Earnings Call Transcript - DOW Q3 2022

Operator, Operator

Good day, and welcome to Dow’s Third Quarter 2022 Earnings Call. I will now hand over to Pankaj Gupta, Vice President of Investor Relations.

Pankaj Gupta, Investor Relations Vice President

Good morning. Thank you for joining Dow’s third quarter earnings call. This call is available via webcast, and we have prepared slides to supplement our comments today. They are posted on the Investor Relations section of Dow’s website and through the link to our webcast. I am Pankaj Gupta, Dow Investor Relations Vice President. Joining me today on the call are Jim Fitterling, Dow’s Chairman and Chief Executive Officer, and Howard Ungerleider, President and Chief Financial Officer. Please read the forward-looking statement disclaimer contained in the earnings news release and slides. During our call, we will make forward-looking statements regarding our expectations or predictions about the future. Because these statements are based on current assumptions and factors that involve risks and uncertainties, our actual performance and results may differ materially from our forward-looking statements. Dow’s Forms 10-Q and 10-K include detailed discussions of principal risks and uncertainties which may cause such differences. Unless otherwise specified, all financials, where applicable, exclude significant items. We will also refer to non-GAAP measures. A reconciliation of the most directly comparable GAAP financial measure and other associated disclosures is contained in the Dow earnings release, in the slides that supplement our comments today, as well as on the Dow website. On Slide 2, you will see our agenda for the call. Jim will begin by reviewing our third quarter results and operating segment performance. Howard will then share our outlook and modeling guidance. To close, Jim will discuss how our actions and long-term strategic priorities enable us to deliver value growth in a dynamic environment. Following that, we will take your questions. Now let me turn the call over to Jim.

Jim Fitterling, CEO

Thank you, Pankaj. Beginning on Slide 3, in the third quarter, team Dow continued to proactively navigate higher energy costs and geopolitical uncertainties that are impacting consumer demand, particularly in Europe. As macroeconomic conditions began to erode in the quarter, we responded quickly by implementing a set of actions to prioritize resources toward higher return products, align production rates to supply chain and logistics constraints, as well as demand, and reduce operational costs across the enterprise. Our advantageous portfolio enabled us to capitalize on demand strength in higher value functional polymers in Packaging & Specialty Plastics and performance silicones in Performance Materials & Coatings. Third quarter net sales were $14.1 billion, with sales declines of 5% year-over-year and 10% quarter-over-quarter. Local price increased 3% year-over-year with gains in Performance Materials & Coatings and Industrial Intermediates & Infrastructure. Sequentially, price declined 6% and was down across all operating segments and regions. Volume was down 4% versus a year ago as declines in Europe, the Middle East, Africa, and India more than offset volume growth in the U.S. and Canada and Asia Pacific. Sequentially, volume was down 3%, led by EMEA. Continued strength of the U.S. dollar also impacted net sales by 4% year-over-year and 1% sequentially. Operating EBIT for the quarter was $1.2 billion. Our consistent focus on cash flow generation and working capital management in the quarter supported cash flow from operations of $1.9 billion or a conversion of 104% of EBITDA and free cash flow of $1.5 billion. We returned $1.3 billion to shareholders in the quarter, including $800 million in share repurchases and $493 million in dividends. Our balance sheet continues to have no substantive long-term debt maturities due until 2027. Turning to our operating segment performance on Slide 4. In the Packaging & Specialty Plastics segment, net sales were $7.3 billion, down 5% year-over-year, as price gains and resilient demand in functional polymers were more than offset by lower polyethylene pricing. Sequentially, net sales were down 11%, also driven by lower polyethylene prices with reduced volumes as we decreased operating rates in response to continued global marine pack cargo logistics constraints and lower demand in EMEA. Operating EBIT for the segment was $785 million, compared to $2 billion in the year-ago period and $1.4 billion in the prior quarter. These results were impacted primarily by higher raw material and energy costs and lower local prices. Moving to the Industrial Intermediates & Infrastructure segment, net sales were $4.1 billion, down 9% from the year-ago period with price gains in both businesses. Volume was down as strong demand for pharmaceutical, agricultural, and energy applications in Industrial Solutions were more than offset by declines in polyurethanes and construction chemicals due to inflationary pressures in EMEA, decreased consumer durable demand, and the slowing housing market. Sequentially, net sales were down 7%, and stable volumes primarily in mobility end-markets were more than offset by lower local price and currency. Operating EBIT for the segment was $167 million compared to $713 million in the year-ago period and $426 million in the prior year. Lower EMEA demand and increased energy and raw material costs were partly offset by higher prices. Sequentially, operating EBIT margins declined by 560 basis points on lower price and higher energy costs. In the Performance Materials & Coatings segment, we reported net sales of $2.7 billion, up 5% year-over-year, with price gains in both businesses and all regions. Volume was down as resilient demand in mobility and home care end-markets was more than offset by declines in building and construction. Sequentially, net sales were down 12%, driven primarily by lower demand and decreased local price for siloxanes due to supply additions in China as well as planned maintenance turnaround activity. Operating EBIT for the segment was $302 million compared to $284 million in the year-ago period, as margins expanded by 20 basis points due to price gains for both silicones and coatings applications. Sequentially, operating EBIT declined $259 million driven by lower prices for siloxanes and increased raw material and energy costs. I will now turn it over to Howard to review our outlook and actions on Slide 5.

