Germany loses its competitive edge

26 April 1993 00:00  [Source: ICB]

In the past, German chemical companies could always rely on a strong home market, but now a sharp recession has put paid to that. Germany's high labour and environmental costs, together with a strong deutschmark, only make matters worse.

AFTER A tremendously difficult 1992, the German chemical industry could have been forgiven for thinking matters could not get much worse. But the first quarter of 1993 has seen a sharp downturn in domestic chemical sales in most products, with little or no prospect of recovery this year.

After battling through last year with lower exports and falling prices, the German chemical industry has now to come to terms with sharply falling volumes in its home market as well. The development of the recession in Germany has been swifter and deeper than many anticipated, and domestic demand for chemicals from the hard hit automotive and manufacturing sectors has been severely reduced.

The virtual collapse of demand in January saw chemical sales fall 17% over the same month a year earlier, with the decline equally spread over domestic and foreign business. Even if there is a belated recovery, the major players are not expecting the first quarter results to match those of last year despite efforts to reduce fixed costs.

Predictions for GNP growth for western Germany show a contraction of 0.5% this year in real terms, although if the 5% growth for eastern Germany is added in, the economy of Germany as a whole should show zero growth at best. The increase in VAT at the beginning of the year is affecting consumer demand in broad product categories, feeding back through to the chemical producers via the automotive and electrical industries. Also affected by the recession is the construction industry, which has seen the growth of recent years stunted.

Orders in hand at the end of the first months of the year have fallen to an all time low - volumes are especially low in plastics. A similar trend is evident throughout much of western Europe, with only the UK now appearing to be pulling out of recession, if only slowly.

Adding to the current woes of the German industry are the sharp fall-off in sales of pharmaceuticals from the beginning of the year, due to German government moves to curb healthcare spending, and lower agrochemical demand because of revisions to the EC common agricultural policy. Sales of the latter were down no less than 15% last year.

And to cap it all, the German industry has seen its international competitiveness challenged on three grounds: high salary costs, high levels of environmental investment and high deutschmark exchange rate levels against major export destination currencies.

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Germany typically exports around half its chemicals production, and in good times, the German industry can often compensate for its cost position. But in difficult times, 'the disadvantages our industry suffers in international competition become more obvious and distressing', commented Wolfgang Hilger, president of industry association VCI earlier this year.

The overall result has been a move to rationalisation and the loss of thousands of previously secure jobs (ECN 26 April p32). Chemicals employment in west Germany declined 1.3% in 1992, to 586 000, and is expected to fall by a further 20 000 during 1993. Moreover, German companies are beginning to look to joint ventures and asset swaps as ways out of the current predicament.

And none too soon for the petrochemicals end of operations, is the strong response from a number of major producers outside Germany. BP Chemicals and Elf Atochem both regard the German industry as better equipped to rationalise olefins and polymer production, given the flexibility of feedstock supplies along northwest European pipelines.

Figures from the VCI show chemical production in western Germany tailing off from around the middle of 1992. For the year as a whole, though, production rose by about 1%. Increases were recorded, for instance, in ethylene and propylene, despite the depressed state of most derivatives demand. Organic chemicals as a whole were up by 3%, although prices were lower by some 8%.

German salary costs are high...
Cost/employee in 1991, $'000
	At 1991 exch rate	At current rates
BASF	41	42
Bayer	48	49
Hoechst	39	39
All German   chemical companies		41
Akzo	34	34
DSM	33	33
ICI	32	26
...and increasing
Country	Labour cost rise, %
	1992	1993
Germany	5.0	4.0
France	4.0	3.0
UK	6.5	na
Italy	7.0	3.5
Belgium	6.0	5.5
The Netherlands	5.2	4.2
Sources: VCI, UBS Phillips & Drew, Cefic, national chemical federations

Ethylene production in the whole of Germany for 1991 was 3.4m tonne, and for 1992, 3.65m tonne; for propylene the figures are 2.23m tonne and 2.31m tonne, respectively. This production was augmented in 1991 by net imports of ethylene of 0.42m tonne and propylene of 0.62m tonne, and although figures for 1992 are not available, it seems most likely that imports would be considerably down in the year.

