February 18, 2022 - 1:16pm EST by
2022 2023
Price: 22.00 EPS 3.50 4.00
Shares Out. (in M): 160 P/E 6.3 5.5
Market Cap (in $M): 3,516 P/FCF 6.5 4.6
Net Debt (in $M): 2,344 EBIT 0 0
TEV (in $M): 5,860 TEV/EBIT 0 0

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Tronox is a vertically integrated producer of TiO2, zircon, and other mineral sands products and I think it should be worth $30+. Private equity (Apollo) was reported to have bid $27 on the company in Sept 2021 and I think that materially undervalues the company given the improved industry structure and elongated cycle, benefits of vertical integration in an inflationary world, future earnings upside from its newTRON cost reduction program ($165-220m Ebitda on a $1bn base), cash flow generation capabilities with $4.4bn+ of NOL's, improved balance sheet, and hidden Jazan value of ~$2-3. While the Apollo bid put a cap on the upside as other material names spiked, at $22 I think it now helps provide a floor to the downside and risk-reward skews quite favorably as 2022 progresses with guidance that looks conservative. 

Motherlode did a great job calling the bottom and TROX has been written up several times previously so I wont rehash the company history and background rather than to say that after the TROX-Cristal deal the Western market is highly concentrated with most producers operating as stand-alone public companies and incented to generate through-cycle positive cash flow. The large producers have all implemented different types of contractual volume arrangements that should reduce volatility in pricing and ensure customers with adequate supply while also retaining upside in periods of rising prices for the TiO2 producers. While these contracts limit the upside from spot price increases it also protects the downside and should create less through-cycle volatility in earnings and cash flow (2020 trough of >$1 in FCF likely goes to $3-5). China is dealing with its dual-control policy and new capacity has been limited and new Western capacity has been limited to mostly capacity creep. Its hard to argue the industry is worse than it was a few years ago yet the stocks still trade at the same multiples.

Throughout the TiO2 value chain from the paint/coatings producers to the TiO2 pigment players to the upstream mineral sand producers the message is the same - demand remains strong and inventories are low. This dynamic will create a robust 2022 environment for both volumes and pricing and will extend the cycle longer than what the market believes. Demand is being driven by a robust housing market and strong consumer goods consumption. Auto production returning should offset any housing weakness if rates spike and negatively impact that market. The Rio Tinto Richards Bay mineral sands force majeure in July 2021 exacerbated what was already beginning to be a tight market for titanium ore feedstock. Chemours recently noted on its 4Q21 call that its volumes were negatively impacted by raw materials and would continue to be into 1Q22 despite Richards Bay restarting. Like everywhere else, producers are successfully raising prices throughout the value chain, and I believe TROX should benefit the most from this dynamic given its 85% ore vertical integration. That surety of ore supply should help it capture market share gains versus the non-integrated producers (the 15% of its ore not internally fed is under long-term contracts) while also allowing it to capture more of the pigment pricing upside that will be required for the non-integrated producers to remain profitable. TROX is still operating in the low-80% utilization, versus last cycle at 90%+, so there remains further volume upside at these higher prices with management noting on the 4Q call that it believes it can increase capacity by 40k tonnes in 2022 (+4%).

TROX reported a slight miss yday due to higher costs, a weak 1Q22 guide due to the flow-through of higher production costs in inventory, and a full-year 2022 Ebitda guide of $1.025-1.125bn that bracketed the street. The stock sold off of 5% along with the market but I think their 2022 guide will prove to be quite conservative as supported by mgmts comments that the guide "does not represent a ceiling for our potential". With Chemours' 2022 guide weak relative to the street, TROX management had no incentive to come out with a higher number than the street - that represents part of the opportunity here.

With modest incremental pricing of 2%/1% QoQ in 1Q/2Q22 (NA contract prices +4% in 1Q22), <4% pigment volume growth for the year, higher zircon prices partially offset by lower volumes (Iluka announced a ~13% increase for 1Q22), and cash COGS/tonne increasing by ~$50 for the year (flat QoQ at high levels then decreasing as fixed absorption and newTRON savings kick in) and embedding higher cash SG&A and I can easily get to $1,175m of Ebitda for 2022, or 5% above the high-end of guidance and 8% above consensus.

