Citi Research analysts, P.J Juvekar and John J. Hirt believe that the debate regarding the proposal of Daniel Loeb of Third Point to split up The Dow Chemical Company (NYSE:DOW) into two companies — Dow Petrochemical and Dow Specialties – will heat up.
They noted that investors were not surprised with Third Point’s involvement in the The Dow Chemical Company (NYSE:DOW) given the fact that E I Du Pont De Nemours And Co (NYSE:DD) and Air Products & Chemicals, Inc. (NYSE:APD) are experiencing a similar situation.
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Dow Chemical split-up discussed in the 1990s
The analysts are convinced that Third Point will gain serious attention from the management and board of directors of the company. According to them, the idea of separating the businesses of The Dow Chemical Company (NYSE:DOW) has been discussed since the 1990s. However, the management defended the integrated strategy and pointed out the benefits of downstream integration from chlorine and ethylene.
Third Point arguments
Juvekar and Hirt noted that Third Point’s argument arrived at a critical time because the company is already de-emphasizing its chlorine chain. Third Point argues that the vertical integration of the company conceals the profitability of each business to an outsider because it transfers its ethylene at a cost to downstream specialties while transferring other molecules at a reduced market price.
“We do not disagree to the point that commodities may be subsidizing specialties,” according to the analysts.
Third Point also argued that The Dow Chemical Company (NYSE:DOW) may be operating its ethylene crackers sub-optimally in the United States. One example is if the company is using more propane feedstock to make propylene to support its downstream polyurethanes and acrylics chain. The analysts noted that an independent company will maximize profitability of each asset. They also said that it is interesting that Third Point included performance materials as part of the commodity business where it seems to belong.
Juvekar and Hirt said they were surprised that Third Point was not aggressive in its EBITDA targets for the proposed Dow Petrochemical and Dow Specialty. Third Point estimated that Dow Petrochemical could generate $9B+ in EBITDA and Dow Specialty around $4B to $5B EBITDA
by 2017 to 2018. The analysts estimated that their highest EBITDA estimate for 2017/18 is almost $13B based on a value of $64 at the peak and a value of $50 when discounted back at 10% to 2015. They also estimated that there will be an additional $5/share in value if The Dow Chemical Company (NYSE:DOW) will force the conversion of the outstanding preferred shares to common stock, and subsequently repurchase the common stock to offset dilution. They clarified that the $13B estimated includes Sadara, PDH, and the new greenfield cracker in the U.S..