On April 21, 2022, the management team of Dow (NYSE: DOW) announced financial results covering the company’s first quarter of fiscal 2022. In addition to outperforming significantly on its top line, the company posted a solid performance on its net result. Overall, the company’s growth has been encouraging and cash flow is strong, although the most recent results may not be repeatable. Combined with the fact that the shares are cheap and that management is actively asking the company to buy its own shares in the market, I can’t help but view this prospect as attractive at the moment.
A diversified industrial activity
Few companies have the international recognition and long operating history of Dow. This company is truly a global company with a market capitalization of $49.3 billion and multiple operating segments that touch a wide variety of markets. The first and largest of these segments is called Packaging & Specialty Plastics. According to management, this unit is made up of two different but integrated companies. The first of these is the Hydrocarbons & Energy unit, while the other is called Packaging and Specialty Plastics.
Within the Hydrocarbons & Energy unit, the Company produces and sells ethylene, which is widely consumed by this aforementioned segment for the production of packaging and various specialty plastics. The unit is also responsible for the production of propylene and aromatic products which are used to produce everyday consumer goods. In addition, the unit is also responsible for the production and supply of electricity and raw materials used by the company’s manufacturing sites. Meanwhile, the Packaging & Specialty Plastics business offers an extensive product portfolio that involves the production and sale of acrylics, copolymers, elastomers, low density polyethylene, resin additives and modifiers, semiconductor compound and cladding solutions, and more. Major ones and uses here include automotive parts, food and supply chain packaging, footwear, household items, photovoltaic encapsulants, sporting goods, and more. In the company’s 2021 fiscal year, this segment as a whole was responsible for 51.2% of the company’s revenue and an impressive 67.8% of its profits.
The next segment to pay attention to is the industrial intermediaries and infrastructure segment. Like the Packaging & Specialty Plastics segment, this segment also houses two different business units. The first of these is called Industrial Solutions. This unit offers a variety of products such as de-icing fluids, ethylene oxide, surfactants, demulsifiers, shale inhibitors, etc. And the use cases here include additives for lubricants, paper, heat transfer fluids, solvents for electronic processing, and much more. The other business unit is called Polyurethanes & Construction Chemicals. Through this, the company manufactures products such as caustic soda, acrylic thermosetting resins, the company’s own brand of latex powder, acrylic emulsion polymers, etc. End uses here include the construction market, producers of caulks and sealants, cementitious tile adhesives, roof coatings, etc. Last year, this segment was responsible for 30.7% of the company’s revenue and 23.3% of its profits.
The last segment to pay attention to is called Performance Materials & Coatings. Through this segment, the company also has two different operating units. The first of these is called Coatings & Performance Monomers. Through it, the company manufactures products such as rheology modifiers, acrylic binders, foam cell promoters, acrylic resin, etc. These eventually find their way into architectural paints and coatings, industrial coatings and papers, adhesives, inks, and other related offerings. The other unit, on the other hand, is called Consumer Solutions and is responsible for the production of adhesives and sealants, defoamers and surfactants, and other related offerings. And uses here include the personal care and home care markets, industrial and chemical processing, consumer goods and electronics, and more. In the company’s 2021 fiscal year, this segment accounted for 17.6% of its revenue and 8.8% of its profit. The remaining 0.5% of sales are attributable to the company’s corporate activities. Included under this umbrella are non-business aligned joint ventures, non-business aligned litigation costs, and discontinued or non-business aligned operations. It is not surprising that this unit generated a loss last year, this loss amounting to 253 million dollars.
Over the past few years, the fundamental picture for Dow has been rather mixed. Revenues fell from $43.73 billion in 2017 to $49.60 billion in 2018 before plunging in two years to just $38.54 billion in 2020. The good news for investors is that 2021 is looking up. turned out to be a great year, with revenue soaring to $54.97 billion. Overall, the business benefited from a 40% increase in local price and product mix, as well as a 1% increase in volume. This growth continued in the company’s 2022 fiscal year. In the first quarter of the year, the only quarter for which data is currently available, sales totaled $15.26 billion. That’s 28.5% more than the $11.88 billion the company announced a year earlier. It should also be noted that this level of sales was $724.38 million higher than analysts had expected. During the quarter, the company’s product volume increased by 3%, although the company was impacted by unfavorable currency fluctuations of 3%. The real driver was therefore a 28% increase in the prices of its products. Management attributed this to tight supply and demand dynamics, as well as the pass-through of higher commodity prices.