Howard Ungerleider, CFO

Thank you, Jim. Turning to Slide 5, in the fourth quarter, we expect to continue navigating high inflation, supply chain constraints, and the impact of geopolitical tensions. In Europe, high energy and feedstock costs are driving record Eurozone inflation, reaching a new high of 10% in September. As a result, we see reduced industrial production and consumer spending. In China, COVID-19-related lockdowns continue to hinder economic activity with weaker-than-expected regional consumer spending and infrastructure investments. That said, we’re seeing continued strength in the mobility sector, with automotive sales up more than 25% in September year-over-year. In the U.S., healthy consumer spending and low unemployment rates have supported resilient underlying demand despite high inflation, with U.S. consumer confidence rising in September for the third consecutive month. Looking forward, we’re closely monitoring the impact of rising interest rates on demand. In Latin America, we continue to see robust demand for flexible food packaging and consumer durables, as well as transportation and infrastructure end markets. To manage these evolving dynamics, we continue taking actions region by region and business by business. Throughout the third quarter, Dow implemented plans to reduce natural gas consumption at our sites in Europe by more than 15% due to high energy costs. In August, we also temporarily lowered our polyethylene nameplate capacity by 15% and have now implemented a cold furnace idling program at our crackers for fixed and energy cost savings. In parallel, we continue to prioritize higher-margin functional polymers to capitalize on continued demand strength while working to ease logistics constraints along the U.S. Gulf Coast. We’re also reducing operating rates and shifting production across polyurethane, siloxane, and acrylic monomer assets in Europe to manage our costs and inventory levels. As we plan for next year, we have additional actions focused on production optimization, turnaround spending, and reductions in purchase services with the potential to deliver more than $1 billion in cost savings on a run-rate basis. Turning to Slide 6, you’ll see our current expectations for the fourth quarter. In the Packaging & Specialty Plastics segment, we see stable demand for consumables and food packaging applications. We anticipate global energy markets to remain volatile in response to geopolitical dynamics as well as weather in the northern hemisphere and continue to expect lower consumer spending primarily in Europe. While lower turnaround costs will be a sequential tailwind, in total, we expect a $150 million seasonal headwind for the segment versus the prior quarter. In the Industrial Intermediates & Infrastructure segment, demand for energy applications, particularly in the U.S., and a seasonal increase in deicing fluid demand are expected to positively impact the quarter. Inflationary pressures, however, continue to impact consumer durables and building construction demand, particularly in Europe. We also expect continued pressure on propylene oxide and MEG margins due to increased supply from producers in Asia. After completing major planned maintenance activity in the prior quarter on a net basis, we expect similar dynamics with typical seasonality on a sequential basis. In the Performance Materials & Coatings segment, demand for personal care and mobility applications remains stable as consumers move toward holiday season buying patterns. However, we also anticipate a seasonal decline in demand for coating applications. Lower spending on planned maintenance activity will partially offset margin pressure from the supply of both siloxane and acrylic monomers from Asia, particularly in Europe. All in, we anticipate a $250 million headwind for the segment. So in total, for the fourth quarter, we expect a $400 million net EBITDA headwind compared to the third quarter. We have also provided updates to the full year modeling inputs in the appendix of the presentation. Equity earnings have been revised to align with the current market conditions and the weaker margins in Asia. We’ve lowered full year CapEx from $2.1 billion to $1.9 billion, and the full year tax rate is now expected to be slightly higher than our prior guidance due to the geographic mix and lower equity earnings. This upward pressure on the full year rate is also expected to increase the fourth quarter tax rate to account for the typical year-to-date true-up. With that, I’ll turn it back to Jim.

