This summary is based on the third quarter fiscal 2007 earnings call conducted by Dow Chemical Company (DOW) on October 25, 2007.
Chairman and CEO: Andrew Liveris
EVP and CFO: Geoffery Merszei
Corporate Director IR: Kathleen Fothergill
Manager, IR: Jeff Tate
Key Investors Issues
- The earnings per share fell to 42 cents from 53 cents in the prior year.
- Quarterly revenue rose to $13.6 billion from $12.36 billion in last year.
- Year over year, volume improved 5%, the strongest growth since Q3 of 2004.
Third Quarter Fiscal 2007 Financial Highlights
Dow Chemical reported record sales of $13.6 billion for the third quarter of 2007, a 10% increase compared with the same period in 2006.
Geographically, the firm saw double-digit sales growth in Europe, Asia Pacific and Latin America. With such strong growth, the regions outside the U.S. now account for more than 65% of Dow’s global revenues. Including the share of sales from joint ventures that number in fact is now more than 70%.
Net income was $403 million compared to $512 million in the prior year.
The 2006 earnings included the impact of the charges for restructuring activities. Dow reported earnings of 42 cents per share, including the impact of the charges and reflecting a higher underlying tax rate than seen in recent quarters.
The earnings include a few key items:
- A pre-tax charge of $59 million, or 4 cents a share, for purchase, process, research and development related to recent acquisitions, primarily on the agriculture side.
- The third quarter earnings also included a charge to the provisions for income taxes of $362 million, equivalent to 38 cents per share, arising from a change in German tax law that will lower Germany’s corporate tax rate from around 37% to 28%. Now on an ongoing basis, this reduced tax rate in Germany is clearly good news, but for the third quarter, its impact has been to reduce tax loss carryforwards. Now these NOLs relate to the operating losses incurred in Germany during the remediation and reconstruction of the firm’s assets at BSL in the former East Germany, which was acquired back in 1995, so this dates back over 12 years. These assets now provide the platform for growth throughout the dynamic markets of Eastern Europe. Now the new German tax rate takes effect in January of 2008, but since the law was adopted during the third quarter, the firm recognized an adjustment to the tax loss carryforward, which was in accordance with U.S. GAAP in the quarter.
The good news is that starting next year in 2008, the firm expects the underlying tax rate for the company as a whole to be reduced by around 0.5 percentage point. Even excluding the impact of the German tax law change, the underlying tax rate for the third quarter was somewhat higher than what it has seen for quite a while. On a year-to-date basis, the underlying rate is a shade below 25%. Using that 25% rate, earnings would be 87 cents per share, the second highest third quarter earnings in Dow’s history.
Profit before tax for the third quarter was $1.1 billion, including a $59 million pretax charge for purchased in-process research and development costs related to recent acquisitions.
This compares with $670 million in 2006, which included pretax charges totaling $579 million for restructuring activities. Given the underlying strength, the pre-tax income lower due to two factors. First, as expected, the firm saw higher operating expenses as it moved forward with its strategy to invest for growth in performance portfolio. The firm supported newly acquired businesses, increased investments in innovation, and enhanced its market capabilities for long-term growth. Second, the company had the negative impact of some plant outages.
Year over year, volume improved 5%, the strongest growth since the third quarter of 2004.
Demand was particularly robust in Europe, Asia Pacific and Latin America, which saw increases of 7%, 7% and 9%, respectively. North America also saw increased demand, despite continued weakness in the U.S. housing and automotive sectors, while India, the Middle East and Africa reported a decrease in volume, reflecting the divestiture of the Safripol business in South Africa during the fourth quarter of 2006. The company recorded solid price gains in all operating segments, with virtually all businesses posting year-over-year increases. Price was up in all regions, with the strongest gains outside North America.
Dow Chemical saw major increase in feedstock and energy costs, up almost $400 million year over year.
Dow’s feedstock and energy bill topped $6 billion for the first time in the company’s history. In 1999, the firm paid just $6.1 billion for the entire year and this includes purchases for both Dow and Union Carbide. Now looked at another way, the cost of feedstock and energy has climbed from consuming 23% of net sales to the current 44% year-to-date.
Now the firm’s strategy addresses this significant challenge on two fronts. In the long term, the company is building its portfolio of joint ventures with access to low-cost feedstocks. Shorter term, the firm is focused on controlling the things that it can control best: aggressive action to maintain margins, tight expense management, and a sharp focus on financial discipline across every aspect of its operations. In this regard, capital spending in the third quarter was $519 million, higher than the same period a year ago but fully in line with expectations. It brings the year-to-date total to $1.3 billion, keeping the firm within its full-year $2 billion target.
The firm’s cash flow remained healthy during the quarter, supporting investment activity on several fronts.
The company invested $300 million to repurchase 7.1 million shares as part of its buyback program, bringing the total so far this year to $1.1 billion for around 25 million shares.
