Dow's Reformulation Attractive For Dividend Hunters

Nov. 07, 2019 7:55 AM ETDow Inc. (DOW)16 Comments28 Likes


  • After combining with DuPont and re-sorting its businesses, Dow emerged in April 2019 to again trade independently.
  • Market cap is $40.2 billion and Dow pays a good 5.2% dividend. Year-over-year EPS growth is projected at 20%. But it has a steep liability-to-asset ratio of 72%.
  • Dow’s experience in chemical operations and its ability to use several different feeds for ethylene manufacture set it apart from other companies.
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After combining with DuPont, Dow, Inc. (NYSE:DOW) re-established as an independent company in April 2019. While investors should be aware it has a heavy debt load, this enormous blue-chip is a long-time successful, international manufacturer of commodity chemicals with an ample, flexible supply of low-cost feedstocks.

Dow has year-over-year earnings upside and pays a substantial dividend of 5.2%.

Company Description

Dow, Inc. is headquartered in Midland, Michigan and employs 37,000 people full-time. Started in 1897 by Herbert Henry Dow with a new method to extract bromine from brine, the company has a deep business history.

Most recently, it combined with DuPont into a $113 billion conglomerate. The two companies traded some business lines and then separated into three companies, all of which are now listed publicly: Dow, DuPont (DD), and Corteva (CTVA). Dow makes commodity (bulk, high-volume) chemicals such as polyethylene, silicone, and paint additives. DuPont makes specialty chemicals and Corteva makes agricultural seeds and chemicals.

Natural gas costs-as both a feedstock and an energy input-are key. The company is benefiting from the wide availability and low prices of U.S. natural gas and natural gas liquids.

With a November 5, 2019 closing price of $54.20/share, market capitalization is $40.2 billion.

Dow was in the news recently for an explosion due to a vessel rupture at its Plaquemine, Louisiana chemical plant; fortunately no one was injured.

In researching this company, investors should be careful not to confuse Dow, Inc., the chemical company, with the Dow Jones Industrial Average (DJIA).

Natural Gas and Natural Gas Liquids

The natural gas futures price is seasonally higher, with the December NYMEX contract closing November 5, 2019 at $2.85/million British Thermal Units ((MMBTUs)). NYMEX spring 2020 contract prices for natural gas at Henry Hub, Louisiana are lower (backwardated) by 15%.

Natural gas supply remains abundant-the generic price forecast is "lower for longer" especially as gas (and the slightly heavier natural gas liquids) are produced in association with more valuable oil in the Permian basin. Indeed, this associated production and lack of gas takeaway (pipeline) capacity recently kept Permian prices as low as $0.08/MMBTU, in contrast to Henry Hub, Louisiana prices of $2.28/MMBTU. On an occasion in the last year, the Permian gas price had even gone negative.

Growing U.S. oil and gas production means growing production of ethane, propane, and butane. (Recall that natural gas has one carbon and four hydrogen atoms in its molecule, ethane has two carbons and six hydrogens, propane three carbons and eight hydrogens, and butane four carbons and ten hydrogens.) Ethane, propane and butane are key feedstocks for ethylene, and ethylene, in turn, is a precursor for a large range of commodity chemicals.

Commodity chemicals manufacturers have benefited from vastly increased production of U.S. natural gas and natural gas liquids. Additionally, chemical stocks tend to track economic activity closely: as the economy improves, so do prospects for commodity chemicals manufacturers.

Henry Hub Natural Gas Price, $/MMBTU

ChartData by YCharts

Third Quarter 2019 Results

Dow's third quarter net sales were $10.76 billion. The chart below shows a comparison of sales by the three reporting segments: packaging and specialty plastics; industrial intermediates and infrastructure; and performance materials and coatings. Packaging and specialty plastics was the highest-margin segment of the three.

With quarterly net income of $347 million, earnings per share (EPS) from continuing operations was $0.45.

Cash provided by operating activities from continuing operations was $1.8 billion for the quarter. Capital expenditures were $472 million, thus providing free cash flow of $1.3 billion.

