Lanxess Prospers

When Lanxess was launched on Jan. 1, 2005, it was little more than a miscellaneous collection of chemical businesses that Bayer didn't want. About the only thing these operations had in common was their lackluster, sometimes even money-losing, performance under Bayer management.

In the nearly two years since then, Lanxess has turned the corner into profitability. The company has forged its four divisions—engineering plastics, chemical intermediates, performance chemicals, and performance rubber—into what is looking more and more like a coherent whole.

In contrast to his grim demeanor at his first press conference in April 2005, Chairman Axel C. Heitmann was ebullient earlier this month at the company's first media and investor event. An unused plant and warehouse at Lanxess' Leverkusen, Germany, headquarters had been converted into a center for presentations by Heitmann and his management team, including the heads of many of the company's business units.

The event was designed to present the firm's progress on improving performance, its increasing emphasis on investment in China, and perhaps most important, its new willingness to look at acquisitions that would add to its $8.9 billion in 2005 sales.

Heitmann maintained that his company has entered "an exciting new chapter" as it charts "a bold new course" for future growth.

"We have proven that we can reenergize chemistry by turning what was considered an old-school smokestack industry into a dynamic and profitable new venture," he boasted. "Lanxess wanted to show the world that we could be the first great turnaround story of the chemical industry in the 21st century. We have done that in record time."

According to Heitmann, the company has spent the past 18 months working on four major tasks: reducing costs and improving performance, restructuring loss-making businesses into profitability, functioning like a chemicals-based investment portfolio, and boosting internal growth.

Lanxess also has nearly halved the $1.4 billion debt it started life with, said Matthias Zachert, chief financial officer. By the end of this year, debt should stand at about $740 million.

Heitmann has now set three new goals to work toward by 2009: overall profitability on a par with the company's peer group of global specialty chemical producers, elimination of businesses with an operating profit margin of less than 5%, and maintenance of an investment-grade financial rating.

Moreover, the company says it will begin actively looking for acquisitions. "Lanxess will take a proactive approach to help consolidate our fragmented industry," Heitmann said. "We intend to meet the trends of industry fragmentation and consolidation by being consolidators ourselves."

Lanxess gained the financial stability needed to support the new acquisition strategy, Heitmann said, in large part through the adoption of a "price-before-volume" strategy. The results, he argued, have increased profitability, streamlined product portfolios, and focused operations.

The company has also been aggressive in carving costs out of its businesses. Since January 2005, Heitmann noted, Lanxess has initiated four major restructuring phases aimed at cutting costs by nearly $330 million per year. The cost savings are already coming and will be fully effective in 2009, he said.

The task has not been an easy one, Heitmann conceded. Lanxess closed several sites around the world and reduced headcount considerably. It sold its fibers and paper chemicals businesses and aims to divest its textile-processing chemicals business by the end of this year.

Lanxess also adopted new models for the two businesses that were posting the heaviest losses, fine chemicals and styrenics, by splitting them off into new subsidiaries called Saltigo and Lustran Polymers, respectively. "These were the biggest loss makers at our start," he said. "We immediately started aggressive restructuring measures, repositioning our technology. Now both operations are far better positioned." Neither unit is now losing money, Heitmann said.

Robyn Coombs, a securities analyst with Merrill Lynch, told clients in a recent advisory note that Lanxess has indeed improved sales and earnings across all divisions. The second quarter, she noted, showed "better performance than we expected in engineering plastics, chemical intermediates, and performance chemicals."

Profitability was weaker in performance rubber, Coombs added, but that was compared with a strong second quarter in 2005, and it was "good in absolute terms." By her projections, performance chemicals will account for 26.5% of sales this year, performance rubber and engineering plastics will each account for about 25%, and chemical intermediates will contribute 22%.

Lanxess' management, she observed, is "committed to more cost cutting and strategic solutions for underperformers. While there are clearly questions over global growth, we think earnings are supported by the restructuring and change in culture."

At the investor event, Heitmann explained that today, Lanxess' corporate culture relies on the principles of freedom and responsibility. Each business head "is fully responsible for the results of his business worldwide. He is judged according to whether or not he and his teams achieve the profitability targets on measurements" that include operating profit, working capital performance, and capital expenditure.

