sense, another layer of market-facing management."

For the most part, however, Clamadieu has been taking away the layers of management that had piled up in Rhodia's early years. "We did not focus enough on our fixed cost base in the first years of Rhodia," he says. "The organization became very complex. We wanted to promote cross-fertilization, which is good, and we wanted to develop very sophisticated business processes, which is also good. But at the end of the day, we had quite a few layers of organization."

Clamadieu says Rhodia is in line to meet his objective of eliminating $400 million in costs by the end of 2006. This has meant a significant downsizing of staff. At the company's headquarters in Paris, staffing has been cut to 85 from about 200. Across France, the company has cut about 2,000 positions, reducing the number of employees to 7,000. "We've done it without a major crisis," he says. "We talked to the union and told them it was absolutely essential. It is never a pleasant experience, but we have done it."

Much of the work was done during a recovery in markets for most of Rhodia's products, Clamadieu notes. The firm began to raise prices in the middle of 2004, and last year, it was able to pass along price hikes in excess of its increased raw material costs.

Clamadieu says he arrived at the 13% EBITDA target for 2006 by benchmarking the competing specialties firms Ciba Specialty Chemicals, Clariant, Degussa, DSM, and ICI. In the first quarter of 2006, he says, Rhodia, at 13.7%, was slightly ahead of the group.

Rhodia's plans to supplement earnings by generating revenues from emissions trading under the Clean Development Mechanism of the Kyoto protocol hinges on the reduction of nitrous oxide, a major coproduct of Rhodia plants in France, Brazil, and South Korea that make adipic acid, a polyamide raw material. Rhodia is an ideal candidate for the program in that N₂O is credited on the basis of its being 310 times more efficient than CO₂ at trapping heat in the atmosphere. The Kyoto plan awards salable credits on the basis of CO₂ elimination to companies investing in emission reductions in developing countries.

Rhodia had already implemented an emissions reduction program in France, where it has eliminated 20 million tons of CO₂ equivalent per year. This nearly matches the CO₂ emissions of the entire French transport sector between 1990 and 2005, Clamadieu says. Rhodia will have access to between 11 million and 13 million tons of CO₂ credits per year from the Brazilian and South Korean projects when the plan, currently in a test phase, takes effect between 2008 and 2012, he adds.

Clamadieu admits that the market for emissions credits is risky and that there is little agreement on how much the credits will be worth to potential buyers. Credits in the test phase began trading in 2005 at 8-10 euros per ton, going up to 13 euros in 2006. "In a very brutal way they went back to 10 euros, and now they are at 15," Clamadieu says. "In round two, it may go as high as 20 euros."

Clamadieu is optimistic that the plan will work well for the company. "Take the hypothesis that we have 13 million tons available, and we sell them at 15 euros per ton," he says. "You end up with credits worth a little less than 200 million euros. This is a significant potential upside for Rhodia." He says the company is well-situated, given the size of its adipic acid operations.

In March, Rhodia Energy Services, the company's emissions trading unit, announced the first stage of a hedging strategy involving the sale of 8 million tons of CO₂ emissions receipts, of which 6.5 million will be sold for 15 euros per ton during 2007 and 2008. The firm also announced a joint venture with Société Générale Energie to manage Rhodia's emissions trading activities and a partnership with IXIS Environnement & Infrastructures to offer consulting services to other firms that want to develop emissions trading programs under the Kyoto protocol.

Clamadieu insists that Rhodia will keep the emissions trading in perspective. "This is a very nice upside, but it doesn't mean that this is our business now," he says. "We are a chemical company, we will continue to be a chemical company, and I'm making sure our people don't start dreaming about the CO₂ credit." He says his main objective is reaching the 15% EBITDA margin in 2008 strictly through the performance of Rhodia's chemical operations.

In a report published in March, Merrill Lynch chemical analysts predicted that Rhodia would not make this goal without the emissions credits and questioned even the sustainability of those profits. The report, however, recognizes Clamadieu's accomplishments so far: "It would be wrong not to acknowledge that the management team under Jean-Pierre Clamadieu has done an excellent job over the past few years of stabilizing a business which looked doomed to bankruptcy."

More recent reports by Morgan Stanley and Credit Suisse First Boston are more optimistic that Clamadieu can achieve his goals strictly through performance in chemicals. In addition to cost reduction and restructuring, both reports highlight the importance of the Pharma Solutions sale to Rhodia's future success.

Clamadieu admits that there are still some balls in the air, not least of which is the AMF investigation, which he expects to wrap up this year without a fine large enough to seriously impact results. Overall, he says, the market is beginning to recognize that Rhodia is on the right track.

And this year, Clamadieu garnered the ultimate vote of confidence from the French government: induction into the Legion of Honor. The award was presented on Jan. 6 as "a recognition that Rhodia is back and that this company and its management have put forward a lot of effort in the past two years to bring the company back on its feet," Clamadieu says. "At least that's the way I read it."