Generally, ethane, propane, and butane feedstock costs were higher in the third quarter of 2019 than a year ago and polyethylene product prices are not, resulting in a slight margin squeeze on polyethylene.

Moreover, the company experienced negative results from its largest joint ventures with Kuwait, Thailand, and the Sadara Project.


Domestic and international competitors to Dow are numerous. In the U.S., these include but are not limited to Eastman Chemical (EMN), the chemical division of Exxon Mobil (XOM), Huntsman (HUN), LyondellBasell (LYB), and Westlake Chemical (WLK).

Feedstock sector competitors should also be kept in mind: natural gas and natural gas liquids are used not only for chemical manufacture but are also exported as liquefied natural gas and liquefied petroleum gas. Additionally, natural gas is a central fuel in power generation, in industrial production and, of course, for residential and commercial heating.

Strategy and Growth Prospects

Dow's flexibility to use different feedstocks in its U.S. ethylene crackers helped boost its third quarter margins. Feedstock flexibility will remain a competitive advantage for the company.

For the fourth quarter of 2019, Dow expects revenue of $9.8-$10.2 billion.

Growth projects this year include:

*retrofit of a cracker with propylene technology resulting in lower energy usage, emissions, and cost;

*launch of Agility CE- a new resin made with 70% post-consumer recycled plastic;

*continuation of an alkoxylates capacity expansion project;

*launch of a new e-commerce portal, allowing e-commerce sales year-to-date to reach about $3 billion.


Dow, Inc. in its new incarnation does not yet have enough history to be ranked by Institutional Shareholder Services.

A negligible percentage of shares is held by insiders.

Shorts were 1.15% of floated shares at October 14, 2019.

Financial and Stock Highlights

Dow's market capitalization is $40.2 billion at a November 5th, 2019 stock closing price of $54.20/share.

The company re-emerged in April 2019 so doesn't yet have a full 52-week price range. However, with a low-to-high range of $40.44-$60.52/share, the November 5th closing price was 90% of the high and 99% of the one-year target of $54.91.

The average of analysts' estimates for 2019 EPS is $3.55 and for 2020 EPS is $4.27, an increase of 20%. This gives a near-current price/earnings ratio of 15.3 and a forward price/earnings ratio of 12.7.

At September 30, 2019, the company had $46.95 billion in liabilities and $64.94 billion in assets, giving Dow a very steep liability-to-asset ratio of 72%.

Book value per share from the most recent quarter of $23.47 is less than half of market price, implying very positive investor sentiment.

ChartData by YCharts

The company's ratio of enterprise value to EBITDA is an investor-attractive 8.7, below the preferred ratio of 10 or less.

A stock with a traditional blue chip history, "new Dow" pays a dividend of $2.80/share, currently a 5.2% yield. Additionally, in the third quarter it executed $100 million of stock buybacks.

The company's mean analyst ranking from twenty-four analysts is a 2.5, or between "buy" and "hold."

The company's five largest institutional investors at June 30, 2019 were: Vanguard at 8.2%, Blackrock at 6.9%, State Street at 4.8%, Capital World Investors at 3.9%, and Capital International Investors at 3.6%. Some of these institutions represent index fund investments that match the overall market.

Other institutions may be waiting for additional quarters of results before investing in "new Dow."

Positive and Negative Risks

Many competitors and the boom-bust tendency to overbuild ethylene crackers could compress margins. Already, Dow has limited ability to raise its product polyethylene prices.

Recommendations for Dow, Inc.

Given its 5.2% dividend and wide range of operations, I recommend Dow, Inc. to dividend-seeking investors who are comfortable with only a few quarters of financials for this reformulated but large, experienced company. Analysts' average estimate of EPS upside next year is 20% and feedstock costs are expected to remain favorable for years to come.

However, no situation is a long-term gimme: other sectors such as heating, power generation, crop drying, and LNG/LPG export will compete for the same inexpensive feedstocks Dow uses.

The real fly in the ointment is that Dow will have less flexibility until it pays down its heavy debt load, currently at 72%.

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This article was written by

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Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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