Looking at the stock year-to-date, DuPont has outperformed not only the chemicals sector but also the broader markets, up 9.6%. Merrill Lynch has also seen the company blow past its price target at $76, but the firm is not optimistic at this time, considering there are fundamental headwinds in both agriculture and chemicals against a financial backdrop of an ever stronger U.S. dollar.
As a result, Merrill Lynch is cutting its below-consensus earnings per share (EPS) estimates for both 2015 and 2016 by $0.05 to $4.00 and $4.30, respectively. The price target is being maintained at the same level, which suggests no upside potential at the current price level, which is currently at a multiple of 20.1 times the 2015 EPS estimate.
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There will be several fundamental and financial challenges that DuPont will have to face going forward in its agricultural segment:
- Price/mix pressure as certain growers trade down to less expensive seeds
- A likely decline in U.S. planted corn acreage
- Pockets of elevated channel inventory in crop protection chemicals (CPC)
- Risk in Ukraine
Merrill Lynch also pointed out some risks within the chemical segment as well:
Among DuPont’s chemical lines we see risk of ethylene-based margin compression in Performance Materials as 2015 progresses. Elsewhere, [titanium dioxide] prices continue to leak lower ahead of the mid-year separation of Chemours, which looks to be dilutive by ~$0.40 in year one, pro forma for $4bn in share repurchases over 12-18 months.
It is worth noting that the risk-reward relationship for DuPont is less attractive, considering that its price-to-earnings (P/E) ratio is at a 10-year high. DuPont could stand to benefit in this position in a few different ways:
- A portfolio upgrade via the pending spin-off of Chemours
- Ongoing cost discipline against a backdrop of shareholder activism
- Modest margin support from lower crude oil
- Decent volume growth
- Ample financial flexibility
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One of the biggest risks to Merrill Lynch’s conservative valuation of DuPont is the ongoing engagement of the Trian activist fund. Should DuPont pay heed to the fund, it could lead to an acceleration of cost cuts, and possibly further reshaping of the portfolio or a break-up of DuPont, if Trian prevails.
Shares of DuPont were down 3% at $78.06 on Monday afternoon. The stock has a consensus analyst price target of $75.24 and a 52-week trading range of $63.70 to $80.65.
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