Dow Inc

We are transferring coverage of BASF, Dow, and LyondellBasell, which are some of the largest global commodity chemical producers. These firms primarily create value by converting oil and natural gas liquids into higher-value plastics, polymers, foams, and additives for a wide range of end markets.

The bottom line: We are lowering our fair value estimate for BASF to EUR 55 from EUR 61, for Dow to $32 from $48, and for LyondellBasell to $75 from $95. We assume that the return to midcycle levels will be gradual and structurally lower than past cycles, driven by oversupply from China. We lower Dow's moat rating to no moat. We view production exposure to regions outside of North America and the Middle East as a disadvantage. We think Dow is overexposed to high-cost European production, amid structurally weak industrial demand, eroding a potential moat. We are maintaining our moat ratings for BASF and Lyondell at none and narrow, respectively. We are also maintaining a Standard Morningstar Capital Allocation rating for Lyondell, while lowering our Capital Allocation Rating to Poor for Dow, and upgrading BASF to Standard.

Big picture: While the conflict in the Middle East has provided temporary relief for commodity chemical pricing, we don't view it as a resolution to the oversupply that has weighed on the industry for the past three years. We see Lyondell as having the most upside, following major capacity closures in Europe. This will unlock cash for Lyondell to protect its dividend and defend the balance sheet, and improve its competitive positioning. These actions should prompt a rerating of the stock. Ultimately, more capacity closures and slower additions are needed for the industry to return to midcycle levels. The primary risk is material capacity additions in East Asia, with global supply continuing to outpace demand, delaying a recovery implicit in our estimates across all three names.

We lower our fair value estimate to $32 per share from $48. Our reduction reflects two key changes: a more gradual cyclical recovery and, more importantly, a lower structural view of midcycle margin. We think that Dow is overexposed to regional end markets that have weak recovery prospects, like construction in Europe, and we believe supply will continue to compress cash margins for Dow’s commodity products.

We forecast revenue and profits to rise in 2026 as the conflict has created a supply shock to the commodity chemicals industry; we expect this will be temporary and expect a decline in 2027 as supply begins to normalize. We estimate that for every dollar move in the price of oil, Dow’s EBITDA fluctuates by around 35 million, and for every $100/ton move in the price of polyethylene, Dow’s EBITDA fluctuates by $480 million. We expect the price of oil to come back down to prewar levels over the next year, therefore, we expect Dow’s profitability to retreat as well, with self-help measures slightly offsetting these effects.

Dow's asset-heavy commodity chemicals manufacturing plants are subject to a high degree of operating leverage. As a result, plant capacity utilization is a key profit driver. In the near term, Dow should be able to run at a higher capacity utilization and benefit from higher prices. We see operating EBITDA margin expanding to the midteens in 2026, before falling back to the low double digits. In midcycle conditions, we forecast firmwide adjusted EBITDA margin to gradually expand, but rest well below previous cyclical peaks, as supply and demand normalize.

We assign Dow a no-moat rating. We think Dow fails to clear the hurdle for a cost advantage moat, owing to long-run industry oversupply. Moats in chemical production are assigned to commodity processors that have an advantage in procuring low-cost raw materials, using them to produce higher-value materials such as plastic resins, which can be sold to downstream manufacturers. The value that Dow creates and captures is the price spread between these inputs and its products multiplied by the volume it can produce and sell. We believe the chemical industry is in a structural glut and will remain well-supplied over the long term.

Chemicals and plastics are traditionally made from crude oil derivatives (naphtha), natural gas liquids (ethane and propane), or coal. As most chemicals are commodities, feedstock cost is a major determinant of moats and profitability throughout a cycle, accounting for around 60%-70% of the total cost of goods sold, depending on the feedstock used. Ethane represents the largest share of NGL production and is used almost exclusively to produce ethylene. In ethylene production, the US and Middle East production are the two lowest-cost regional producers, owing to low-cost natural gas feedstock. Conversely, Europe and Asia commonly use crude oil-based naphtha as feedstock.

Our midcycle assumption for Brent oil sits at $65 per barrel, while our natural gas midcycle for US Henry Hub sits at $3.70 per million British thermal units. Over the long term, we project that the spread between natural gas and Brent crude will remain wide enough for US producers to maintain a shared regional edge, even if oil falls and gas rises.

Still, industry oversupply overcomes this edge given the impact on spreads. Petrochemical overcapacity stems from three forces with distinct incentive structures: the US shale buildout, state-backed capacity additions in the Middle East and China, and industry assumptions of secularly declining refined-product demand. Of the three, we think continued Chinese expansion poses the strongest threat to Dow's moat, since state-backed supply can expand independent of unit economics. For these reasons, Dow and other chemical peers have begun “rationalizing”—selling or idling—their capacity that is higher on the cost curve, mostly in Europe.

Dow’s American assets are in the top quartile of overall cost to produce a metric ton of ethylene. This is due to proximity to the US Gulf Coast for international trade, and cheap natural gas and natural gas liquids coming from premier US basins like the Permian, Appalachia, and Haynesville. These dynamics hold especially true amid high oil prices and low gas prices, which steepens the global cost curve. Persistent global oversupply has structurally depressed operating rates industrywide. Dow's US crackers have run at roughly 75%-90% utilization over the past five years—we model 85%-90% for US production and 70%-75% for European and Asian production, resulting in a blended return profile near Dow's 8.7% WACC. We think Dow’s European exposure is enough to drag down the overall returns of the firm. In early 2026, cracker runs hit maximum capacity as the Iran conflict forced global shutdowns, creating a favorable pricing window; a persistent rise in Brent above $80/bbl would prompt us to revisit our moat assumptions.

Completion of several European asset shutdowns should make Dow’s revised portfolio more resilient to the chemical cycle, boosting margins long-term.

Self-help measures from the “Transform-to-Outperform” plan will raise Dow’s structural earnings power.

Capacity additions in China will decelerate as a result of higher oil prices, which would raise integrated margins for global players.

Another dividend cut would disincentivize investors further, leading to a downward multiple rerating.

The post-FID Path2Zero project could run into additional delays, causing cost overruns or outright project cancellation.

Dow’s North American natural gas feedstock-based cost advantage will erode over time due to the proliferation of LNG exports, reducing the spread between European and American gas prices. This will lead to margin compression.