A Spin-Off to Watch

David Silver: Versum Materials is a new company, not yet public, that is currently a segment of industrial gas major Air Products & Chemicals. Air Products will spin off Versum soon, officially by the end of September, but likely within a month.

Versum sells gases, chemicals, and materials to help semiconductor and mobile device-makers manufacture their products, with chipmakers accounting for 85% of sales. Versum's products are indispensable in leading-edge production for chipmakers like Intel, Taiwan Semi, and Samsung, its three largest customers. We estimate that Versum's $1 billion in revenue comprises roughly 17% market share of a $6 billion global market for electronic materials.

Versum has a narrow economic moat, based on high customer-switching costs. Versum has developed intimacy with key customers due to its leading technologies, collaborative R&D, and lengthy track record of successful innovation.

Our valuation model yields a value of about $13 per share, and other valuation techniques yield a potential trading range between $12-$15. However, we anticipate the stub could trade poorly after spin-off. This is because we can identify many more logical sellers than buyers. Sellers include hedge fund Pershing Square, Air Products' largest holder with over 20 million shares. We also expect index fund selling. Air Products is ranked number 284 in the S&P 500, and the mechanical approach to portfolio composition of index funds leads us to believe they will be selling soon after distribution.

So in sum, Versum is a high-quality specialty-materials company with good business prospects and a sturdy economic moat. The stock may well stumble out of the gate, and potential investors should keep our valuation in mind when assessing the stock.