Pulse Check: Petrochemicals - The Word Is Still 'Plastics'

Includes: DWDP, EMN, RDS.A, SHI, WLK
by: Research Recap

Strong results from Dow Chemical (DOW) and others indicate the petrochemical sector is gaining steam as the economic recovery takes hold around the world.

Gerson Lehrman Group’s Michael Milam believes the recession has come to a close for basic chemical manufacturers. He points to early earnings releases as evidence:

For Sinopec Shanghai Petrochemicals (NYSE:SHI), operating income increased more than 100% over 1Q09.

Milam also noted that Royal Dutch Shell’s (RDSA) first quarter earnings from chemicals were $313 million compared to a loss of $74 million in 1Q09, while BP’s (NYSE:BP) petrochemical production volumes from international operations were up almost 40% compared with 1Q09 and 12% over 4Q09.

Commenting on Dow Chemical’s (DOW) strong first quarter earnings, P.J. Juvekar, a New York-based analyst at Citigroup Global Markets, said “Basic plastics vastly exceeded our expectations.” He rates the shares “buy.” Hassan Ahmed, a New York-based analyst at Alembic Global Advisors, echoed his claim. “Basic plastics were even better than most were forecasting” (Bloomberg)

Dow Chemical is a Credit Suisse top pick. Analysts wrote, “we remain convinced that DOW offers the best risk/reward profile of the large cap names in the chemical space owing to its cyclical exposure, operating and financial leverage, rich R&D pipeline and relatively cheap valuation.” Credit Suisse has an “outperform” rating on DOW shares and a price target of $39.00 (Benzinga)

Zacks maintained its “neutral” recommendation on Dow, though the company reported EPS of 43 cents for the first quarter of fiscal 2010, up from 18 cents the previous quarter and 11 cents a year before. Zacks remains concerned about the impact of economic slowdown in North America on Dow, as about 36% of its revenue comes from the region.

Charles Neivert, a New York-based analyst at Dahlman Rose & Co., raised his rating on Eastman Chemical Company (NYSE:EMN) shares to “buy“ from “hold“ following Eastman‘s results. “Eastman’s first-quarter performance gives us confidence that the company can continue to drive earnings significantly.” he wrote. (BusinessWeek)

Westlake Chemical Corp. (NYSE:WLK) has also seen a rise. In late March, JPMorgan upgraded the stock, boosting the rating to “overweight” from “neutral,” with expectations that rising prices for ethylene and polyethylene should up Westlake’s profit margins. (Canadian Business) But UBS initiated coverage of the company in January with a “sell” rating and a target price of $20.

But Gerson Lehrman’s Milamadds a caution:

The good news should be tempered with the caution that the Platt’s index of petrochemical feedstock prices is up sharply, meaning that chemicals manufacturers will be paying more for their raw materials. This could potentially squeeze profits if they are unable to pass along increased feedstock prices in their finished product prices.

- Avram J. Davis