A rough ride after 2005?

25 November 2002 00:00  [Source: ACN]

A war with Iraq would mess up the economic picture. Otherwise, says John Richardson, it's up to Asian chemical producers to make the most of the expected increases in pricing and margins and to restructure and consolidate their operations to meet the challenges posed by the next wave of the Middle Eastern capacity that is set to come onstream in 2005-06

When Britain's Labour Party was campaigning for the country's 1997 General Election, the theme music it chose was the pop song, 'Things Can Only Get Better.'

Before you wonder what this has to do with Asian chemicals, the point is that things can only get better for the next few years, provided there is no war in the Middle East that has a major negative economic impact.

Whether things will stay good in the longer term, meaning beyond 2005 when the next wave of new capacities is due onstream, will depend on how the Asian industry responds to a much tougher competitive environment.

The last few years have been really lousy with high energy costs, weak demand and excess capacity that have combined to drive down operating rates for many petrochemical products.

In the case of ethylene, for example, Darren Smith of CMAI, speaking at the recent ABN-Amro Asia Chemicals Forum 2002 in Bangkok, said that global capacity has risen by 11% during 2000-02 against demand growth of only 8%. Big new capacities in this region included the ExxonMobil cracker and derivatives complex in Singa-pore, centred around an 800000 tonne/year cracker, and the Optimal Olefins complex in Kerteh, Malaysia, which includes a 600 000 tonne/ year cracker.

However, with the US expected to avoid a double-dip recession, again it must be stressed that unless the almost certain war against Iraq goes horribly wrong, and with several Asian economies in a good position to sustain what has been good growth over the last year, 2003-05 looks good.

At the same ABN-Amro event, Mark Berggren, also of CMAI, summarised the widespread medium-term optimism when he predicted that global olefins and polyolefins margins would peak in 2005.

For vinyls and styrenics, he forecasts peaks in 2004 and for paraxylene (PX), provided you are an integrated producer, he expects the best of times in 2004/2005.

His estimate for the peaks in purified terephthalic acid (PTA) and polyester is 2005 with the high point in methanol pricing having already arrived this year.

One reason for the timings of these expected peaks is a relative dearth of further capacities between now and 2005.

Take monoethylene glycol (MEG) as a prime example. The reason the fibre inter-mediate is expected to be in particular tight supply over the next 2-3 years is that boards of directors haven't seen margins anywhere near re-investment levels.

As a result, even fairly modest debottleneckings that would keep markets reasonably in balance have yet to be approved, meaning that next year, Asian contract prices are forecast by PCI to exceed US$600/tonne cfr Asia compared with US$500-520/tonne cfr Asia in 2002.

In PX also, a persistent lack of decent margins has led some commentators to predict that supply will be very tight over the next few years.

The other key reason the next few years promise so much is monster demand growth, caused by the advent of MEG-consuming polyester production capacity, in China.

To use MEG as an example again, increased Chinese demand is expected to leave the country with a deficit of 198 000 tonne next year, rising to 523000 tonne in 2005. This compares with a surplus this year of 47000 tonne.

It must be stressed, however, that another major factor behind the likely tight MEG market is a reduction in supply due to the closure of BASF's 400000 tonne/ year facility at Geismar, Louisiana, US. The plant was a major exporter to Asia.

In polyolefins, CMAI forecasts that PP imports into China will rise to more than 3m tonne in 2005 from just over 2.5m tonne last year. HdPE imports are expected to increase to close to 3m tonne from 2m tonne when the same two years are compared.

The bottom line is that, because of the relatively scarce capacity additions over the next few years in several products, global supply will simply not be able to keep up with China because of its hugely increasing requirements. In the case of polyester, CMAI estimates that global demand growth in 2002-06 will be 1.3m tonne/year against capacity increases of 0.5m tonne/year. Most of this extra demand will be generated by China with the country's average demand growth for all synthetic fibres in the region of 11-12%/year, estimates a Japanese trader.

