DowDuPont split into three companies in 2019, including Dow (DOW -0.47%), DuPont de Nemours, and Corteva. Since the split, investors have gotten the opportunity to invest solely in Dow, the commodity chemicals business.
On Oct. 12, Dow declared a quarterly dividend of $0.70 per share. That marked the 449th consecutive dividend paid by Dow or its affiliates since 1912. It's an impressive streak, but Dow hasn't raised its dividend since the spin-off, choosing instead to keep it unchanged at $0.70 per share.
Here's why Dow's decision to keep its dividend steady isn't a big deal, and why the dividend stock -- with its juicy 5.6% yield -- is worth buying now.
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A primer on Dow's business
Dow is a commodity chemical company that focuses on four main segments -- packaging, infrastructure, consumer, and mobility. It makes chemicals that are used in everything from adhesives to resins, coatings, plastics, seals, foams, gels, you name it.
A good way of understanding the business of commodity chemicals is to compare it to buying gas at a gas station. The differentiating factor in buying gasoline from one gas station or another is the price, not the brand. A company like Valero is simply trying to refine crude oil for the lowest price possible and sell it for the highest price possible. Dow is doing the same thing, just on the chemical side. So when you hear "commodity chemical company" it basically means the edge comes from superior procurement, manufacturing, and distribution rather than selling a better product than competitors.
Since Dow serves a wide swath of industries and applications, its business generally benefits from a growing economy. When its customers are making more products, they need more inputs from Dow. When its customers have lower demand, they may decide to produce less and cut orders from Dow.
From an engineering and science standpoint, Dow is a complex business. But as an investment it's actually fairly straightforward. The objective for Dow is to accurately forecast demand and efficiently run its 104 manufacturing sites. Since Dow can't control the ebbs and flows of the broader economy, the key for investors is to watch how the company manages costs and capital investments.
Dow is doing a good job navigating the business cycle
Dow's margins have taken a major hit recently as the company has faced slowing economic growth. However, Dow is on track to implement $1 billion in cost savings this year. And it is still earning plenty of profit to support its dividend and buybacks.
Since spinning off from DowDuPont, Dow has reduced its net debt and pension liability by $10 billion. In its Q2 earnings presentation, Dow indicated that nearly all of its debt is at a fixed rate, and that its 2023 interest expense is expected to be 40% lower than its 2019 interest expense thanks to the fixed rate and debt paydown.
Having a strong balance sheet gives Dow the flexibility needed to support buybacks and dividends while also investing in expansion.
In 2022, Dow spent about $2 billion on share repurchases. Its stock buybacks haven't been as sizable in 2023, at just $320 million in the first half of the year. But Dow is still using excess profits to reward shareholders through buybacks, not dividend raises.
While dividends provide a one-off benefit for investors, buybacks have long-lasting effects. Buybacks reduce the shares outstanding count, thereby boosting earnings per share all things being equal. So while Dow's unchanged dividend looks like a red flag on the surface, it's actually completely understandable given the company's capital allocation targets, the sizable buybacks, and the fact the yield is already 5.6% -- which is more than triple the yield of the S&P 500.
Risks worth considering
In the short term, Dow's business is under pressure from lower demand for its products and higher input costs associated with higher energy prices. Dow's business is vulnerable to changes in energy prices, both because of the energy needed for manufacturing and procurement and because many of Dow's products are derived from crude oil.
Longer term, Dow is challenged by the energy transition and carbon reduction targets. The commodity chemicals business is extremely carbon intensive. But Dow is taking action.
It has set a goal of reducing net annual carbon emissions by 15%, or 5 million metric tons, compared to 2020. By 2030, Dow wants to use 3 million metric tons of plastic waste and alternative feedstocks to make products. And by 2035 it wants to make sure that 100% of its products sold into packaging applications are reusable or recyclable.
Aside from expanding its existing operations, Dow is investing in low-emission projects like the world's first net-zero carbon ethylene and derivates complex in Alberta. Operating an efficient business and maintaining a strong balance sheet are essential if Dow wants to be able to afford to branch out of its wheelhouse into these low- and no-carbon alternatives.
Dow stock is a buy
The recipe for success for a company like Dow is to maintain a strong balance sheet so that it can support investments throughout the market cycle. Despite the company's earnings and free cash flow falling from their 2022 peak, Dow's business is still performing well.
What's unique about Dow stock is that it provides short- and long-term benefits to shareholders. The short-term benefit is the dividend. Longer term, an investment in Dow is essentially a bet on the growth of the global economy, giving investors potential upside if demand for commodity chemicals rises steadily over time.
All told, the strength of Dow's balance sheet and its market position make it a safe dividend stock worth considering now.
