Consider Dow Chemical (DOW) Instead of DuPont (DD) Ahead of Merger

In my opinion, Dow Chemical (NYSE:DOW) is set to generate strong returns for shareholders, thanks to its smart business strategy of creating a monopoly position in the chemical industry. The potential merger with DuPont (NYSE:DD) would not only improve the market penetration, it will also generate $3 billion in cost synergies.

Dow Chemical has been generating higher than average industry returns for shareholders over the last five years, supported by its potential to generate a sustainable growth in earnings. Its earnings increased in the last 18 successive quarters.

Aside from the potential merger with DuPont, which is likely to close in August, Dow Chemical individually looks strong enough to generate increasing returns for investors. For instance, in the last quarter, the company’s sales increased 23% Y/Y to $13.2 billion, driven by higher sales from existing businesses and the addition of Corning’s silicones business.

Moreover, four out of five business segments generated volume gains, while the company’s EBITDA also increased at a massive rate, due to higher sales, operational efficiencies and price improvement.

Dow Chemical has also been making investments in growth opportunities to extend the momentum in the coming years. The company has been advancing its U.S. Gulf Coast projects and completed the Texas cracker in the first quarter, the first world-scale ethylene unit to start up on the U.S. Gulf Coast. Furthermore, SADARA, the largest chemical company ever built in a single phase, has now 16 to 26 production units in operating or start-up mode.

Before concluding this article; let’s take a brief look at DuPont’s recent performance to gauge the future potential of the combined company. In the latest quarter, DuPont generated sales growth in the mid-single digit range, while operating earnings increased at a double-digit rate in the first six months of 2017. Its sales in the latest quarter were boosted by a growth in Agriculture, Performance Materials, and Electronics & Communications business segments.

In Conclusion

Both companies have been operating in similar markets and competing with each other in the past. However, Dow Chemical appears significantly undervalued compared to DuPont considering valuations and future revenue growth potential. Dow currently trades around 16 times to earnings and 3 times to book value, while DuPont is trading close to 28 times to earnings and 6.6 times to book ratio. Thus, ahead of the merger, buying Dow shares instead of DuPont’s looks like a good strategy.

The author of this article holds no position in any of the companies mentioned above.

Alexander is an analyst for who specializes in index and commodity trading. His outlook is usually near-term to medium-term. He has over 10 years of experience in the financial industry and began his career at the dealing desk. Alexander holds a Bachelor’s degree in Economics from University of Delaware.