Dow Chemical Moves Ahead With Its Divestiture Agenda To Improve Margins

The Dow Chemical Company (NYSE:DOW) recently announced the sale of its sodium borohydride unit along with a polyolefin films plant in Ohio for a total of about $225 million, as part of its ongoing divestiture program aimed at diverting resources towards more profitable segments and boosting shareholder returns. The company is currently targeting to raise around $7.5 to $8 billion from the sale of non-core assets by mid-2016. During a recent investor presentation, it also announced a $5 billion share buyback program to be executed over the next 3 years. ^[1]

We believe that most of the $225 million deal value is attached to Dow’s sodium borohydride business unit that is a part of its performance additives line of products, which is part of the Performance Materials division. The company acquired this unit  when it bought Rohm and Haas in 2009. The business is primarily involved in the production of its namesake chemical, mostly used for bleaching pulp and paper. It generates about $28 million in annual EBITDA and is being acquired by Vertellus Specialty Materials. In addition, Dow has also signed a deal to sell its polyolefin films manufacturing plant located in Findlay, Ohio to Valfilm. Among other applications, these films are used for heat shrink electrical insulation. Both transactions are expected to close in the first quarter of next year, pending regulatory approvals. ^[2]

Dow is a diversified chemical industry giant operating in specialty chemicals, advanced materials, agro-sciences, and plastics business segments. It delivers a broad range of technology-based products and solutions to customers in approximately 160 countries, and in high growth sectors such as electronics, water, energy, and agriculture. Last year, Dow reported annual sales of approximately $57 billion and adjusted net income of around $2.9 billion. We currently have a $51/share price estimate for Dow, which is 16.6x our 2014 full-year adjusted diluted EPS estimate of $3.07 for the company.

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Dow has been pursuing the divestment of slow growth, low-margin businesses over the last several years in order to focus on more profitable, less volatile segments where it sells more differentiated end products. Having completed the divestiture of businesses generating more than $8 billion in revenues over the past several years, in March 2013, the company announced its plan to raise around $1.5 billion from further divestments. However, looking at the volatile demand scenario in emerging markets and the continued slowdown in the developed ones, during the 2013 third quarter earnings call, Dow announced an extension of its divestiture target to $3-4 billion. The company officials said that their focus would be on businesses that fall under the chlorine value chain, such as the chlorinated organics and epoxy businesses that generate single digit EBITDA margins, which compares to the more than 25% EBITDA margin that the company earns on its Performance Plastics business. ^[3]

In March this year, Dow further expanded its divestiture target to $4.5-6 billion. The company officials did not disclose the specific nature of the businesses that were added to the divestment plan. However, they did mention that these would be some smaller units from its Performance Materials division, which has an adjusted EBITDA margin of around 10%, compared to the company wide average of over 15%, by our estimates. (See: How Does Dow Chemical Plan To Expand Its Performance Materials Margins?) In October, Dow announced that it is actively marketing three of its non-core businesses for divestment and expects proceeds of more than $2 billion by early next year. ^[4] Most recently, the company further raised its divestiture target by $2.5 billion as it plans to cut its stake in two Kuwaiti joint ventures, MEGlobal and Equate Petrochemical. Andrew Liveris, the company’s CEO, said that Dow will still retain a substantial share in both the joint ventures and that the pull back is primarily aimed at freeing up some capital for new, more lucrative investments. ^[5]

Through these divestments, Dow is diverting its resources towards more profitable segments, especially the Performance Plastics division, which best leverages its integrated value chain for a low-cost advantage and differentiated end products for higher margins. According to our estimates, the division’s adjusted EBITDA margin stood at around 26% last year, well above the company-wide average. Most of the products sold by the Performance Plastics division are derivatives of the simplest unsaturated hydrocarbon, ethylene, which is most commonly derived from the steam cracking of either naphtha or ethane. With the shale gas supply boost in the U.S. resulting in a cheap source of ethane, there has been a divergence in operating margins between naphtha and ethane based ethylene production plants in the U.S. Dow is therefore pursuing huge investments (more than $4 billion) in the U.S. Gulf Coast region to tap into this opportunity. The company expects to generate incremental EBITDA of more than $2.5 billion (on a run rate basis by 2017) by ramping up its plastics operations in the U.S. Gulf Coast region. Just to give some perspective, the company’s consolidated EBITDA stood around $7.8 billion last year by our estimates. (See: Cheap U.S. Natural Gas Is Attracting Huge Investments From Chemical Companies)

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1. Dow Further Advances Portfolio Management Drive, Announces Additional Divestments, dow.com [↩]
2. Dow Chemical Sodium Borohydride Unit Could Fetch $225 Million, reuters.com [↩]
3. Q3 2013 The Dow Chemical Company Earnings Release, dow.com [↩]
4. Dow Chemical To Divest Three More Businesses, wsj.com [↩]
5. The Dow Chemical Company Investor Forum 2014 Presentation, dow.com [↩]