INSIGHT: Differentiated China PE gains ground, standard grade slips

18 October 2011 15:55  [Source: ICIS news]

By John Richardson

PERTH, Australia (ICIS)--Spending time with your customers is always a good idea, but doing so seems to have become even more important during a very difficult year for China’s polyolefins business.

The reason is a split between the fortunes of the top end of the business - the more differentiated grades of polyethylene (PE) - and standard commodity grades, said a senior source with a global producer.

Demand growth for value-added grades was still in positive territory whereas commodity grade consumption would fall by 5-10% over 2010, he added.

“I have been on the road a great deal over the last few months, talking to our customers for higher-end applications. These converters continue to do well and are still looking to expand capacity,” continued the source.

Such processors tend to be big, as well as operating state-of-the-art machinery that supplies increasingly sophisticated packaging film for China’s rapidly evolving consumer markets. Just 10-20 of these converters account for 20-30% of China’s total polyethylene (PE) consumption, he said.

Scale means that this type of end-user has less trouble accessing credit, unlike the small and medium-sized enterprises (SMEs) that have suffered the most from China’s battle against inflation.

China has some 10,000 plastics processors, the vast majority of which are SMEs.

A recent clampdown on issuing letters of credit in Zhejiang province and in the Shanghai region has made the plight of the SMEs - which include many trading companies - a great deal worse.

Last week, Beijing announced measures designed to help smaller companies.

These include increases in VAT and business tax thresholds for the SMEs, and lower reserve requirements for smaller local banks that lend to the SMEs.

But the concern is that a lot of this extra support will be misdirected, as has been the case in the past, into the hands of the bigger companies and the speculators.

Another anxiety rests around the failure, as yet, to win the fight against inflation. Although the overall inflation rate fell to a three-month low of 6.1% in September, food prices still rose by 13.4% compared with a year earlier.

Overall credit, therefore, is expected to remain tight until the battle against inflation is won. An annual target of 4% inflation was set for 2011 with a similar level expected to be the objective in 2012. 

Tight credit will force the SMEs to remain more reliant than in the past on private, unlicensed lenders that charge interest rates reportedly as high as 70%. Bankruptcies will remain a threat, making it very important for resin suppliers to stay close to their customers for another reason - avoiding bad debts.

In these straitened circumstances with pricing on the whole flat or in decline since March, 2011 has also been a story of market share in commodity grades going to those with the best cost positions.

Middle East plants have run better so far this year compared with 2009 and 2010, as a result of technical problems being sorted out at facilities brought on-stream during those two years. 

The region’s producers will just about always run at 100% if they are able to do so, regardless of market conditions, because they will always make money.

This is reflected in China’s PE import statistics, provided by Global Trade Information Services .

A 60% increase in shipments from the Middle East to China took place between January-August 2009 and January-August this year as production at new plants steadily increased.

China PE imports Jan-Aug 2011
Graph prepared by International eChem

Northeast Asian volumes were down 34%, reflecting the feedstock disadvantages of South Korean, Taiwanese and Japanese producers.

This has left them unable to discount as heavily as “feedstock advantaged” competitors, leading to lost sales in China and an attempt to regain some ground by selling more to Latin America, according to market sources.

The 47% fall in North American Free Trade Agreement (NAFTA) shipments has occurred despite the ethane cost advantages of the US and Canadian producers.

“In the case of the US, I think the fall in shipments was because PE producers maintained high prices - and in fact pushed for price increases,” said a Singapore-based sales and marketing executive with a North American PE producer.

Attempts have been made to raise monthly contract prices by 5 cents/lb ($110/tonne) since May.

These efforts failed again in September with two producers announcing October contracts 3 cents/lb lower. The announcements were viewed by buyers as an attempt to stop prices from falling any further.

The reduction in October contract offers is the result of a 26% fall in ethylene spot prices in September-early October and weakening domestic PE demand.

“I think we are therefore going to see a big increase in PE shipments from the US to China during the fourth quarter. You are going to be surprised at the size of the trade,” added the source quoted earlier, who works for a global producer.

“US producers have a choice of either cutting operating rates that would push-up unit costs of production by several hundred dollars per tonne or raising exports. I think they will choose the latter.”

And on the demand side, China seems to be getting worse.

This was reflected in another round of price reductions for the week ending 14 October. PE prices fell by $10-90/tonne with polypropylene (PP) down by $10-60/tonne in southeast and northeast Asia, according to ICIS.

So the fourth quarter looks very difficult if you are neither differentiated nor low cost, suggesting the need for long-awaited rate cuts at South Korean crackers. The crackers are still running at close to 100%, said a chemicals analyst, who is based in Singapore.

The great news is that there is very little new capacity due on-stream over the next 12-18 months.

China might also win its inflation war in 2012, resulting in a return to more relaxed lending conditions.

But Credit Suisse raised its estimate of China’s percentage of non-performing loans to 8-12% from 4.5-5% last week. This would prevent lending conditions from returning to normal until 2015, as the Chinese government needed to improve due diligence on new loans while working bad debt out of the financial system, added the bank.

The rest of the global economy is also in crisis, which is reflected in media reports of the mood at the latest Canton Trade Fair in Guangzhou.

The bi-annual trade fair, which is taking place this week, brings together Chinese manufacturers of finished goods and western purchasing managers.

Export orders are reported to be down, particularly in toys, electronic goods and the textiles business.

Further problems for the exporters include rising wage costs, a stronger yuan, and as already mentioned higher financing costs.

Chemicals and polymer companies in general might be well-advised to be very cautious as they draw-up budgets for 2012.

Read John Richardson & Malini Hariharan's Asian Chemical Connections blog


By: John Richardson
+65 6780 4359



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