Bernstein On DowDuPont Merger Structure: You're Doing It All Wrong

Dow Chemical Co DOW and E L Du Pont De Nemours And Co DD announced their intent to merge early December 2015, to much attention.

The proposed entity would join the combined $130 billion market cap pair into one conglomerate, with assets to be split three ways– an agriculture company with an estimated revenue of $19 billion, a material science company with $51 billion in anticipated revenue and the specialty products company with $13 billion in expected revenue.

Despite a January upgrade on "too much upside" to ignore from Bernstein, the research firm has issued a new report with a slightly more critical tone.

The New Note

According to the research note out Tuesday, Bernstein feels the current merger structure is "sub-optimal." Based upon new information from Dow's Q1 2016 earnings call, the research firm has gathered that the merger structure will "split into a focused Ag company, but then leave remaining Dow and DuPont largely intact."

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This poses a potential downside, in Bernstein's view, as it will create "three issues: (1) the $4 billion in synergies the companies have guided to are unrealistic, (2) Dow would remain an integrated commodity/specialty player, which we see historically as one of the company's main impediments, (3) DuPont's culture issues are not resolved and the DuPont-dominated ‘Specialty Products' business would be a shadow of DuPont, basically waiting to be carved up and sold."

Bernstein's Proposition

While the firm outlined the issues it sees as likely to arise from the current environment of both companies prior to the merger, Bernstein does offer suggestions as to how the situation can be rectified.

"We think the DowDuPont split-up plan should be to form three focused businesses: (1) an Agricultural Business, (2) a Commodity Business, and (3) a Specialty Chemicals Business [emphasis omitted]," according to Bernstein."

The firm justified this proposal by saying, "Doing so enables the resolution of the issues beleaguering the existing companies (the integrated structure at Dow, the muddled structure and diffuse accountability at DuPont), while also significantly increasing both cost and growth synergies."

In conclusion, Bernstein raised their fiscal 2016 EPS from $3.52 to $4.13. Dow is currently rated Outperform with an attached $64 price target; DuPont is likewise rated at Outperform, but carries a price target of $81.