Jim Fitterling, CEO

Thank you, Howard. Turning to Slide 7. As a result of our actions over the last several years, we’ve created a streamlined portfolio with unique levers to manage through the current macro backdrop. We have global scale and leading positions across a diverse set of attractive market verticals, geographies, and value chains. This gives us significant flexibility to quickly respond to evolving demand trends and capture demand better than our peers. 65% of our production capacity is in the cost advantage in the Americas, and we have two to three times more LPG flexibility in Europe versus our peers. Our advantaged cost position and unmatched feedstock and derivative flexibility enable us to optimize our margins. Our commitment to operational and financial discipline, underpinned by a culture of benchmarking and a best-owner mindset, has resulted in a low-cost operating model and strong cash conversion. These advantages have served us well since spin, providing a solid financial foundation that supports long-term value creation despite the current unprecedented events impacting the market. Importantly, our early-cycle growth investments and our efficiency programs are enabling us to raise our underlying mid-cycle earnings above pre-pandemic levels. We’ve nearly tripled our three-year trailing cumulative free cash flow since spin across a variety of macro environments, and we’ll continue to execute on levers to drive even higher cash flow, including working capital improvements, joint venture dividends, and cash interest savings. Our balance sheet is now the strongest it’s been in my more than 35 years with the company, creating a solid financial position that offers significant flexibility. The combination of robust cash flow generation and a strong credit profile enables us to deploy capital in a disciplined and balanced manner as we advance our decarbonization and growth strategy, while also consistently returning cash to our shareholders through the economic cycle. Moving to Slide 8. In 2022, we expect to deliver an incremental underlying EBITDA run rate of approximately $300 million to $400 million, comprised of $300 million from growth initiatives across our operating segments, as well as $50 million to $100 million from efficiency levers. We have two Alkoxylation investments coming online this year to serve high-value home care and pharma end markets. Our 60-kiloton project in the United States started up in the third quarter, and our 34-kiloton project in Spain is on track to start up in the fourth quarter. Our 150-kiloton FCDh pilot plant in Louisiana is also on track to start up in the fourth quarter. Year-to-date, we have completed 13 downstream silicones debottlenecking projects. Longer-term, we remain on track to grow underlying EBITDA by greater than $3 billion by 2030 while reducing our carbon emissions by 30% versus our 2005 baseline. Our suite of higher return, lower risk, and faster payback investments will deliver $2 billion in additional run-rate EBITDA while we also reduce our carbon emissions by approximately 2 million metric tons by the middle of this decade. These investments target higher value applications that enable us to capitalize on increasing demand for more sustainable and circular solutions. Let me highlight a couple of examples. Our ENGAGE Elastomers increase the lifetime of solar panels and enable over 50 gigawatts of solar power generation around the world. We recently launched SiLASTIC, the world’s first silicone-based self-sealing tire solution that can be easily recycled, which is being commercialized in upcoming Bridgestone tires under the technology name B-SEALS. We also remain on track to reach a preliminary investment decision by year-end for our Path2Zero project in Alberta to build the world’s first zero carbon emissions ethylene and derivatives cracker complex, which will grow our global polyethylene supply by 15%, while decarbonizing 20% of our global ethylene capacity. This project will generate an additional $1 billion of underlying EBITDA by 2030. As we deliver on our growth strategy, we remain committed to the discipline and balanced approach to capital allocation that has served us well since spin. Our first priority is to maintain safe and reliable operations. We continue to advance our growth investments with CapEx at or below D&A and drive return on invested capital greater than 13% across the economic cycle. With adjusted debt-to-EBITDA inside our long-term target range of 2 to 2.5 times, we have the financial flexibility to deploy cash to maximize long-term shareholder value creation, and we’re targeting to return 65% of our operating net income to shareholders. Since spin, we’ve exceeded this target, returning an average of 78%. Turning to Slide 9, despite near-term macroeconomic challenges, innovating circular and sustainable solutions remains a key aspect of our long-term decarbonization and growth strategy. We see increasing demand for these products, which represent a significant growth opportunity for Dow with attractive pricing that will support longer-term higher quality earnings. We have continued to accelerate our actions to capitalize on this opportunity and create a circular economy. We recently announced a new commitment to commercialize 3 million metric tons of circular and renewable plastic solutions annually by 2030. This new goal expands our sustainability targets and our focus on advancing a circular plastics business platform to meet our customers' increasing demands for more sustainable and circular products, as evidenced by the recent letter published by the Consumer Goods Forum, citing demand for advanced recycled plastic material. To achieve this goal, we will exceed our original target to enable 1 million metric tons of plastic waste to be collected, used, reused, or recycled, and we’re well on our way as we scale a robust pipeline of more than 20 strategic collaborations to enable recycling infrastructure to partner across the value chain to bring hard-to-recycle waste into the circular economy and to help communities address waste management and recycling gaps. This includes our most recent and significant commitment to date to scale advanced recycling with Mura Technology, positioning Dow to be the largest consumer of recycled plastic feedstock for polyethylene globally. These collaborations are a unique advantage as demand for circular solutions continues to grow. When you consider together this circular and renewable sales target along with the additional capacity from our Alberta Project, in 2030, our combined circular, renewable, and zero carbon emissions capacity will comprise greater than 50% of our global polyethylene capacity. I’ll close on Slide 10. Our strategic priorities remain unchanged. We will continue to operate with agility as we navigate the current market dynamics, as evidenced by our recent actions to balance production while ensuring we remain well-positioned to capture demand as market conditions improve. At the same time, we remain focused on executing our long-term growth strategy, expanding our competitive advantages, and delivering on our financial priorities to position the company for long-term success. With that, I’ll turn it back to Pankaj to open up the Q&A.

