Dow Chemical Co., Midland, Mich., and Union Carbide Corp., Danbury, Conn., vaulted themselves into the number two position among chemicals producers by announcing a planned merger Aug. 4 (OGJ, Aug. 9, 1999, Newsletter). If approved, the $11.6 billion transaction will create a new Dow Chemical with $24 billion in revenues, a market capitalization of $35 billion, and assets of more than $30 billion.
Industry and financial analysts are viewing the merger as a smart, well-timed move that will put pressure on competitors-especially in the polymers industry-possibly driving them to strike similar deals. "The merger appears to be a good strategic fit for Dow, increasing technology and production capabilities and providing opportunities for cost reduction in the combined operations," said Duff & Phelps Credit Rating Co., Chicago.
Under terms of the merger agreement, Dow will issue about 3.8 million shares in order to qualify for pooling-accounting treatment. After the transaction is completed, former Union Carbide shareholders will own about 25% of Dow.
Dow's headquarters will remain in Midland, and CEO and Pres. William S. Stavropoulos will retain his position, as will Chairman Frank Popoff. Union Carbide Chairman and CEO William H. Joyce will become vice-chairman of Dow. The firms expect the transaction to close early in first quarter 2000.
Synergies
Dow and Union Carbide have similar product portfolios and expect to achieve significant synergies as a result of their union (see figure, p. 26).
"We are companies with similar cultures and a complementary fit," said Stavropoulos.
Moody's Investors Service, New York, offered a similar characterization of the deal, saying it has "significant cost and marketing synergies, as well as complimentary technology, products, and geographical spread."
Moody's predicts that Dow will continue to adhere to its conservative financial policies following the merger and says that Carbide will bring a lot to the new Dow: "Union Carbide benefits from a history rich in technology and a strong track record of patent development and processing know-how. Strengths in process technology and licensing, good production economies, and leading market shares position Union Carbide as a low-cost producer. Moreover, its cost position is enhanced by low-cost feedstocks, particularly in Alberta, Kuwait, and Malaysia, where a major project is currently under construction."
Chemical consulting firm Kline & Co. Inc., Little Falls, N.J., says the merger will position Dow as a global leader in polyethylene, significantly ahead of the current leader, Equistar Chemicals LP-a joint venture of Lyondell Chemical Co., Millennium Chemicals Inc., and Occidental Petroleum Corp. It also gives Dow polypropylene capacity in North America, whereas it had a presence only in Europe before.
"The combined technology platform of Dow Chemical and Union Carbide presents further opportunities for licensingellipseon a global basis," said Kline & Co. official Garrett Gee. "Consequently, an interesting scenario to monitor is what will happen to (Union Carbide's) Univation joint venture with Exxon Chemical (Co.) that employs Exxon's metallocene catalyst technology, in contrast to Dow's single-site Insite catalyst technology."
The merger also combines the leading styrene butadiene latex producer (Dow) with the leading vinyl acrylics producer (Union Carbide), "resulting in the combined company becoming the second largest emulsion polymer supplier, behind Rohm & Haas (Co.), in North America," said Kline & Co.
Kline Vice-Pres. James Weatherall added, "However, since each company's business focus is on different end-use markets, the issue we are wondering about is what is the likely scenario for Union Carbide's emulsions business. Will it be integrated, sold, or kept as a stand-alone business?"
Gee said, "We expect that the gas-phase EPDM (ethylene propylene diene terpolymer) business of Union Carbide is likely to be combined with the DuPont-Dow Elastomers joint venture. Will it lead to some new partnerships in this business, in light of this development?"
Industry cycles
Dow sees the merger with Union Carbide as another step in its long-term growth plan. The company began an internal transformation in 1993 that has involved reducing costs by $2.2 billion and divesting more than $10 billion worth of nonstrategic assets. Dow has also added $10 billion worth of new assets since then, split about evenly between capacity additions and acquisitions.
"Dow's capital structure has been evolving as it divested nonstrategic assets and redeployed funds for additional chemical investments or additional acquisitions in the chemical and agricultural areas," said Duff & Phelps.
Despite what Moody's and Duff & Phelps both see as positive financial gains for Dow in recent years, the credit-rating firms are concerned about the trough cycle the petrochemical industry is in at present.
"Notwithstanding the positive characteristics in this deal," said Moody's, "as well as the favorable results and trends in Dow's performance segments, earnings cyclicality continues to be significant in Dow's risk profile. While the merger will not significantly reduce the cyclical portion of the portfolio, or the cyclical nature of the products sold, the expected cost synergies and the strengths of the combined entities should allow better profitability in (basic chemicals) over the cycle."
Duff & Phelps sees the move as a strong basis for recovery when the cycle swings back in the industry's favor. "The company's multiyear cost-reduction efforts have improved core chemical operations, and cash is strong," said the firm. "(Dow's) credit statistics should improve with improvement in the chemical sector."
Growing competition
The Dow-Union Carbide merger will have an especially great effect in the polymers segment, says Kline & Co. "The combined company is likely to impact other major polymer companies in a significant manner through its low-cost position and global presence."
Kline's Weatherall said, "Because of the size and technical platform that the combined company now has, its competitors will have to rethink their strategy (in order) to compete. The merger enables the two companies to leverage their core strengths to complement the combined product portfolio and better serve a wider range of customers. Both companies have done an excellent job of rationalizing their cost structures, and this will lead to tremendous pressure on their competitors.
"We expect continued consolidation activity in the polymer industry as an outcome of the Dow Chemical-Union Carbide merger," said Weatherall.
He is not alone in this opinion. Moody's says the transaction is consistent with trends in an industry where consolidation is driven by increasing competition and slower demand growth: "Industry consolidation is expected to continue, given the growing importance of technology, global reach, and world-class production capabilities."
Proving the consolidation point, German chemical major BASF AG responded to the Dow-Union Carbide merger by stating that it is "on the lookout for acquisitions" and that its planned listing on the New York Stock Exchange next year will serve as a tool to help it carry out such plans.
"The chemical industry is going through a period of radical change, and we will certainly take advantage of interesting opportunities," said BASF Chairman Juergen Strube.
Despite BASF's proclamation, Kline & Co. sees the new Dow as well-positioned for future competition. Senior Consultant Jay Dwivedi said, "We are very impressed by the commitment of both Dow Chemical and Union Carbide to using technology as a weapon to enhance their competitiveness. We expect that this strategy will strongly position them to maintain their competitive advantage that is derived from technology and market leadership."
