Three months after initially revealing his stake in The Dow Chemical Company (NYSE:DOW), Dan Loeb has managed to get some important concessions from management including high dividends, approval for $4.5 billion in stock buybacks, the commitment to more divestitures, and a stated commitment to become more transparent, but that doesn’t mean he is going to back off his other demands.

“Despite the positive steps taken, we still believe Dow is under?earning its potential in its petrochemical businesses, a concern that management has yet to adequately address,” writes Dan Loeb in the 1Q14 Third Point letter to investors that came out today. “Our under-earning analysis suggests that Dow’s commitment to the downstream integrated strategy has actually created a significant drag on upstream profitability.”

Dow has plenty of ethylene capacity, but not enough revenue

Since The Dow Chemical Company (NYSE:DOW) doesn’t provide enough information for investors to easily compare capacity and EBITDA for its petchem business, Loeb compares Dow to its largest North America competitor LyondellBasell. Even though it completely outstrips Lyondell in terms of ethylene capacity, Dow actually has lower EBITDA. Loeb says that based on a bottom-up estimate of how much money Dow should be earning, compared to what it’s actually bringing in, the company is under-earning by at least $2.5 billion every year, while bottom-up estimates for Lyondell came in essentially on the mark.

ethylence capcity v ebitda dow 0514  Loeb

bottom up v actual ebitda dow 0514

Similarly, The Dow Chemical Company (NYSE:DOW) employs 33,000 people in its petchem business (Excluding joint ventures), compared to 12,800 at Lyondell, but has lower EBITDA has noted above and only slightly higher revenues. Dow’s petchem workforce generates $1.15 revenue and $0.15 EBITDA per employee, compared to $2.49 and $0.44 respectively at Lyondell.

Loeb argues that downstream petchem businesses don’t add value

The problem is that the petrochemicals don’t gain any incremental value as they move downstream through three or four business units within The Dow Chemical Company (NYSE:DOW) (Lyondell doesn’t have these downstream units). The return on assets (ROA) for Dow’s most profitable unit, performance plastics, is an impressive 16.5%, as the company likes to point out. But Loeb presents this as further proof that the company needs to get rid of its downstream petchem businesses because the total Dow petchem ROA is just 8.6%, dragged down by Feedstocks & Energy (4.6%) and Performance Materials (2.9%). Dow’s company-wide ROA is 5.8%, which puts it in the bottom quarter of the universe of chemical companies that Dow itself has chosen to use as a benchmark.

Full letter from Dan Loeb below.

Third Point Q1 2014 Investor Letter TPOI by ValueWalk