Pankaj Gupta, Investor Relations Vice President

Thank you, Jim. Now let’s move on to your questions. I would like to remind you that our forward-looking statements apply to both our prepared remarks and the following Q&A. Operator, please provide the Q&A instructions.

Operator, Operator

Thank you. We will take the first question from P.J. Juvekar from Citi. Please go ahead.

P.J. Juvekar, Analyst

Yes, good morning, Jim and Howard. With the IRA and CCS credit going to $85 per ton, are there any projects in CCS that you could deploy at your existing plants that come into the money now that weren’t there before? Secondly, on Europe, would you accelerate - incrementally would you accelerate CapEx in the U.S. given the situation Europe is in? If Europe is not producing much chemicals, how does that impact the downstream automotive and building and construction businesses in Europe? Thank you.

Jim Fitterling, CEO

Good morning, P.J. Two really good questions. When we look at the IRA, which has a lot of good elements for our sustainability agenda - including both hydrogen and CCS as well as advanced nuclear. The challenge right now is where you have the availability of the existing pipeline infrastructure to get carbon off of an existing asset into a CCS category. That’s why we prioritized the project in Terneuzen and the project in Alberta first, because we have existing capacity there. I should mention that while Terneuzen has a plan in place to get started on CCS, infrastructure on the U.S. Gulf Coast is becoming available as we improve our capability for hydrogen and CCS. If that happens, we’ll look to accelerate deployment here in the U.S. Gulf Coast. I would opine that at $85 a ton, long-term prices will likely edge closer to $100 or higher, which should help accelerate hydrogen and CCS. Regarding CapEx in the U.S. and the future of chemicals in Europe; during the third quarter, the two primary challenges we encountered were largely related to electricity. In the third quarter, European electricity costs surged as high as €400 per megawatt-hour. They have decreased slightly recently due to falling natural gas prices. About half of our footprint in Europe capitalizes on advantaged electricity. In the quarter, we aimed to run operations at break-even in Europe while raising production from other assets to meet demand. In the short term, we're seeing more products flowing into Europe from the Middle East and even some shipments from China. Going forward, we plan to work alongside governments through energy policy changes that will assist in mitigating these challenges. One of the reasons we announced the project in STADA was to implement one of the five floating regas units in Germany, which will help Germany diversify away from reliance on Russian gas. The European question will loom over us through next year, but we have a solid plan to navigate the upcoming winter and the following year. That’s why we announced $1 billion worth of cost reductions for 2023.