And so the medium term looks extremely rosy, provided that petrochemical producers have the common sense to take full advantage of the expected increases in prices and margins.

This second 'provided' should perhaps have been spelt out in capital letters. So here goes: PROVIDED.

Talk to company executives and some rather fed-up, weary industry observers and one senses a growing frustration over the continued failure to make the most of the good times.

In PTA, for instance, the last time that consistent good returns were made was in 1994-95 despite what have been some reasonably good spells for pricing and margins since then.

The reasons given include chasing market share - the desire to muscle out your competitor even when there are ample volumes to be made by everybody without undercutting each other on prices.

And another reason said to be substantially to blame for the persistent failure of one product to return investment margins could be the approach of one particular producer.

This producer with a dominant global market share claims it doesn't push for maximum returns when times are good because of its relationship with customers.

Others, however, suggest that the producer doesn't care most of the time what its selling price is because of its very low cost base.

You don't have to be Sherlock Holmes to work out where this particular producer is located.

And equally, you don't have to be a genius of detection to fathom that, when the next major wave of capacity additions comes onstream, this producer and others in the Middle East could make life a real misery for some of their less competitive Asian counterparts.

The next Middle Eastern capacity wave is set to start coming onstream in 2005-06, just about the same time as three cracker complexes are due to be commissioned in China - the BASF-YPC complex at Nanjing, the Shanghai Secco Petrochemical Co complex at Caojing, near Shanghai, and the CNOOC-Shell Petrochemicals complex at Nanhai.

The timing of all the Middle Eastern projects is bound to remain a constantly moving feast because of issues such as utilities supply, financing and the lack of experience of countries such as Iran in bringing projects onstream successfully.

If all goes to plan, ethylene production in the Middle East is expected to grow by at least 15m tonne/year by the end of this decade to 25m tonne/year. This would leave the region's C2 output accounting for 20% of global production against the current 6%.

The clock does seem likely to be pushed back a few more minutes following the delays that have already occurred to many projects in Iran, but it is certainly not going to stop ticking.

And some of the estimates of the impact of all the extra Middle Eastern capacity on Asia are scary.

For instance, CMAI estimates that South Korea's lldPE producers will face a ten-fold reduction in their exports to China in 2005 compared with last year due to much more Middle Eastern capacity. The forecasted decline is from 310 000 tonne of shipments in 2001 to 50 000 tonne in 2005.

And the Taiwanese will see the 150000 tonne of lldPE that they exported in 2001 shrink to the point where the country's producers will be included under 'other Asia'. CMAI calculates that 'other Asia' will ship 188 000 tonne of lldPE to China in 2005.

But it's not all gloom and doom.

The consultancy is upbeat on Singapore. It predicts a big increase in lldPE shipments from Singapore to China.

ExxonMobil, which produces 480000 tonne/year of hdPE/lldPE at its Jurong Island complex, is often cited by consultants as a good example of the benefits of integration between a refinery and a petrochemical complex. On a cost/tonne basis for PE delivered into China, the complex is said to be as efficient as many producers in the Middle East.

The prospects for Asian producers of ldPE and hdPE are much less gloomy because these two polymers are less commoditised than lldPE. Whereas the main application for lldPE is agricultural film, ldPE and hdPE are used for some higher value-added applications. CMAI expects the declines in Asian exports of these polymers to China will be less severe.

Also, Asian PP producers are going to have an easier time as there is relatively little new PP capacity due onstream in the Middle East because its crackers are primarily ethane-based. The issue for the Asian PP producers will be more one of finding sufficient propylene to keep up with PP demand growth that is forecast to outstrip PE.

But to return to the bad news, there is a need for further restructuring throughout the industry because of too many non-worldscale plants, some of which are either insufficiently integrated or are entirely stand-alone.

What form should the restructuring take?

