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Focus Shifts Downstream. Can Dow Fix These Businesses?

 February 01, 2013 02:38 PM
 


(By Mani) The Dow Chemical Company (NYSE: DOW) shares were almost flat after falling 7 percent following a modest Q4 miss amid heightened expectations following strong ethylene margins.  

Exacerbating the miss was a muted demand outlook and near-term propylene price pressures. While the ethylene margins did come through in Dow's results its downstream businesses, led by Performance Materials and Coatings, continue to disappoint amidst weak demand trends.

While Dow does not expect economic tailwinds to be a material aid to its performance in 2013, it is seeing signs of a recovery in China as evidenced by 5 percent volume gains in Asia-Pacific, increased export activity and better liquidity to businesses.

[Related -Calculating A Stock's Fair Value Based On Future Growth Expectations: Part 2A]

Overall, volume was flat as a decline in Western Europe offset volume growth in both, Asia-Pacific and the Americas. In fact, Dow saw a 7 percent volume increase in North America, excluding the impact of Feedstocks and Energy operating segment, which was down due to asset shutdowns in 2011, as well as the expiration of sales contracts related to our polypropylene divestiture last year.

Results were hurt by a decline in equity earnings largely driven by lower Dow Corning earnings due to unfavorable solar industry conditions and oversupply of polysilicon. In response, Dow Corning announced restructuring plans this quarter to mitigate the rapidly deteriorating market conditions.

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Performance Plastics margins will remain strong in the Americas due to feedstock advantage. Propylene costs are expected to increase 15 to 20 cents this quarter with some upside pressure.

However, Dow Corning equity earnings will remain depressed due to weakness in the polysilicon value chain specifically in the solar industry, and annual pension costs will increase $250 million to $300 million due to lower discount rates.

In light of the difficult operating environment, Dow reaffirmed its $2.5 billion of cost and cash interventions, $1 billion of which will be incremental in 2013. Dow believes US ethane feedstock prices are sustainable below 30 cents a gallon for 4-5 years.

"Dow is well positioned to benefit from cheap US ethane as the global ethylene cycle heads to a cyclical peak in 2015-16," Deutsche Bank analyst David Begleiter wrote in a note to clients.

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