Operator, Operator

We will now take the next question from Hassan Ahmed from Alembic Global Advisors. Please go ahead.

Hassan Ahmed, Analyst

Good morning, Jim and Howard. Just trying to reconcile the Q4 guidance you guys have given, it seems you’re guiding to an EBITDA of roughly $1.45 billion. What sort of polyethylene pricing are you baking into that guidance? It seems there are some price hikes on the table, but some consultants are doubting those price hikes, so could you provide any color around that?

Jim Fitterling, CEO

Thank you, Hassan. That’s a good question. Pricing in polyethylene declined throughout the third quarter but began stabilizing at the beginning of the fourth quarter. Most of the outlook for the fourth quarter relies on stable pricing in polyethylene, but you also have to factor in dollar averaging over the quarter. Although we started with lower pricing, that carries through. Inventory levels on the Gulf Coast have reduced from the highs experienced in the third quarter, and logistics have improved. We had strong volumes in the third quarter, and we could have done more. We continuously aim to address logistics constraints. Overall, the outlook suggests dollar averaging with stabilized pricing and positive contributions from lower turnaround costs entering the fourth quarter for polyethylene. Input costs are trending favorably, as we see improvements in the ethylene chain, while oil inventories remain low and natural gas production remains high. So, I’d say the sentiment is skewed positively if these trends continue.

Operator, Operator

We will now take the next question from Jeff Zekauskas from JPMorgan.

Jeff Zekauskas, Analyst

Thanks very much. Two questions. Can you talk about MDI prices and volumes sequentially and your general expectations? Secondly, in Performance Materials, there seems to be a fair amount of pressure on siloxane prices. Are we entering some cyclical downturn in that business? What should we expect regarding steady earnings from the fourth quarter moving forward?

Jim Fitterling, CEO

Yes. Good morning, Jeff. Thank you for the question. On MDI in Industrial Intermediates & Infrastructure, the supply-demand balances through the middle part of the decade look good on MDI. While we've seen market weaknesses in consumer durables, mobility has held up well. Electric vehicles have been a strong growth point within that space. However, housing and construction have experienced the most significant weakness, with appliances closely correlated to that. We observe in the numbers and guidance that our footprint in Europe affects margins due to energy situations, leading to reduced production rates. Regarding siloxanes, increased capacity in China has brought prices down to long-term mid-cycle averages, and we expect that pressure to sustain into 2023. So, it's more about the timing of supply coming on than pricing alone.

Operator, Operator

We will now take the next question from David Begleiter from Deutsche Bank.

David Begleiter, Analyst

Thank you. Good morning, Jim and Howard. Howard, just on modeling guidance. Does the $400 million of sequential EBIT headwinds fully capture the seasonality in Q4, and is any benefit in the guidance from the $1 billion of cost savings you highlighted today?

Howard Ungerleider, CFO

Yes, good morning, David. The short answer is yes. The $400 million net EBITDA decline captures typical Q3 to Q4 seasonality as well as the averaging decline through the third quarter. You'll notice two offsetting pieces: the favorable turnarounds are offset by some currency headwinds we're seeing sequentially. We’ve been intervening since early in the third quarter, and that will continue through the fourth quarter, especially as we see a more significant impact next year.

Operator, Operator

We will now take the next question from Vincent Andrews from Morgan Stanley.

