Adnoc’s cash has good chemistry with struggling German industry

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Oil and gas companies in the Middle East are flush with cash. European industry is on its knees. That creates the conditions for strong chemistry, meaning a deal-making point.

That’s one way to read Abu Dhabi National Oil Company’s €14.7 billion attack on Germany’s Covestro. The chemicals group, which was spun off from Bayer in 2015, recommended the offer after a protracted negotiation. This marks the largest cash transaction in the chemical industry and the first major takeover of a Dax 40 company by a Gulf state.

It’s hard to blame Covestro for capitulating. It fetches a 54% premium to its undisturbed share price before the rumors hit in June 2023. And the deal values ​​the business at 9 times 2025 ebitda, according to Berenberg estimates. Troubled German company BASF trades at 7.5 times S&P Capital IQ.

True, Covestro runs out somewhere near the bottom of a long chemical downcycle. But in Europe’s beleaguered chemical sector, confidence in a recovery is low. Covestro’s acceptance of the deal certainly implies that an abrupt resurgence is unlikely, at least for the foreseeable future.

Moreover, these businesses need to invest in order to grow – ideally counter-cyclically, when materials are cheap and construction crews are sitting idle. However, Covestro, with €3bn of net debt and pension liabilities, or more than 4 times ebitda in the 12 months to June, has little cash to spare. Adnoc’s commitment to inject €1.2 billion of additional equity will help sway the board, along with commitments to maintain the German company’s operational independence.

The bigger mystery is how the deal benefits Adnoc. The group wants to diversify and has an investment commitment of 150 billion euros that is burning a hole in its pocket. Chemicals, downstream of its traditional oil and gas business, is a comfortable sector. But acquiring unrelated businesses, with no cost savings or cross-selling potential, in challenging sectors is not a recipe for simple value creation.

Still, Covestro isn’t a bad play, assuming the cycle eventually turns. It has factories across the globe and lower cost assets compared to local competitors. Adnoc plans to use it as an investment platform, through which it can further strengthen its position in chemicals. Over a very long time horizon, it may even pay off.

Getting this deal over the line marks a success for Adnoc as it seeks to expand its wings beyond Gulf oil. German politicians and unions seem to welcome it, at least based on the dignified silence with which they greeted the announcement. It can provide a test case for other Middle Eastern investors as they look for opportunities in the world.

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