In terms of profitability, Dow has been rather volatile. The company generated net losses in two of the past three years, but the $6.41 billion profit in 2021 eclipsed any results achieved in previous years. Cash flow has been more consistent than earnings. After generating a net outflow of $6.44 billion in 2017, the company has steadily increased its cash flow between 2018 and 2021, with this metric rising from $3.10 billion to $7.07 billion. If we adjust for changes in working capital, the picture was fairly consistent between 2017 and 2020, with a low point of $4.75 billion and a high point of $5.33 billion. Then, in 2020, the company saw its operating cash flow jump to $8.52 billion. During this same period, EBITDA has also fluctuated wildly, ranging from a five-year low of $5.59 billion to a high of $12.38 billion. That high point was in 2021.
Due to rising prices for its products, strong net results continued in fiscal 2022. Net profits for the first quarter of the year were $1.57 billion. That compares to $991 million generated a year earlier. On a per share basis, the company generated earnings of $2.11. On an adjusted basis, that figure was $2.34. By comparison, analysts were expecting earnings per share of just $1.95. Thus, the company easily exceeded expectations there. Cash flow from operations went from a negative $228 million to a positive $1.61 billion. If we adjust for changes in working capital, it would have gone from $800 million to $3.20 billion. And during that time, the company’s EBITDA grew from $2.27 billion to $3.17 billion. For the company’s 2022 financial year, the Company did not provide any guidance. But if we annualize the EBITDA figure and apply that same growth rate to operating cash flow, we should get EBITDA of $17.28 billion and operating cash flow of $11.89 billion. of dollars.
When it comes to company pricing, the overall process is quite simple. Using our projected 2022 numbers, the business is trading at a price to adjusted operating cash flow multiple of 4.1. This compares to the 5.8 figure we get if we rely on 2021 results. Meanwhile, the EV/EBITDA multiple should be 3.5. That compares to the 4.9 we get based on 2021 results. At first glance, the company looks extremely cheap here. That said, investors should not assume that the current environment will remain so forever. Eventually, either inflation will recede or costs will catch up with the business. A better way to assess the company is to assume financial results return to what we saw in 2019, before the pandemic hit. Even then, however, the stocks look quite attractive. The price to adjusted operating cash flow multiple would be 9.3 and the EV to EBITDA multiple would be 8.4. To put the price of the company into perspective, I decided to compare it to five similar companies. Using 2021 results, these companies range from a low of 2.4 to a high of 15.9 when focusing on the price to operating cash flow method. Three of the five companies were cheaper than Dow. Instead, using the EV to EBITDA approach, the ranges from 2.7 to 9.8. In this case, two of the five companies were cheaper than our target.
|Company||Price / Operating Cash||EV / EBITDA|
|LyondellBasell Industrial NV (LYB)||4.7||5.4|
|Westlake Corporation (WLK)||6.9||5.6|
|Olin Corporation (OLN)||5.2||4.7|
|Braskem SA (BAK)||2.4||2.7|
Right now, things are going extremely well for Dow. That said, I don’t expect current market conditions to be the new normal. But even if my prediction comes true, stocks look pretty cheap on an absolute basis. For this reason, I believe the company has long-term upside potential, but only for investors who don’t mind some year-to-year volatility. There is also the fact that management is currently rewarding shareholders generously. On April 13, for example, the company announced a new $3 billion share buyback program. That’s on top of the $775 million the company still has to work with under its old buyout plan. This particular plan, management expects to use it by the middle of 2022. Given the attractiveness of equities, management buyback of equities with excess cash flow seems like a good idea to me. which should ultimately create value for the company’s shareholders in the long term. This further adds to my positive feeling about the company, which ultimately led me to view it as a buying opportunity.