Vincent Andrews, Analyst

Thank you, and good morning everyone. Can you elaborate on the delta between your underlying demand expectations versus some destocking that’s occurring due to macro uncertainty? What seasonal adjustments are you considering moving from Q3 to Q4 regarding weak demand potentially indicative of traditional shifts typically seen in November and December?

Jim Fitterling, CEO

That’s a good question, Vince. The retail sector saw a lot of higher inventories and pulled back. In automotive, deliveries still face restrictions due to various supply chain constraints, affecting the ability of auto companies to meet demand. Although there might be a slight pullback in demand for internal combustion vehicles, EV growth — particularly in the U.S. and China — has been strong and is expected to continue. The outlook for automotive next year is 86 million light vehicles, increasing from an 80 million projection this year, which is promising. In packaging, I don’t think we observed significant destocking; rather, we adjusted operating rates in response to decreased demand in EMEA. The region seeing a 12% slowdown was significant, with consumer pressures there being stronger than in the U.S. Durables and consumer electronics are also challenging to predict, particularly since their performance is closely related to housing demand. In China, housing starts are down 38% year-over-year. While the U.S. has slowed, ongoing residential construction work gives us reasons to remain cautiously optimistic. Infrastructure spending remains robust, which is a positive factor across market segments.

Operator, Operator

We will now take the next question from Michael Sison from Wells Fargo.

Unidentified Analyst, Analyst

Hi, this is Richard on for Mike. Just wanted some color on the $1 billion in cost savings for 2023. Is any part of this embedded in the $3 billion to $3.9 billion that you’re targeting to increase your earnings range through the cycle? Does that also include the 15% reductions in polyethylene capacity and potential additional adjustments in Industrial Intermediates & Infrastructure?

Jim Fitterling, CEO

Largely, yes. Our target is to achieve more than $1 billion in cost savings. These can be broken down into several categories: optimizing our mix through flexibly utilizing assets across geographies and product lines, managing higher-cost plants by adjusting operating rates, and driving operational excellence. Another major area will be reducing turnaround spending, as we expect input costs and logistics expenses to relieve somewhat. We're focusing on purchased materials and services, including labor, to enhance cost efficiencies. Initiatives like digital improvements can significantly enhance our bottom line as well. Overall, these efforts aim to safeguard the earnings corridor we announced during our Investor Day, with our 2023 lower end set at about $7.2 billion. Our growth strategy is driven by these initiatives, particularly projects like Path2Zero, with phases launching in the years 2027 to 2030.

Operator, Operator

We will now take the next question from Kevin McCarthy from Vertical Research Partners.

Unidentified Analyst, Analyst

Hi, good morning, this is Cory in for Kevin. Turning back to the outlook, you had mentioned benefits in the ethylene chain. What are you incorporating into your 4Q outlook concerning ethane costs? What's your perspective considering the current natural gas market?

Jim Fitterling, CEO

That’s a good question on ethane. I mentioned natural gas earlier. Gas production is currently robust, exceeding half a million barrels a day of ethane in rejection, which has significantly lowered frac spreads. As a result, we’ve observed spreads falling to about $0.33 per million Btu, coming down from previous highs this year. We project this trend will persist. Natural gas production currently sits at 100 Bcf daily, with projections of 110 Bcf daily in the near future. This means ample availability of ethane. Our outlook suggests that winter pricing will range from $0.40 to $0.60 per gallon, contingent on winter gas demand trends. In terms of the cold furnace idling, I don’t have a precise figure for you, but historically, assets were kept on hot standby. With demand slow, it’s unnecessary to maintain that status, and with higher gas costs, letting them cool down is a sensible choice.

Operator, Operator

We will now take the next question from Steve Byrne from BOA.

Unidentified Analyst, Analyst

Thanks. It's Matthew on for Steve. Can we talk about the trending in functional polymers? Prices have been up year-over-year, but they seem to have declined sequentially. Did margins in that business improve quarter-over-quarter? For 4Q, do you expect performance to recover on the downside, or will things hold steady?