Although production was up, turnover for west German companies was down slightly to DM164bn ($102bn) from 1991's DM165.8bn, due to falling prices. The continuing strength of domestic demand until the last quarter of the year, when recession hit, can be judged by the fact that turnover in Germany slipped only 1%, to DM95bn.

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But the fall in exports was much more dramatic. With the US, Japan and much of Europe in recession, and with the deutschmark at a high level for most of the year against most currencies, export value was DM69bn, down from DM83.2bn in 1991. The dollar was an average of 6% higher against the DM last year than in 1991, although recent strengthening of the US currency and the recovery of the economy there may offer some succour to the beleaguered German export drive. But, as the VCI commented earlier this year, 'Last summer we were hoping for an increased foreign demand to stimulate the economy. These hopes never materialised.'

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In the first half of the year, increasing volumes and declining prices more or less balanced one another. But from the third quarter there was no such luck, and both components showed a downward trend. Prices slipped 2% in the year on average, with the decline attributed by the VCI to the pressure of worldwide overcapacities and, again, the strong deutschmark.

Top German company results 1992, DMm
Company	Sales	Change, %	Op profit	Change, %
Hoechst	45 870	(2.7)	2152	(22.2)
BASF	44 522	(4.5)	1311	(39.8)
Bayer	41 195	(2.8)	2776	(12.6)
Henkel	14 101	9	764	(11)
Hüls	10 300	0	(210)	nm
Schering	6360	(1.45)	529	(8.2)
Degussa*	4649	1.4	1	1
Rutgers	4346	11.4	677	(85)
Wacker	3250	(2)	1	1
Metallgesellschaft*	2697	17	1	1
Erdölchimie	2153	(7.8)	(125)	nm
* Chemicals only, MG includes Sachtleben, Chemetall and nine months of Dynamit Nobel; nm, not meaningful; 1 not available.

The price decline inevitably fed through to the results of the west German producers, for no less than the third year on the run. For 1992, profits of VCI member companies declined by more than 30%, on top of falls of 25% and 20% in 1990 and 1991. Although cost savings on raw materials helped a little, these were easily outweighed by the increase in labour costs in the west German industry. Salaries rose for the second year running by 5.4%, with unit labour costs showing a roughly 3% rise over the year.

Figures prepared by Alasdair Nisbet, analyst at UBS Phillips & Drew, show just how high German labour costs are now in comparison with the rest of Europe, especially following the devaluation of sterling and other European currencies last September (see table p21). The differences are inevitably much higher when Far Eastern producers are included. Predictions from Cefic show that labour costs are expected to rise by another 4% this year in Germany, although with the sharpness of the downturn, some major companies are looking to agree much lower terms of increase this year.

The outlook for the industry is not positive. A further decline in production and turnover is predicted for the first half of 1993 at least. As Hilger noted at the VCI briefing: The German chemicals industry faces the greatest economic challenge since the year 1982. But today the starting position is more difficult than it was ten years ago.

'Aggravating factors have increased in number whilst conditions for an improvement have worsened. Examples of risks that did not exist at the time are the dramatic changes of the markets in eastern Europe, and the financial efforts in connection with German reunification. Also, the pressure of competition for German companies on world markets and in Germany has become considerably stronger.'

Certainly, German producers can no longer regard only the US, Europe and Japan as their competitors. New suppliers, in particular from Asia, are trying to secure a share of world markets and one of the reasons for price erosion in important sectors of the industry is their presence in the market.

The result is all too clear: the current difficult situation of the German chemical industry is not just a result of the general economic climate, but has structural causes. As Hilger warns: The latter will persist after an upswing and mere cost reductions will not solve the problems.

'In the long term, it will be far more important for companies to optimise products and production structures. Innovative strength is the decisive criterion for their chances to succeed.'

The feeling is echoed by BASF's chairman Jürgen Strube, who believes the past year marked a turning point in the structural development of the world economy. 'With the Western nations - except the US - and Japan now clearly in recession, economic growth in southeast Asia remaining above average, and new competition from eastern Europe, the next few years will see a reorientation of the international division of labour.'

ICIS Copyright © Reed Business Information 2009

Author: John Baker
+44 20 8652 3214

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