The petrochemical industry is barely investing in developed countries – new crackers are now being built in feedstock advantaged developing countries and China, at an impressive rate. In future, it is likely that North America will become a net importer of most commodity chemicals and plastics. But at present the industry is still riding on an upswing that could last until mid 2009. It looks like time for industry to make hay while the sun shines, and reposition ahead of less favourable conditions (or perhaps one of the worst industry downturns in history, if some analysts
are to be believed).
This preparation is evidenced by frantic buying and selling at levels a not seen in a decade, with purchasers paying high prices to gain a position advantage.
Over the past decade, world trade in chemicals (worth an estimated €970bn) grew more than 1.6 times faster than that of global output. Almost 45% of the value of the global chemical industry is traded, and more than 35% of this trade is between companies. The worldwide chemical industry turned over an estimated €2.3 trillion in 2006, and 80% of output comes from the EU, Asia and the USA, according to the European chemicals industry association (CEFIC). Since the 1960s, the business of chemistry has become ever more global, a process that continues today and has led to multinational chemical companies.
This is a time of unprecedented global change, and the petrochemical industry is no exception. Growth for both production and sales of chemicals in China, India and the Middle East are the highest anywhere in the world. And other regions are changing rapidly, too.
According to the World Refining Association, Russia, “although economically very unstable, retains its potential”. Eastern Europe today boasts major refinery complexes such as MOL, ORLEN and Rompetrol, which have grown up over a very short time period. Latin America has also seen significant investment, with local companies such as Petrobras teaming up with the likes of US company Dow Chemical.
Crude oil prices are of course critical in this industry – both in terms of the margin squeeze created by higher feedstock costs, and concerns that the resulting economic slowdown will mean that consumers dig their heels in and resist price rises, leaving the petrochemical producer with the thin end of the wedge. However so far the chemicals industry has weathered this situation rather well. According to analysts, the industry has to date been highly successful at passing feedstock costs on to downstream consumers despite the surging cost of crude, continuing to return strong financial results meanwhile.
In a speech last year, SABIC Vice Chairman & CEO Mohamed H. Al-Mady pointed out that even the oil-rich Middle East is not immune to feedstock challenges, “feedstock availability and pricing will remain a key component of the future growth and prosperity of our industry,” he said, adding that extraordinary petrochemical expansions mean there is actually less to go around. “Some argue that the rate of expansion has led the industry to outpace its ability to meet its own ethane requirements,” he said. Producers also now face competition for feedstocks such as natural gas with other industries such as gas to liquid (GTL) projects and power generation.
But most commentators suggest that low cost feedstocks, a key driver behind Middle East investment, will to some extent divide the market into winners and losers. “For those that are building in regions of low cost feedstocks those are going to be very good investments,” says David Alston, senior consultant at Nextant Limited. “Those operating on high cost feedstocks, with a high cost base or no differentiated market position are likely to struggle.”
Another significant issue is feedstock location - is anywhere near the finished product consumers? “It begs the question as to whether future investment should be focused on the Middle East for feedstock advantage or say, the Far East which is closer to the end user market and where other benefits can be achieved,” says Al-Mady.
Taking into account a projected global economic slowdown, Chemsystems predicts that annual growth in olefins consumption will fall to half its present value of 11 million tpy by 2010. The industry is in the hands of the market here, but what it does control is supply. The received view among industry commentators is that major capacity investments due to come onstream in the next few years mean that supply will significantly outstrip demand.
As one of the largest volume petrochemicals worldwide, ethylene is generally used as a thermometer to measure the health of the industry at large. Ethylene production today takes place on a truly gargantuan scale – the largest single-unit ethylene plants, such as Texas plants owned by ExxonMobil and Shell and SADAF’s unit in Al Jubail, Saudi Arabia have 1.0-1.3 million metric tpy capacities. Even these giants are dwarfed by the North American NOVA-Dow joint venture weighing in at 1.27 metric tonnes, which cost a reported $750m.