Jim Fitterling, CEO

Thank you for the question. Prices in that space typically remain resilient throughout the cycle. We observed stability in prices from quarter to quarter, while margins declined due to higher energy and raw material costs. Demand remains strong, particularly in commercial construction and automotive sectors, which requires significant materials. Therefore, you can expect margins to be in flux, yet trends in volumes and prices should remain robust.

Operator, Operator

We will take the next question from John Roberts from Credit Suisse.

Matt Skowronski, Analyst

Good morning, Jim and Howard. This is Matt Skowronski on for John. Some consultants have reported that polyethylene storage levels are very high in North America. Would you consider taking operating rates lower than the 15% reduction you’ve implemented if demand weakens further? And do you think further reductions might be necessary either by the end of this year or early 2023?

Jim Fitterling, CEO

Thanks for the question. I believe that storage levels at ports mainly represent shipments waiting for ships to arrive. Much of that product is packaged for export, so it’s not transitioning to the North American market. With growth in demand here, I don’t foresee a need for further reductions in operating rates. Latin American markets also show resilience, providing us with opportunities. As logistics improve, I expect those inventory numbers to decrease quickly.

Howard Ungerleider, CFO

The latest ACC data indicates that inventory levels actually decreased by 7% month-on-month, reflecting that demand fundamentals remain strong in the United States and Canada.

Operator, Operator

We will now take the next question from Christopher Parkinson from Mizuho.

Christopher Parkinson, Analyst

Hi, good morning. Can you highlight the end markets and regions where you saw the most significant changes in demand against your original expectations in the second quarter, and how these areas are trending into the fourth quarter? Are there any areas that you feel particularly optimistic or concerned about as we close out the year and look into 2023?

Jim Fitterling, CEO

Yes. Good question, Chris. Strength can be seen in industrial electronics, including telecom and 5G infrastructure, which remains strong despite supply chain constraints. In industrial solutions, those serving the pharma sector show robust growth, with projections exceeding 7% CAGR through 2026. Overall, industrial solutions and silicones have favorable growth trends. Automotive demand has been supply-constrained with flat YOY deliveries, but EV growth in the U.S. and particularly in China has been impressive, with a near 90% increase YOY in China. Regarding infrastructure, there is strong spending from multiple governments worldwide, which positively influences our functional polymers. Conversely, we’ve observed softening in consumer durables, such as appliances or housing-related items, as well as in electronics. In China specifically, housing starts are down by 38% compared to last year. Overall, I perceive opportunities for upside in 2023, particularly in India, the U.S., Canada, and Latin America, while challenges in Europe continue, particularly related to the Russia/Ukraine narrative.

Operator, Operator

We will now take the next question from Josh Spector from UBS.

Josh Spector, Analyst

Yes, hi, good morning. I was wondering if you could clarify the costs you're absorbing in Europe from higher energy. How are 3Q and 4Q expectations comparing to 2Q? Can you quantify what you've had to absorb that you were unable to shift away through pricing or production flexing? And regarding energy prices dropping, if they were to decline while demand stays steady, how would you envision that playing out?

Jim Fitterling, CEO

To clarify, two-thirds of the total EBITDA decline in the third quarter — whether compared to the previous quarter or last year — stemmed from EMEA, influenced by high inflation and elevated energy costs on our raw materials, which affected consumer demand. Volume dropped 12% over that quarter in EMEA.

Operator, Operator

We will now take the next question from Arun Viswanathan from RBC Capital Markets.

Arun Viswanathan, Analyst

Great, thanks for taking my question. Good morning. Regarding North America and its outlook, considering that Europe has been the core reason behind the weakness in Q3, are you at all worried about potential weaknesses in North America? Is North America just a little behind Europe and China in experiencing the same challenges? What factors might differentiate and maintain North America’s resilience?

Jim Fitterling, CEO

Our advantageous cost position in the Americas plays a vital role in our resilience. Consumer demand remains strong, particularly in non-durables and discretionary goods. However, we did see a slowdown in big-ticket items. I anticipate growth opportunities for automotive in light of supply constraints easing. Together, prices for bulk commodities have started declining, and we expect these changes to reflect in consumer markets next year. The European energy situation is markedly different from that in the U.S., where we’re actively working with governments to improve energy policies that could bolster the economy.

