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Passive income in a bear market? 1 share of Warren Buffett bought

Manufacturer of special materials Celanese (WILL 1.48%) has the attention of Warren Buffett Berkshire Hathaway (BRK.A 0.22%) (BRK.B 0.26%)which bought shares of the stock starting in early 2022. It hasn’t been a big investment for Buffett and Berkshire so far as the stock has fallen more than 35% in the past year.

Trading at just over 8 times forward earnings and with a dividend yield of 2.7%, Celanese is, conventionally speaking, a cheap stock. Still, the market seems to have some concerns about the stock. Here’s what you need to know about this company if you’re considering buying shares in it.

What the market is worried about with Celanese

Given the extremely low valuation, it makes sense to look at the stock’s three main problems right now.

First, there are clear signs of a slowdown in the economy, with output and new orders currently declining. Celanese chemicals and materials are used in everything from the automotive sector to paints and coatings, food and beverage, construction products, consumer and industrial products, paper and packaging, and more. Given the breadth of exposure to the economy, it is inevitable that the company’s demand outlook is under threat.

The threat becomes even more significant when one considers that the prices of chemicals and materials tend to be highly cyclical. All it takes is a relatively small drop in demand for prices to drop significantly.

Celanese acquires business

Second, Celanese recently completed a majority acquisition DuPont’s (NOT: DD) the former Mobility and Materials (M&M) segment for $11 billion in cash. It is subject to criticism for several reasons. That adds debt to Celanese’s balance sheet, and buying a business (in cash) just as its end markets are slowing is usually not the best idea — especially when borrowing costs have risen more than management expected at the time of the deal.

Indeed, to quote Celanese CEO Lori Rierkerk in its third-quarter earnings report in November, “it’s fair to say that in the third quarter, much like the first two quarters, M&M is not performing in line with our business expectations or even in line with their performance in 2021.

Moreover, it’s worth noting that the mobility and materials business actually increases Celanese’s cyclical exposure due to its strong focus on the automotive, consumer and electronics end markets.

Wall Street doubts management’s guidance

Third, Wall Street’s earnings consensus implies that Celanese will miss the low end of its 2023 earnings guidance. At its 2021 investor day presentation, management outlined EPS guidance of $13 to $14 in 2023 and stood by it guidelines on its last earnings call. However, the Wall Street consensus is for $12.92 in 2023, and with deteriorating end-demand conditions, particularly in Europe, market estimates could be lowered.

A long-term view of Celanese

These three points are worrisome, but they are already reflected, at least to some extent, in the stock price and valuation. As noted in the introduction, the market’s 2023 earnings estimate puts Celanese at just over 8 times earnings.

Furthermore, the thinking behind Berkshire Hathaway’s position is likely a reflection of the company’s long-term earnings potential rather than a short-term vote on next year’s earnings.

This is the approach and management of Celanese. For example, despite the problems in the business acquired from DuPont, management recently improved its estimate of cost and revenue synergies from the deal to $500 million from $450 million at the time of the deal. Meanwhile, the acquisition expands Celanese’s geographic footprint, particularly in Asia, and improves its position in polymers. As for the timing of the deal, it’s obviously unfortunate, but it’s not easy to predict where the economy will be in a few months, let alone a few years, and the latter is really important for long-term investors.

Is Celanese a stock to buy?

There is no doubt that Celanese is facing a challenging period, but its dividend is sustainable. If management is right about the synergies and cash generation potential of its significant acquisition, then there will be plenty of dividend increases going forward. The economic cycle will inevitably turn again, and investors can enjoy a 2.7% dividend yield while they wait.

Buffett and Berkshire Hathaway are not known for big macroeconomic bets. Still, they are known for understanding how a company can improve its return on assets and cash flow generation in a mature industry—exactly what Celanese is trying to do now.

Li Samaha has no position in any of the mentioned stocks. The Motley Fool has positions in and recommends Berkshire Hathaway. The Motley Fool recommends the following options: Long $200 Berkshire Hathaway January 2023 calls, Short $200 Berkshire Hathaway January 2023 calls, and Short $265 Berkshire Hathaway January 2023 calls.The Colorful Fool has a disclosure policy .

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