Heitmann contended that "the result of our efforts is reflected in the bottom line." The company's operating profit rose by 30% in 2005 and was up another 18% in the first half of 2006. The operating margin has reached 11.3%, higher than the firm's target of 10% for all of 2006.

The chairman is particularly pleased with the performance of his company's share price. "Since our shares were first listed on the stock market, their price has only gone in one direction: up," he said. "Since the middle of 2005, our growth rates have consistently been at least 20% above our most important competitors," and they have outperformed the German and Dow Jones stock indexes.

That buoyancy has helped underpin Lanxess' step onto the acquisitions stage, an arena where, Heitmann said, the company "will only commit itself where additional value can be created for the company as a whole."

This can happen in a number of ways, he explained. It might mean Lanxess would acquire individual chemical businesses that broaden its portfolio or strengthen it in areas where it already has competitive advantage and good earnings.

It could also mean purchasing chemical companies or parts of companies that are not closely managed and have been unable to achieve their full profit potential. Heitmann clearly savored the irony of this scenario because, under Bayer, his company was criticized for being just such a collection of undermanaged businesses.

Lanxess is also keeping an open mind as to where acquisitions, or joint ventures, may occur. Joint ventures, for example, will be particularly important to boosting the firm's business in fast-growing Asian markets.

As Heitmann pointed out, the Asia-Pacific share of global gross domestic product has been growing continuously since 1980. Since 2001, the region has accounted for 25% of global GDP, and in 10 years, it will be 33%, topping Europe's share for the first time, he predicted.

Hence, the company's emphasis on investment in China. In May, for example, Lanxess dedicated a new plant for semicrystalline polymers in Wuxi, west of Shanghai. And over the summer, it opened a hydrazine hydrate plant it had dismantled in Baytown, Texas, and relocated to Weifang, north of Shanghai.

Asia will be a strong customer for Lanxess' engineering plastics division. Demand for nylon compounds, for instance, is expected to grow by 4% per year through 2010 in Europe and the Americas and by 7% per year in Asia.

Over the past few months, Lanxess has also repositioned and restructured its chemical intermediates segment. Operating profit margins have grown from under 15% to nearly 20% as a result of consolidation and cost containment.

"To achieve further growth in these niches while expanding regionally, it will be important to further strengthen our Chinese business," Heitmann said. "After all, while the commodity business there will more than double between 2003 and 2015, the forecast for the specialties business is to more than triple in the same period of time."

On the other hand, Asia will not be all that important for Saltigo, Lanxess' new fine chemicals subsidiary, said Axel Westerhaus, its managing director. For example, he sees no particular need for Saltigo to have a manufacturing presence in Asia. "That is a different segment-it is price, price, price. We are not in that game."

If the company were producing off-patent compounds, such as antibiotics, "we would have to go there. But we don't intend to position the company there. I'm not looking East; I'm looking West, where the innovation is coming from," said Westerhaus.

In recent years, the fine chemicals business has had annual sales of about $500 million, 90% of which was from custom manufacturing services. In 2001, sales were primarily to Bayer, but sales to Bayer have been declining by 12% per year, while sales to non-Bayer customers have been growing at 20% per year. And more than 70% of those sales involve products with some kind of intellectual property protection, minimizing the prospect of competition, Westerhaus said.

"We've made great strides with our business structure," he noted. "A great deal of urgently required restructuring has been already finalized, and we want to complete the remainder as soon as possible. We have closed inefficient plants and facilities and created a number of new, clearly structured operating units that can be managed more efficiently and thus more profitably. Altogether, we are faster than expected with the restructuring process."

In fact, the restructuring of the entire company has progressed faster than expected, according to Heitmann.

The result, he insisted, is a chemical firm "focused on chemicals, but not bound by commitment to any particular product line." Instead, he said, "our distinguishing feature is our management philosophy. We have a demonstrated expertise at finding value in undermanaged chemical assets. Our business model has proven it can take a good chemical business and make it great."