In 2006 global ethylene production was around 110 million metric tonnes, and was worth and estimated $122bn. The fastest growing regions in terms of ethylene capacity build-up will be the Middle East at about 17% per year and China at 15%, according to Michael Devanney at SRI Consulting. He predicts that between 2006-2011 global ethylene demand will grow at 4.6% per year and then slow to 3.4% for a further five years. This picture is repeated for other petrochemical products such as low-density polyethylene resins (LDPE), where considerable industry fallout is expected as new capacity comes on stream in China, and the Persian Gulf and Iran. Producers Lyondell, Voridian and Huntsman have already sold up and left the business. Saudi-based SABIC has responded by moving further into markets beyond the Middle East, gaining global reach with its acquisition of DSM’s and Huntsman’s petrochemical assets.
According to Dubai-based industry body Gulf Petrochemicals and Chemicals Association (GPCA), production capacity for ethylene in the Middle East will more than double in the next 5 years in the World’s largest ever ethylene plant expansion programme, rising from over 13 million metric tonnes in 2007 to over 29 million metric tonnes in 2012. To put this into perspective, this represents nearly half of global ethylene capacity growth.
“Previous downturns in the industry have never witnessed a net capacity build up of more than 6 million tonnes,” states Chemsystems, which predicts that overcapacity will lead to a cumulative excess of 30 million tonnes over 5 years. And this is a global industry: “Producers in Western Europe and the United States will come under considerable pressure, with operating rates projected to slump to a broad trough around 2010,” Chemsystems forecasts. “This excess supply will have a marked impact on profitability in all markets.”
“Largely speaking in Western Europe companies will try to move towards speciality or performance products, away from the commodity end of the spectrum where they are going to struggle to compete on a cost basis,” says Alston. The response is to use market awareness, and research and development expertise, to push through some higher performance products, and therefore defend themselves against commodity product imports.
President of the European Petrochemical Association Boy Litjens (also CEO of SABIC Europe) agreed that “business as usual” was a thing of the past for European petrochemical producers when they gathered in September. “You more and more have to focus on the high end,” he commented, reflecting a move among European producers towards specialised markets. As well as competition from the Middle East, Europe also faces environmental and legislative pressures. Producers will have to adapt to survive – but those like his own company SABIC with access to low cost production in the Middle East will clearly be at an advantage.
The shake out for less efficient operations is already taking place, for example among low-density polyethylene resin (LDPE) producers, which will be impacted by excessive new capacity between 2008 and 2010. Borealis and Basell have implemented geographical diversification and scrap-and-rebuild strategies, and Lyondell, Voridian and Huntsman have exited the business completely. Last summer saw further consolidation in this sector as the world’s largest polyolefins producer Basell moved to acquire Lyondell to create a new polyolefins giant. The move gives Basell access to Lyondell subsidiary company Equistar’s crackers in the US, and Basell also has a number of polyolefin joint ventures in Saudi Arabia and Kazakhstan as well as a polypropylene network in Asia.
Other approaches from chemical companies include developing alternatives to traditional feedstocks and harnessing new technologies. Brazil for instance has struck ahead with bioethanol development, and has an infrastructure in place. Now players such as Petrobras are working towards refineries that use these natural feedstocks. There may also be new markets to develop for some of the spare capacity, such as Africa.
Tough times are on the horizon in the US and Western Europe, Alston suggests, and with that goes potential capacity closures. “Clearly there are other markets like the Chinese market where demand is likely to be strong, and we expect those units to continue to perform well,” he adds.
Alston believes that when it hits, those at the thin end of the wedge will see quite a strong downturn. “Also potentially it could last a fair while as well,” he adds, suggesting that rather than one tough year the chemical industry may have two or even three to weather before the situation improves, depending on the products in question.
It seems likely that 2008 could be a year of pause before the storm breaks. “On the one hand demand growth globally looks as if it will remain good,” Alston suggests. Some capacity is due to come on stream but not the majority. “So industry performance in petrochemicals should look reasonable next year. But there is this cloud on the horizon.” Without access to a crystal ball, predictions all come with the caveat that a great deal depends upon oil prices and the economic situation.
“At the moment [the economic slowdown] seems to be isolated within the banking financial community, but if that spills out to reducing consumer expenditure demand would fall off, and would have an impact on industry next year,” Alston suggests