To use lldPE as an example again, CMAI's Berggren suggests: 'Some of the less competitive Asian producers could convert their plants to higher-margin ethylene-vinyl acetate (EVA) production.'

And if they cannot switch to EVA or to other higher-margin products, maybe the producers should merge or shut down.

In South Korea, Hanwha Chemical has already taken over Daelim Industrial's 260000 tonne/year of lldPE production which saw Hanwha's capacity in the polymer rise to 355000 tonne/year.

This was part of a wider polymer asset swap which also saw the transfer of Daelim's ldPE capacity to Hanwha with Daelim acquiring Hanwha's PP capacity.

Despite the lldPE and other polymer consolidations at the Daesan petrochemical site, the South Korean polymer industry remains far too fragmented. For example, South Korea still has three other lldPE producers - Hyundai Petrochemical with a capacity of 160000 tonne/year, Samsung General Chem-icals with 125 000 tonne/year and SK Corp with 160000 tonne/year.

And in Japan, despite substantial capacity rationalisation, industry sources believe that more plant closures across many products should and will happen.

Japan Polyolefins has, for example, said that it may scrap a 40000 tonne/year ldPE plant at Kawasaki, as it recently acquired a 50 000 tonne/year lldPE gas-based metallocene catalyst plant, also at Kawasaki, from Nippon Petrochemicals.

Linked to closures will be further consolidation. For instance, some observers predict that Japan's nine cracker players will be reduced to 3-5 over the next few years, leading to the scrapping of smaller, older plants and possibly to the building of a new worldscale cracker.

CMAI estimates that across the whole of Northeast Asia (NEA), 400 000 tonne/year of ethylene capacity will be shut down over the next few years. It adds that most of these shutdowns, which will be either just mothballing of crackers or permanent closures, will be in Japan.

Other observers believe that NEA will see the shutdown of as much as 2m tonne/year over the next few years.

So far, we have looked at just the Middle East as the driver towards consolidation, but of course, there are other factors such as falling import tariffs.

In Japan's case, its petrochemical import tariffs are due to come down in 2004.

How open Japan's general economy will eventually become is a subject of a lot of debate. Some observers believe that the cultural barrier will mean that Japanese companies across all sectors will continue to buy from Japanese companies, no matter how uncompetitive prices are.

And in some industries, fierce rearguard actions are still being fought against deregulation by those with an interest in keeping prices high through protected markets.

But CMAI is unequivocal in its view that for petrochemicals, there will be major increases in imports of polymers into Japan as a result of falling tariffs. Its forecast for PP, for instance, is that imports will rise to around 150000 tonne in 2005 from approximately 75000 tonne in 2001.

And it believes that the country will become a net importer of resins when tariff barriers are finally abolished.

The consultancy also predicts increasing imports of plastic film and bags.

Japan's PP and polyurethane (PU) producers are already feeling the heat from restructuring in the auto industry.

The country's vehicle manufacturers are increasingly showing a willingness to buy PP and PU from more competitive overseas producers as part of their efforts to save on costs.

And in China, CMAI believes that some smaller producers will have to shut or slow down because of the huge gap between their production costs and those of their Middle Eastern competitors (see tables).

To return to the subject of integration, their lack of it could be another reason the Chinese producers will be forced to exit.

And in Southeast Asia, with the Philippine cracker still a long way off if not a pipe dream, stand-alone producers such as Petrocorp and JG Summit Petrochemicals may well flounder even more as the competitive environment hots up.

Whether all the non-integrated, small producers will shut down, though, has to be in doubt. Some of them have continued to operate despite heavy losses, due to political support that has led to financial backing.

The continued operation of these producers has been crucial to preserving downstream jobs.

So there you have it. Things can certainly only get better over the next few years, provided Iraq doesn't get in the way.

In the longer term, though, the prosperity of many Asian producers is in the balance.

Let's hope there are no parallels with Britain's Labour government which, in the view of this author, has failed to live up to most of its promises.

