Middle East petrochemical project activity slows down

Sandstorm

17 March 2009 00:00  [Source: ICB]

Turmoil in the financial markets and the global economic slowdown are delaying new projects in the Middle East

NEW PROJECT activity in the Middle East is slowing as petrochemical companies adjust their ambitions in the face of new business realities. Financing plans are being rearranged, and contracts with engineering firms renegotiated.

The economic meltdown in the US has finally hit this region. Bank lending has fallen, credit availability has tightened and project proposals are being subjected to greater scrutiny.

Companies, too, are reexamining project economics and, in some cases, deferring plans to take advantage of falling construction costs. The net result is a fresh round of postponements to already-delayed schedules of post-2010 projects.

"It is a bleak landscape. There's so much volatility and uncertainty. This is not an environment conducive to taking major projects to the market," says a source from a Bahrain-based project financing company. "We are unlikely to see any come to the market this year unless there are good sponsors, but these are limited in number."

Project sponsors are finding that the number of banks willing to lend has fallen. International banks that were actively lending in the region during the past few years are focusing on setting their own houses in order.

"We used to see them go aggressively after new projects. But their own situation is not so good now, as they have suffered huge losses. They are not eager to do cross-border financing," says a source from a Saudi bank.

Local banks also face problems. Dollar funding is an issue as liquidity is tight globally and interbank borrowing is not as easy as before. Interest rates for local currency loans are higher than dollar-denominated ones.

It is a difficult time for lending across all industries, stresses Tarun Puri, an executive with the project finance team at Bahrain-based Gulf International Bank. "The issue is that lending is at a standstill globally. There is a complete credit squeeze, and bankers have become extremely selective."

And when they do lend, banks are demanding a higher spread in view of tight liquidity and heightened credit risk, says Puri.

The challenging financing environment has already forced state oil company Qatar Petroleum(QP) and Korea-based Honam Petrochemical to defer their joint venture (JV) cracker and derivatives project. A final decision on the project is likely later this year.

FINANCING FOR MEGA PROJECTS

Putting together finances for other projects, especially mega ones, will be complicated. One such project is the Saudi Aramco and US-based Dow Chemical JV at Ras Tanura, in Saudi Arabia.

The integrated refinery petrochemical project, estimated at $26bn (€21bn), is one of the biggest in the sector to date. Front-end engineering and design (FEED) preparatory work kicked off in early January, says a source close to the project. The end of FEED and tendering of engineering, procurement and construction (EPC) contracts is not likely before early next year, he adds.

According to recent local media reports, both Dow and Aramco are looking to replace Royal Bank of Scotland as the lead financier for the project as there are doubts over its capabilities following recent huge losses.

Doubts are also being expressed on whether the Ras Tanura project will be able maintain its schedule of completion by 2014, as Dow is currently struggling to find solutions to some other major headaches.

It is searching for a replacement for Kuwait's Petrochemical Industries Co. (PIC), which walked out on the K-Dow JV for Dow's commodity chemicals business. Press reports suggest it may try to revive the deal with PIC. And it faces a heavy debt burden after agreeing to complete an expensive acquisition of US-based specialty chemical firm Rohm and Haas.

There are unconfirmed reports that Aramco might increase its stake in the Ras Tanura project, or that some other company might step in to take the project forward.

"I won't be surprised if they [Dow] take a smaller stake. But as a strategic investor, how small can they go? If the stake is too small, then there is nothing strategic about the investment," says the source from Bahrain.

Despite these doubts, it is likely that RasTanura will eventually happen, as it has thebacking of Aramco and the government.

STATE SPONSORS ATTRACT FUNDING

And though financing will not be easy, lenders are still interested in projects that have state sponsors behind them.

Middle East and North Africa (MENA) region state-driven investor feasibility studies are still progressing, even if the time from feasibility to development phase is taking longer, due to the changing economic climate, points out a UK-based petrochemical consultant.

Among the projects moving forward is the plan for a $20bn-plus chemical industrial city in Abu Dhabi, the United Arab Emirates (UAE), that will be managed by Abu Dhabi National Chemicals Co. (ChemaWEyaat) and Borealis. ChemaWEyaat is a JV between the Abu Dhabi Investment Council, International Petroleum Investment Co. (IPIC), also of Abu Dhabi, and Abu Dhabi National Oil Co. (Adnoc). Borealis is a JV between IPIC and Austrian oil and gas company OMV.

Australia-based engineering firm Worley Parsons has been selected to carry out preliminary engineering on the project and a tender for FEED is expected to be released in the next few months. The first phase is targeted to begin production in 2014.

Worley Parsons is also conducting a feasibility study on the third olefins and derivatives complex at Abu Dhabi for Borouge, a JV between Adnoc and Borealis.

But progress at some other projects has slowed. This includes Saudi petrochemical company Petro Rabigh's second phase in Saudi Arabia and the ExxonMobil-QP JV cracker and derivatives project in Qatar.

A source close to the Qatar project says that the US major and QP delayed awarding the FEED contract from December 2008 to the first quarter of 2009. This has not yet been done, and nobody knows when it will happen, he adds.