Operator, Operator

We will now take the next question from Aleksey Yefremov from KeyBanc Capital Markets. Please go ahead.

Unidentified Analyst, Analyst

Hi, this is Paul on for Aleksey. As we approach winter, how are you managing costs in both the U.S. and Europe? Are there any indications that assets within the industry may be idled in Europe?

Jim Fitterling, CEO

Yes, we’ve observed that energy-intensive industries in Europe, such as steel and aluminum, have already begun idling operations. Complete closures may jeopardize the long-term viability of restart in some of these sectors. Smaller producers in Europe are under substantial pressure, and firm scale is critical. Approximately half of our energy footprint in Europe is at an advantage. Thus, we’ve adjusted operations to leverage that cost structure while redistributing demand across more cost-efficient locations. Our decisions to idle are closely tied to long-term energy policies. Prolonged instability, especially regarding the Russia/Ukraine situation, may press the industry to rationalize further.

Operator, Operator

We will take the next question from Laurence Alexander from Jefferies.

Laurence Alexander, Analyst

Good morning. Can you describe your perspectives on CapEx flexibility over the next couple of years? Given that historically, Dow has tended to be conservative during a credit cycle, but with investments in circular economy initiatives, are you willing to be opportunistic in expanding capacities as others pull back?

Jim Fitterling, CEO

That's a great question, Laurence. We're striving for financial flexibility to keep advancing our projects since the long-term trends remain unchanged. Despite the overall macroeconomic challenges, consumer demand persists. Brands consistently seek more mechanized and advanced recycled products, alongside bio-based and renewable offerings. Some of our spending is allocated to joint capital with partners, as seen with collaborations like Mura Technologies. Currently, we are advancing about 20 projects in plastics. We believe our line of sight is robust for achieving our 1 million metric ton target, given substantial demand from brand owners. Thus, we're revising our commitment to scale to 3 million metric tons of circular and renewable solutions by 2030, aligned with customer demand. We will also maintain progress on decarbonization projects; however, we will remain disciplined in our investments. Early spending on Path2Zero is mostly engineering-driven, and we aim to commence projects only when bulk contract prices align with our goals.

Operator, Operator

We will now take the next question from Jaideep Pandya from On Field Research.

Jaideep Pandya, Analyst

The first is on the siloxane value chain. Could you share the current cost differential between Europe versus the U.S. and China on a landed cost basis, considering the energy costs? With significant supply coming on in China over the next 12 to 18 months, particularly regarding Xinjiang and Yunnan, how do you forecast siloxane utilization outside of China? My second question relates to ethylene oxide and MEG chains. This segment has performed well for you and your peers. Given that product flows from China are increasing as freight rates normalize, what are your expectations for EO in 2023 and 2024? Do you anticipate normalization, or do you think demand will remain robust?

Jim Fitterling, CEO

The siloxane pricing available in China typically becomes accessible in other markets as well. It seems to have already reached that level. Currently, silicone metal prices are somewhat down, primarily due to overall demand decline in housing and related sectors. However, I predict closer inspection will show rebounds in these markets moving into 2023. Overall, I believe demand will pick up and tighten again as inflation eases, although pressure will be particularly notable in Europe compared to North America. Regarding EO and MEG, while MEG remains the weaker aspect, our industrial solutions strategy focuses on investing in high-value EO applications. The alkoxylate ventures and oil and gas investments continue to perform excellently. We’ll maintain our current investments to boost these higher-value applications while minimizing MEG dependence. MEG prices were lower in the third quarter but have improved somewhat due to inventory reductions. The trajectory leading from improved Chinese activity post-COVID-19 will be a crucial metric to watch.

Pankaj Gupta, Investor Relations Vice President

Yes. Thanks everyone for joining our call. I think that’s all the time we have for today. We appreciate your interest in Dow. For your reference, a copy of our transcript will be posted on Dow’s website within approximately 24 hours. This concludes our call. Thanks once again.

Operator, Operator

Thank you. That will conclude today’s conference call. Thank you for your participation. Ladies and gentlemen, you may now disconnect.