Why Bill Ackman's $2.6 Billion Investment In This Stock Could Mean 60% Upside

Tim Begany's picture

Wednesday, October 8, 2014 - 12:00pm

by Tim Begany

Movie buffs may remember a strange film from 1999 called "Being John Malkovich."

In it, puppeteer Craig Schwartz (played by John Cusack) finds a magic portal into the mind of the well-known actor John Malkovich. As the movie title suggests, the portal lets people be Malkovich and live life in his shoes.

That's impossible, of course, but it sort of makes you think of whose shoes you might want to step into if you could. And I'll bet a lot of investors would pick the famous activist money manager Bill Ackman, who's fond of taking large stakes in companies and then using his influence to push for changes that benefit shareholders.

The man clearly knows what he's doing. Through his hedge fund company Pershing Square Capital Management, he generated a total return of nearly 1,200% in the past decade before fees, according to Forbes. That's about 10 times what the S&P 500 delivered during the same period.

Although you can't actually be Bill Ackman, it's easy enough to track his long portfolio through SEC filings -- and there's one holding in particular I'd like to bring to your attention. The company, a well-known supplier of industrial gases and chemicals with annual revenue of $10.4 billion, is one of the better players in its industry.

But years ago, it was the best.

So if it's not top dog anymore, why would Ackman be holding a 10% stake (20.5 million shares) worth more than $2.6 billion? Because, at his behest, Air Products & Chemicals, Inc. (NYSE: APD) decided to initiate some major changes that could make it number one once again.

During the summer, for instance, Air Products hired the highly respected chemical industry veteran Seifi Ghasemi to take over as CEO and chairman of the board. And last month, two other new directors Ackman wanted were added to the board.

As the man charged with returning Air Products to peak form, Ghasemi is instituting a major reorganization into seven segments mainly by geographic region -- instead of product line like before. The changes, which took effect October 1, primarily target industrial gases. This segment is responsible for the lion's share of revenue by providing helium, hydrogen and other gases to the energy, aerospace and healthcare industries, among many others.

Industrial gases now consists of four units -- the Americas, Europe, Middle East/Africa and Asia. The other three units are materials technologies, energy from waste and corporate operations.

The reorganization should result in greater nimbleness and adaptability, since each unit's executive management teams will have greater autonomy. They'll be more under the gun, too, because of higher profitability standards coupled with performance-based compensation.

What's more, Ghasemi has threatened to divest Air Products of underperforming units like materials technologies and energy from waste if they don't get their act together. It would be surprising if any company assets came up for sale any time soon, though, since the plan is to give all segments plenty of opportunity to improve before resorting to divestiture.

It's hard to imagine Air Products ever substantially reducing hydrogen-related assets, though. According to Morningstar, the firm controls 40% of global hydrogen capacity, and it expects the hydrogen market to double to 11 billion standard cubic feet per day over the next decade. That growth results from enormous demand for hydrogen as a fuel source in crude oil refining and auto parts production, among many other uses. Air Products is at the forefront of this trend.

Plus, the firm has long owned a unique portfolio of specialty gases, and these are in constant demand. In July 2012, for example, Air Products won a major contract to supply bulk gases, like nitrogen, oxygen and argon, crucial for the operation of a western China-based chip plant owned by tech giant Samsung Electronics Co. Ltd (OTC: SSNLF). Another such contract was announced last March.

Air Products has also built several large air separation plants to support the specialty gas needs of Samsung and other customers with operations in western China.

According to analysts at Senator Investment Group, ongoing capital investments like the ones in China could mean $175 million of incremental earnings before interest and taxes for Air Products by 2016. The firm is capable of 20% overall earnings growth in 2015 and 2016, and could cut costs by roughly $400 million in the near term by restructuring, these analysts add.

Thus, consensus estimates for 10%-a-year earnings growth look plenty reasonable and could easily position Air Products for nearly a 60% surge to about $203 a share during the next five years. That's right in line with Ackman's $200 price target.

Risks to Consider: Air Products has been around for more than 70 years, but there's a higher degree of uncertainty about its future right now because of the change in management and recent restructure. The firm has to prove itself all over again, and this could take time -- maybe years.

Action to Take --> Air Products & Chemicals is a good firm seeking to regain its former greatness, and the involvement of a successful activist investor like Ackman helps blunt the uncertainty factor. With profitability apt to improve and dominance of key markets set to rise, Air Products looks like a great bet, even though it's already up considerably since Ackman took a stake. The stock's generally solid yield, currently 2.4%, should only sweeten the pot that much more.

If commodities and natural resources are your thing, Dave Forest is your man. Dave is the chief investment strategist for Junior Resource Advisor -- our premium newsletter dedicated to finding the best natural resource plays on Earth. In fact, Dave may have found the first-ever $1 billion boomtown situated in the center of massive new oil and gas deposits. To find out more about the best natural resource companies, click here.

Tim Begany does not personally hold positions in any securities mentioned in this article.
StreetAuthority LLC does not hold positions in any securities mentioned in this article.