That's politicians for you. Hopefully, the Asian chemical industry will prove to be very different.

Further details behind the costs presented will be available in an upcoming publication of CMAI's World Polyolefin cost study. Contact Fern Chua at +65 6226 5363

Integration - an essential ingredient in the restructuring process

Restructuring shouldn't just be about closing non-worldscale plants, increasing economies of scale and shedding costs through the sharing of resources such as marketing, say industry observers.

What is also essential is boosting integration, both forwards and backwards.

One example of improved integration is in Japan through phase one of the government's Renaissance programme, which is scheduled for completion by end-March 2003 (phase 2 will involve a drive towards adoption of more environmentally friendly technologies).

Phase one of the programme involves laying better links between refiners and petrochemical producers at each of the major refinery-to-petrochemical sites in Japan. These links are taking the form of laying more pipeline links and pooling knowledge of each other's' markets.

Demand for refinery products is on the decline in Japan due to factors such as less electricity generation from low-sulphur heavy oil for environmental reasons, said Kenji Takahashi, Mitsubishi Corp's paraxylene (PX)business manager at the recent World Fibres and Feedstocks Conference in Singapore. The event was organised by PCI, ACN and our sister magazine, ECN.

If more of this heavy oil is fed through fluid catalytic crackers (FCCs), more lighter fractions such as liquefied petroleum gas, naphtha and kerosene are produced, Takahashi added.

Part of the fractions could be used for gasoline. But during low periods of demand for gasoline (in Japan, gasoline demand is in constant overall decline), better understanding of the requirements of the petrochemical producers has made the refiners realise that there is a lot to be gained from extracting mixed xylenes (MX) and toluene from the gasoline pool, he said.

Takahashi estimated that as much as 600000 tonne/ year of MX and toluene could be available in Japan through this improved co-ordination.

Given that some industry observers and players expect PX to be in very tight supply over the next few years, this extra feedstock could be of huge value.

The reason for the forecasted tight supply is a 2.7% growth in global polyester demand in 2000-01 against a rise in worldwide refinery capacity of only 0.5% during the same period.

And for the likes of ExxonMobil in Singapore, the use of lower-value refinery streams as feedstock for its cracker has boosted its competitiveness.

The refinery side of the business benefits from increased throughput and the petrochemical side through captive feedstock and a higher return than placing these lower-value streams in the fuel pool.

Another complex with good integration with a refinery is Hyundai Petrochemical's at Daesan in South Korea, provided an agreement can be reached for resumption of naphtha supplies from Hyundai Oil Bank (ACN 18-24 Nov, p10).

Also, the complex has fairly new and worldscale plants and a good jetty. It can also export quickly and cost effectively into northern China, where grassroots cracker projects are some distance from completion.

But for Hyundai Petrochemical to be really viable, a strategic shareholder or shareholders need to be found and its US$1.7bn debt has to be reduced.

Generally speaking, sharing co-products with refineries, offtaking propylene from refineries, a ready market for pygas and a butadiene extraction unit attached to a cracker are also means by which petrochemical pro-ducers can improve their economics.

CHINA LLDPE IMPORT MARKET COST-COMPETITIVE ANALYSIS 2001
Imports Delivered cash cost
('000 tonne) (US$/tonne)

Other Africa/Middle East

105 430

Saudi Arabia

435 578

Singapore

165 603

Taiwan

150 610

Europe

60 649

South Korea

310 651

Indian subcontinent

65 660

Americas

100 660

Japan

30 736

Other Asia

57 755

Thailand

45 785
Source: CMAI


CHINA LLDPE IMPORT MARKET COST-COMPETITIVE ANALYSIS 2005

Imports Delivered cash cost
('000 tonne) (US$/tonne)

Saudi Arabia

595 404

Other Africa/Middle East

389 479

Singapore

450 510

South Korea

50 527

Other Asia

188 553

Americas

184 578

Europe

61 578

Japan

23 602
Source: CMAI




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