While governments in the region remain interested in supporting petrochemicals, they might have to make tough choices as availability of funds is limited. It is likely that more critical sectors such as power will be prioritized over petrochemicals.

"That is something that banks can ill afford to ignore," notes Puri.

RENEGOTIATING CONTRACTS

Governments can afford to delay petrochemical projects. And it might actually make sense to do so as construction and equipment costs are falling. Companies have already started taking action.

"Clients are renegotiating engineering, procurement and construction (EPC) contracts and asking for a 20% reduction. Many projects are getting delayed or put on hold for this reason," says a source from a leading engineering and construction (E&C) company.

"One thing is clear - most companies want a lower price. Project negotiations are tougher than last year," says a source from a second E&C firm. And there is plenty of scope for a downward revision. Construction costs in the Middle East have soared since 2005 as an economic boom in the region fueled a sharp rise in prices of steel, cement and labor.

But the situation started changing in the second half of 2008, following a rapid economic slowdown in the region. The slump in the real estate sector, especially in Dubai, UAE, has eased the upward pressure on prices of construction materials.

"The cost of steel has fallen, and therefore people expect lower [construction] costs. Companies are revisiting projects," says a project planner at a Saudi petrochemical company.

A source from a third E&C firm says projects are typically being delayed by six months as companies hope to get better prices.

The trend was set by Saudi Aramco, which decided late last year to renegotiate contracts for its giant Manifa oilfield development project, he notes. In addition to the Manifa project, Aramco also delayed awarding contracts for JV refinery projects with France-based oil company Total at Al-Jubail and with US oil firm ConocoPhillips at Yanbu.

But expectations for an immediate 20% cost reduction could be a bit premature.

"Costs have fallen by only 8-10% now - they may fall further after the third quarter of 2009," says the source from the first E&C firm.

A source from an engineering company also believes that it could take a few more months to achieve the 20% mark. "If clients can wait for five months, they can get a 20% discount. Those that can wait will wait," he says.

Complexity in the Middle East projects environment has only increased in the past six months. New challenges have emerged even as companies grapple with the old problem of finding feedstock (see page 26).

"There is the perennial issue of feedstock availability and pricing. There is very little ethane available in Saudi Arabia. On pricing of propane and butane, there is uncertainty about what will happen when the mechanism [a 30% discount to international prices] changes," says the source from Bahrain.

Most of the available ethane in the region has already been allocated. Many new crackers are relying on a less cost-competitive mix of feedstocks that includes propane, butane and even naphtha.

There is certainly scope for further petrochemical development in the Middle East. But with a tough environment only getting tougher, it is going to be an uphill struggle to complete projects on schedule.

HIGH HOPES FOR M&A

Expectations are running high that the Middle East will actively participate in petrochemical mergers and acquisitions (M&As) over the next few years.

The region certainly has the money and there is considerable interest among companies to expand their geographic profiles.

In February, Abu Dhabi sovereign wealth fund IPIC agreed to acquire Canada-based NOVA Chemicals for $2.3bn (€1.8bn), including the assumption of debt. IPIC, which has a net worth of over $14bn, is well entrenched in the global refining and petrochemical industry, having acquired stakes in Borealis, OMV, Hyundai Oilbank, Cepsa, Oman Polypropylene and Cosmo Oil. It has a presence across the Middle East, Europe and Asia. The only missing territory was North America and now it will gain a presence there through NOVA.

Industry players also expect others from the region, including Saudi petrochemical giant SABIC, Oman Oil and state oil company Saudi Aramco, to participate in the race to acquire distressed assets.

While it may sound logical for the Middle East to participate in global M&A to expand market share and gain access to technology, regional players are unlikely to rush in.

"Buying a struggling European company, even if it is cheap, has to make sense. There is a reason why it is cheap. Middle East companies will bide their time," says a source from a Bahrain-based merchant bank. "They will see how things pan out over the next six months and will have to find a compelling reason to buy in the US or Europe."

MAJOR PROJECTS IN THE MIDDLE EAST

Country/Company Product Targeted completion Status
Saudi Arabia
Arabian Industrial Fibers (Ibn Rushd) propylene and derivatives 2012 planned
Saudi Kayan olefins, aromatics and derivatives Q1 2011 under construction
National Chevron Phillips ethylene and derivatives Q4 2011 under construction
Petro Rabigh II olefins, aromatics and derivatives - under study
Saudi Aramco/Dow Chemical ethylene, aromatics and derivatives 2014 FEED stage
Saudi Aramco/Total propylene and aromatics post 2012
Abu Dhabi
Borouge II olefins and derivatives H2 2010 under construction
Borouge III polyolefins 2014 feasibility study stage
ChemaWEyaat olefins, aromatics and derivatives 2014 under preliminaryengineering
Qatar
ExxonMobil/Qatar Petroleum ethylene post 2012 FEED award delayed
Honam Petrochemical/Qatar Petroleum olefins and derivatives post 2012 decision on project deferred to H2
Oman
Duqm Refining & Petrochemical refinery, olefins and derivatives post 2012 delayed
 Source: ICIS, Companies

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By: Malini Hariharan
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