Dow Pays Big for Rohm & Haas
Apparently, Dow Chemical (DOW) really wanted Rohm & Haas (ROH)—so much so that Dow on July 10 announced a bid for the specialty chemical company 74% above the previous day's closing price. That's a huge premium at a time when the chemical industry is getting burned by high energy costs and weak demand for its products in a slowing economy.
But the goal of the $18.8 billion deal is clear: Dow is trying to upgrade its image with investors, turning its focus from commodity chemicals to more advanced products.
Dow Chemical Chairman and Chief Executive Andrew Liveris said Rohm & Haas is the "ideal company to accelerate Dow's transformation." Dow's strategy is to "shape the 'Dow of Tomorrow'—a high-value, diversified chemicals and materials company with a leading global position in performance products and advanced materials," he said in a statement.
Investors Get Sticker Shock
Dow shares fell 4.2%, to 32.54 on July 10, a decline Morningstar (MORN) analyst Ben Johnson said might reflect some "sticker shock" at the $78-per-share cash bid. Rohm & Haas shares spiked 65% on news of the deal.
But HSBC (HBC) analyst Hassan Ahmed advised investors to buy Dow stock on weakness. "We believe the company, particularly after the Rohm & Haas acquisition, is on its way to being re-rated as a specialty chemical company," Ahmed wrote. After the acquisition, 70% of Dow's sales will come from specialty businesses, up from 55% now, he estimated.
Investors value specialty businesses because they are more stable, i.e. less sensitive to the ups and downs of the economic cycle. Morningstar's Johnson said the acquisition is a "solid strategic move," which will cover its high price tag over the long term.
Tough Time for Chemicals
As part of the deal, Dow is picking up an investor who specializes in long-term opportunities. Warren Buffett's Berkshire Hathaway (BRKA) is pitching in $3 billion and will become Dow's largest shareholder, with a 9.5% stake. The Kuwait Investment Authority is also investing $1 billion as part of the deal.
The current environment for chemical companies like Dow is difficult. "Things are pretty grim right now," Johnson says. Raw materials—especially oil and natural gas, main ingredients in many chemicals—are at record prices. Meanwhile, end markets like housing and the automotive industries are in recession. So far this year, Dow has already announced two major price hikes of up to 20% or more each, to cover its higher costs.
Dow is also promising to find $800 million per year in cost savings when the two companies are combined. As usual after an acquisition, some analysts were skeptical that Dow could find so many cost savings, but Johnson says Dow has a good track record of meeting acquisition synergy goals. Rohm & Haas won't be completely folded into Dow. It will keep its name and headquarters in Philadelphia, a sign that Dow doesn't want the acquisition to spoil Rohm & Haas' well-respected, innovative culture.
No Massive Share Buyback Program
"Dow is adding very valuable assets to its portfolio," JPMorgan (JPM) analyst Jeffrey Zekauskas wrote. An especially attractive part of Rohm & Haas' specialty business is its electronics materials division. However, there was some skepticism from Oppenheimer (OPY) analyst Edward H. Yang, who said Rohm & Haas' reputation for specialty, vs. commodity, chemicals is overblown. By his classification, "roughly half of [Rohm & Haas'] portfolio is commodity-like, similar to Dow," he wrote.
One side effect of the deal is that, after it's complete, Dow won't be able to use its cash on a massive share buyback program. That's a negative aspect of the deal for Dow investors. According to Yang, the deal could raise hopes for other large mergers and acquisitions in the chemical industry. Shares of specialty chemical companies rose 9% on July 10 on the news, according to Standard & Poor's.
That's welcome, though perhaps temporary, relief for the suffering chemical industry.