INSIGHT: New Dow banks on focused growth

Author: Nigel Davis


LONDON (ICIS)--The new Dow is launched this April* with synergy related cost savings giving it a lift and a degree of resilience as the chemicals cycle turns down.

Stricter cost and capital discipline, coupled with a greater focus on shareholder returns, potentially mark a cultural shift for the company that will be recognised by investors.

New ethylene and polyethylene capacity additions in the US may be shale advantaged but the sheer scale of the volume increases will put performance this year and next under pressure. The question remains whether this part of the business is facing a dip in the cycle or a more significant downturn, before demand growth provides the relief.

Updated first-quarter earnings guidance from DowDuPont highlighted more difficult industry and macro-economic conditions.

Sales for DowDuPont’s Materials Science division – the new Dow – are expected to be down in the low teens per cent (compared with earlier estimates of down high single digits per cent). Operating earnings before interest, tax depreciation and amortisation (EBITDA) are expected to be down in the mid-20s per cent from a low 20s per cent.

“The midpoint of the Division’s updated guidance results in approximately $100 million lower operating EBITDA versus previous guidance, driven primarily by greater-than-expected margin compression globally in Packaging & Specialty Plastics,” DowDuPont said.

Dow told investment analysts last week, however, that the global polyethylene supply and demand balance “remains favourable”, adding that “strong operating rates and middle class demand will lead to tighter supply/demand balances”.

The first wave of US PE investments is nearly complete and the second wave will slip into 2021, it added. It projected an estimated 200-300 basis points improvement for global operating rates over the 2018-2020 period based on a 4.3% compound annual growth rate. It used IHS data for its demand side analysis and its own for capacity additions.

The global ethylene market is relatively balanced regionally with some length on the US Gulf Coast, Dow said.

The company’s capacity expansions are expected to deliver earnings growth running into 2020 with further projects providing upside potential out to 2023. Taking, eventually, $800m out of costs, is expected to help underpin earnings over the next two years.

Investment analysts have identified the focus on costs and on returns to shareholders as the key differentiator for the company from its peers, particularly as the ethylene and PE businesses turn down.

And there is a belief that a new focus on operational and financial efficiencies will mean the difference for Dow. The test, however, will be demonstrating that management actions, such as a tighter grip on capital spending and a renewed dividend policy, have indeed created a new cultural identity for the 120-year old firm.

The portfolio of course, has still to deliver. Dow says it is “focused, streamlined and resilient”.

Recent capital spending will put the company in good stead although the plan now is to hold the capital spending budget at close to the level of depreciation and amortisation, or at about $2.8bn/year for the next three years. The 2014-16 average was about $4bn/year including spending on the giant Sadara joint venture project in Saudi Arabia and shale-based capacity expansions on the US Gulf Coast.

Those ongoing capacity expansions will give the company an additional 600,000 tonnes/year of polyethylene and elastomers capacity in 2019 compared with last year.

The projects Dow believes it can achieve with capital spending at or below deprecation and amortisation in a so-called second “wave” remain significant and are shown in the graphic.

The headwinds for the company this year are squeezed margins in the ethylene/PE supply chain alongside hits to earnings from higher plant maintenance costs, negative currency impacts, the absence of the ‘fly-up’ in isocyanates compared with the past two years and reduced siloxanes profits as prices come off 2018 highs.

By Nigel Davis

*The Dow spin off is expected to be completed on 1 April with ‘regular way’ trading of Dow shares on the New York Stock Exchange starting on 2 April