While the market is valuing TROX assuming 2022 to be the peak, I dont think that will be the case. Even embedding pigment and zircon pricing declines in 2023, that will be more than offset by lower cash COGS/tonne as the newTRON cost savings ramp up ($150-200/tonne on 1.1m tonnes by end of 2023, or $165-220m of Ebitda) and the new Atlas mine with higher grade ore comes on stream. Note that these assumptions assume realized pricing peaks <10% above the prior 2018 cycle-peak (and well below 10yrs ago). Relative to other basic material industries this is conservative. Due to the better industry structure and long-term contracts, Chinese controls, higher energy prices, general inflation, and coatings producers pushing through end-demand pricing there is a good case for the new-normal through-cycle pricing to be higher. 

While the market is pricing TROX like 2022E will be peak Ebitda (5.5x mid-point of guidance and ~15% FCF yield), I believe it is more reflective of what a mid-cycle Ebitda number will be as higher normalized pricing and the benefits from vertical integration and the newTRON Ebitda savings help push Ebitda higher even if prices fall moderately. See high-level annualized assumptions below. 

At $1.1bn of normalized Ebitda and a 6.0x multiple (Kronos and Iluka have both traded for ~6.0x over history, arguably TROX as vertically integrated is deserving of a higher multiple) plus FCF generation used to repurchase ~10% of shares by the end of 2022, plus $2 of discounted value from the Jazan slagger ($150m run-rate Ebitda @ 6x - 450m of debt = $450m of value or $3 per share) and TROX should be worth $32 by end of 2022. And that is giving only the current year's value for the current cash tax savings from the $4.4bn+ of NOL's that should shield TROX from paying significant taxes for years to come. 

Capex in 2022/23 will be elevated at ~$400m from the new Atlas mine and Fairbeeze and Namakwa extensions and newTRON investments. Even at elevated capex levels, TROX should generate close to $3 of FCF in 2022 and $4 in 2023. With leverage down to a modest 2.5x TTM (likely will be ~2.0x by year-end even with FCF used to repurchase shares) and applying just a 10x multiple and the stock should be $30 today and going to $40+ in 2023/24. TROX should generate at least 50% of its market cap in FCF over the next three years.

I believe a $27 take-over price by Apollo is far too low given the amount of future cash flows TROX should generate and the ideal industry position it is in as a vertically integrated producer. While I have no insight whether Apollo is still looking at the company, or what the feedback from TROX to Apollo was, I believe a price of at least $30 (probably closer to $35) would be needed to get the deal done. That is at least 35% upside from current price if the public market continues to give minimal value to TROX's improved prospects and Apollo is able to steal the company. TROX will be worth far more over time with the ability to compound as a stand-alone company if it can execute and deploy its FCF to repurchases and the balance sheet. While no one else in the TiO2 industry can buy TROX, perhaps someone like Rio Tinto, the largest titanium ore producer and third alrgest zircon producer would find TROX strategically appealing. On a replacement value basis, TROX is worth at least $20 at $4,000/tonne of greenfield pigment replacement value (CC Altamira brownfield was $3k and DD proposed greenfield in China in 2005 at $4k) and $1.5bn of mineral sands value.

Risks: TROX historically trades with pricing momentum. If pricing stops moving higher sequentially the stock will have a hard time working even if normalized Ebitda is higher and FCF is robust. Pricing will stop moving higher at some point in 2022, but I think it will be later in the year given the continued contract price momentum and the lag on long-term contracts, providing at least 6 months of runway for the stock to work if Apollo does not buy it by then.


I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.


Apollo buyout above prior $27 bid.

2Q/3Q earnings beats 

Continue pricing growth due to industry raw material inflation

Cost headwinds abating more for TROX than non-integrated producers, enabling TROX to capture the benefits of the inflationary environment

Cost savings from newTRON and new mines being realized in 2H22/2023+

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