Ashland Inc.

Moat: 2/5

Understandability: 3/5

Balance Sheet Health: 3/5

Ashland is a global additives and specialty ingredients company with a presence in a range of industries, including adhesives, architectural coatings, construction, energy, automotive, and personal care, as well as pharmaceuticals.

Investor Relations Previous Earnings Calls

The moat, understandability, and balance sheet health scores reflect a conservative evaluation to ensure a margin of safety in any assessment.

Ashland’s business spans a wide range of industries, making it a complex enterprise to analyze.

Business Overview

Ashland’s operations are divided into three reportable segments:

  • Life Sciences: Specializes in pharmaceutical and nutraceutical ingredients.
  • Personal Care: Offers products for skincare, haircare, and other personal hygiene goods.
  • Specialty Additives: Serves a wide array of industries, including coatings, construction, energy, and automotive.
  • Unallocated and Other Includes corporate governance activities and certain legacy matters. Ashland serves around 7,500 customers across 100 countries, with 68% of sales generated outside North America for the three and nine months ended June 30, 2023.

The specialty chemicals industry is fragmented, with competition stemming from both large, established players and smaller, more specialized companies.

Ashland operates in a highly competitive market, where:

  • Innovation is key to securing new product sales, and new products with differentiated and/or improved performance.
  • Pricing power depends on differentiation and market share, making it difficult to pass on raw material price increases fully.
  • Scalability and specialization present major advantages. Large players benefit from economies of scale, while specialized firms benefit from strong relationships and technical knowledge.
  • Government regulation increases barriers to entry and influences costs.
  • Customer preferences tend to create fragmentation, however the willingness to pay (WTP) varies widely and therefore brand loyalty is important to create value.

Moat Analysis

Based on Morningstar’s analysis, here’s why I am rating Ashland with a moat of 2 / 5:

While Ashland is in an industry known for moats, the actual moat for ASH is very narrow.

  • Intangible Assets: Some of Ashland’s business units derive advantage from established brands. However, they are in B2B, and not B2C, limiting their influence. Also, the brands are somewhat niche and lack a widespread reputation among consumers. Therefore, in most cases, it cannot be used as a source of durable competitive advantage. The company does however have extensive know-how around the chemistry that goes into its products.
  • Switching Costs: Ashland has some switching costs in some industries where its products are integral to the customers’ processes and production lines, making it costly to switch. This creates some lock-in, but does not apply across all of its segments. However, these costs tend to be minimal.
  • Cost Advantages: Although the company is a fairly well-established player in the market, there is no strong evidence that the company enjoys a cost advantage. However, having a presence in multiple geographies and markets does help them reduce the supply chain risk.

Given the above, Ashland possesses a limited moat, making it challenging to protect its excess profits in the long run.

Risks to the Moat and Business Resilience

Ashland faces several risks that could erode its moat:

  • Raw Material Prices: Ashland is susceptible to volatile raw material prices, which can squeeze margins, as price increases can be difficult to pass through to its customers.
  • Competition: The industry is competitive, and a stronger or more innovative competitor could take market share away.
  • Global Economic Slowdowns: The global economy can significantly impact the demand for Ashland’s products and solutions across its multiple markets.
  • Currency Fluctuations: Ashland, as a multinational company, could suffer from volatility in revenue and income due to fluctuations in exchange rates.
  • Product Lifecycle: As in any technology driven field products become obsolete over time. Therefore, the company would have to show innovation and the ability to constantly create new products.
  • Legal and Environmental Factors: Ashland faces significant risks from lawsuits related to its past asbestos liabilities and environmental regulations and clean up costs which can have a significant impact on its profitability.

While the risks are real and significant, Ashland’s diversified business portfolio gives it resilience. With multiple segments in industries that do not always move with the same pattern, Ashland has an opportunity to stabilize its financial performance.

Financials

While Ashland has shown revenue growth, their profit margins are inconsistent. Also, their debt, while manageable, should be monitored.

  • Revenue: Ashland’s revenue has grown moderately but consistently over the recent years (2017-2022), mainly due to their acquisitions. In the most recent quarter (ending 30/06/2023) revenues decreased compared to 2022, mainly due to lower volume and unfavorable pricing mix.
  • Profit Margins: Although some of their business units can achieve double-digit EBITA margins, their company-wide profitability is somewhat inconsistent. It varies from 12-17%, as reported in different years. The fluctuations in margins are likely due to changes in mix, raw material costs, and strategic changes. It is important to note that some of the segments have good margins, as high as 25%, so the business isn’t inherently low margin. For the first nine months of 2023, adjusted EBITDA was 15.4% and adjusted EBITDA margin was 17.9%, higher than previous years.
  • Free Cash Flow: Free cash flow is volatile but positive in most years. In 2022, the FCF was ~$400M but the company claims it is increasing its focus on generating predictable and consistent free cash flows. Their cash flows are significantly affected by non-operating activities that impact the CFO’s free cash flow which is why FCF, which is measured on free cash flows available to investors, is a good way to determine their cash flow.
  • Debt: The debt levels are reasonably large and can have a significant effect on net income. Their total debt is around 2.5 billion. The company, however, has very little near-term debt. Most of their borrowings consist of long-term debt. It should be noted that the maturity profile of its debts is well-distributed over the next few years which should mitigate risks.
  • Returns: The recent returns on equity have come in at around 14% for the past couple of quarters, which is higher than prior periods. In 2022 it showed a ROIC of 8.4%, which is modest. Generally speaking, they do a good job of generating return on capital.

Understandability Rating

3 / 5 Ashland’s business model is complex, because of the wide range of industries it is operating within. While it’s generally easy to understand how they make their products, the value drivers are not always clear. Also, the number of unique accounting adjustments can make it more challenging. A decent amount of financial knowledge is required to understand the business.

Balance Sheet Health Rating

3 / 5 Ashland’s balance sheet is reasonably strong with a decent amount of cash. They have no current portion of the debt. However, they have a significant debt load which must be monitored and they would need to make sure they don’t take on too much additional debt. While not bad enough to be concerning, there is a risk that may weigh on the company in a recession.

Recent Concerns and Management’s Response

Ashland’s stock price has been very volatile over the last few quarters, mainly due to market uncertainty and some earnings issues.

The primary concern has been with their earnings, which the company says is due to their input costs being high and pricing not being able to match. But they see a stabilization coming ahead of fiscal year 2024. Management also expects sales volume to remain stable, but they anticipate high pricing power to lead to growth in sales value. In the most recent earnings call, it was explicitly mentioned that they are focused on improving long-term performance, and all decisions that they are making, including restructuring programs, are based on that.

They were also asked about the possibility of acquisitions in this call. Management responded by saying that any potential M&A activity must focus on products that provide a high return on capital, are sustainable and long term oriented, and have similar or better growth prospects.

In their latest 10-Q report, they mentioned supply chain disruptions and inflationary pressures, which are important to keep in mind. And because their assets are exposed to currency risks, they are susceptible to currency volatility. Overall, despite these problems, the management seems committed to improving long-term operations and financial health.

The management also talks about improving the working capital at Ashland.