Image source: The Dow Chemical Company.
The case for investing in America's largest chemical manufacturer took a big leap forward in 2014. The Dow Chemical Company (DOW) reached several full-year records through a range of efforts that included divesting nonessential assets, investing in growth opportunities, and driving down production costs at its manufacturing facilities. Despite questions surrounding the company's competitiveness in a low-price oil environment, which was largely responsible for the stock's 20% drop from November to early January, management insisted lower oil prices can actually boost performance. Investors can read previous coverage of Dow Chemical's full-year 2014 earnings for financial details, but nothing beats listening to the insights of leading executives. So here are five things from The Dow Chemical Company's latest earnings conference call that management wants you to know.
Lower oil prices boost demand, strengthen competitiveness
Wall Street gets spooked pretty easily these days. So it was no surprise to see Mr. Market punish Dow Chemical when oil prices started falling in late November. After all, much of the company's chemical products are manufactured from petroleum and natural gas. The situation seemed fair at the time, but CFO Howard Ungerleider and later CEO Andrew Liveris encouraged investors to consider the big picture.
Low oil price will be a tailwind for global demand and for our products. We're also maintaining a constant productivity focus so that we can continue to deliver in a low oil price world. In addition, the slow oil price environment is further mitigated by our flexible feedstock position in the United States and Europe and has made this new energy environment a net competitive position for Dow.
We've returned to operating rates as a company that we had in 2007. How have we done that? We've taken out low end assets. We've taken out uncompetitive assets and the rest of the industry has done the same. So we believe that this is all tailwind as you get into the back half of this year.
In other words, focusing on oil prices only considers one part of the equation. Yes, lower oil prices translate into lower selling prices, but cheaper crude oil also translates into lower production costs. The difference between production costs and selling prices is the determining factor for profitability, not selling prices alone. Dow Chemical believes the spread will remain intact and support healthy margins thanks to its increased operating efficiency, while increased demand for its products (spurred by lower selling prices) will more than make up for any negative effects.
Shareholder value creation is on expert level
Several years ago, Dow Chemical set out to increase annual EBITDA to $10 billion. That seemed laughable immediately before or after the Great Recession considering the company's annual EBITDA had never topped $7.7 billion (achieved in 2011). But the company has executed to date, allowing it to create record levels of shareholder value. CFO Howard Ungerleider summed up the progress:
In total we have returned nearly $6 billion to shareholders in 2014 representing an all-time record. Earnings, cash flow, and shareholders remuneration are each an all-time high. Our strategic decisions have created a portfolio that is less volatile and has lower risk due to our integration, global scale, and product market diversity delivering an earnings base much higher than previous economic cycles with significant financial flexibility.
A focus on increasing margins by driving down production costs and offering more valuable products has paid off. Case in point: The high-margin performance plastics segment added $460 million in EBITDA in 2014, which accounted for 47% of the company's total adjusted EBITDA growth during the year.
Meanwhile, the company sold off $2 billion in low-performing, nonessential assets in 2014 and plans to divest $7 billion to $8.5 billion in all. By definition, shedding businesses that weigh on margins will increase margins, along with generating cash from selling the assets. That cash will be reinvested in growth initiatives, debt repayments, and shareholder value creation.
New agricultural products expected to add $1 billion in EBITDA
Dow's new Enlist Duo weed control system will be the first corn and soybean crops capable of tolerating two herbicides. Management said demand from farmers remains strong ahead of the first phase of the portfolio's commercial launch in 2015. It certainly signals the dawn of a new era of agricultural tools that will help farmers increase yields, but Ungerleider reminded investors that Dow Chemical's growth in agriculture won't rely on one product alone.
New products will help farmers address resistance issues and deliver 20% to 30% higher margins than our base crop protection products. Dow AgroSciences innovation engine combined with our growing presence in seeds, our ongoing focus to both improved working capital and optimized costs will enable ongoing margin expansion.
That "margin expansion" touted by the CFO is expected to result in an additional $1 billion in EBITDA by 2021 -- all from just five new agricultural portfolios.
Image source: Dow Chemical earnings presentation.
Petrochemical growth home and abroad
CEO Andrew Liveris also spoke about the momentum in petrochemical operations from both existing production and five growth projects coming online through 2017.
We have boosted output from our existing asset base more than 4% behind solid demand and innovation and we're primed to bring our key growth projects such as a first unit in Sadara and the PDH unit in Texas online this year.
Dow Chemical in 2015 is to begin operations at three new facilities that should create over $700 million in annual EBITDA at full tilt. Two additional projects coming online in 2016 and 2017 are expected to add another $2 billion in annual EBITDA, bringing the total annual EBITDA generated from the five facilities to over $2.7 billion.
The most exciting growth project belongs to the Sadara joint venture with Saudi Aramco, which will be one of the largest petrochemical complexes in the world when completed in 2016. The first unit is scheduled to come online in the second half of this year, while the second and third units should be operable later next year. Despite Dow owning just 35% of the JV, investors should see upward of $500 million in annual equity earnings from Sadara through 2026.
Did you hear? It was a record year
Perhaps nothing captures the direction of Dow Chemical better than this: Management said the word "record" 22 times on the 2014 earnings conference call. Ungerleider simply couldn't control himself (he is the CFO, after all):
- "We achieved record results, thanks to our decisive and disciplined approach to executing on our priorities."
- "EBITDA rose nearly $1 billion, achieving a full-year record of $9.3 billion on an adjusted basis."
- "And we delivered a second consecutive year of record cash flow from operations."
- "In total we returned nearly $6 billion to shareholders in 2014 representing an all-time record."
- "It was a record year for Dow automotive."
You get the idea. To recap: Dow Chemical set new full-year watermarks for adjusted EBITDA, cash generated from operations, capital returned to shareholders, and a number of individual segment sales, volumes, and earnings. Its scary to think the bulk of the record year was catalyzed from established operations, which means all the growth projects outlined above will keep profits moving in one direction in the years ahead: up.
