A major shake-up?

29 September 2003 00:00  [Source: ACN]

Could China cease to be a major importer of PVC and become an exporter instead? Some see this as very likely, given the expected reduction in PVC demand growth and the build-up of local capacity. However, as John Richardson reports, macro-economic problems could make nonsense of the forecasts

Is the global vinyls industry in for a huge shake-up in the next five years? Some in the industry believe it is imminent as China ceases to be a major importer of PVC and possibly becomes an exporter.

This was one of the predictions made by He Gang, marketing and sales director of Shanghai Chlor-Alkali Chemical Co (SCAC) in a paper he presented to the Centre for Management Technology's 11th Asia Petrochemicals Summit in Bangkok earlier this month.

This would be a remarkable turnaround for a country that imported 2.25m tonne of PVC in 2002.

The reasons for the forecast seismic shift in the trade pattern are a reduction in PVC demand growth as a result of product substitution, for instance, the decline in the use of PVC to manufacture drinking bottles, and the huge build-up of local capacity that is expected to replace all those imports (see p15).

And what could further dent demand growth after 2008, once the Beijing Olympics are over, is what some commentators believe will be a hollowing-out of demand from the construction sector.

He Gang's prediction is that China's PVC demand will grow by less than 10% this year against 15% two years ago and 12% in 2002. Local production plus imports totalled 5.64m tonne last year.

At the same time, capacity expansion will be much faster.

The new capacities include a further 100000 tonne/year by LG Dagu Chemical at Tianjin which has raised its capacity to 340000 tonne/year and an additional 70000 tonne/year by SCAC at Wujing, raising its capacity at the site to 350 000 tonne/year. The extra capacities came onstream in July and August this year respectively.

These two capacities are based on the ethylene dichloride-VCM route, whereas much of the capacity being added in eastern China is based on the carbide process, which is still quite popular (see box).

For example, of the 450 000 tonne/year total PVC capacity expansion in China in 2001, 90% was through the carbide process.

And some in the industry believe the sharp rise in China's total carbide capacity will continue from 2.66m tonne/year in 2002 to 3.23m tonne/year in 2003 and 5.4m tonne/year in 2008.

So much for the long term for the time-being.

To switch to this year, two factors have combined to result in a much more immediate and no less dramatic shift in trade patterns for not only PVC, but also for ethylene dichloride (EDC) and VCM.

The commissioning of Qatar Vinyl Corp's (QVC's)340 000 tonne/year EDC facility in 2001 has hammered home to Japanese producers, if they didn't know already, that they are at a huge disadvantage in terms of electro-chemical unit (ECU) costs when it comes to the Middle East and to a lesser extent everywhere else.

He Gang estimates that the ECU costs of Japanese producers are US$353/tonne against US$335/tonne in the US, US$305/tonne in Western Europe and only US$280/tonne in the Middle East.

Additional Middle Eastern EDC capacity has given the Chinese buyers another very strong card to play, resulting in 52300 tonne of EDC imports from the Middle East in January-June this year. This compares with just 11400 tonne for the whole of 2002.

And with QVC considering an EDC expansion which would lead to exports of 600 000 tonne/year against its current 175000 tonne/year, a decision on which will be made next April (ACN 21 Apr p21), the competition from the Middle East looks set to intensify for the Japanese producers.

In addition, Sadaf in Saudi Arabia is to expand its capacity to 900 000 tonne/year from 840 000 tonne/year. Iran's National Petrochemical Co (NPC) will have a surplus of 267 300 tonne/year of EDC when its integrated project starts up, the current schedule for which is Q3 2006. However, some of this surplus might be used for other NPC projects.

The main victims of the increase have been the Japanese producers which have been forced to cut back on operating rates. The inevitable question will be whether there will have to be more Japanese chlor-alkali/vinyls consolidation because of the rise in Middle Eastern capacity.

At the top end of the chain, Japan, South Korea, Taiwan, the US and Russia have been walloped by the imposition of preliminary PVC antidumping duties by the Chinese government on 12 May this year. The duties range from 10-115% with final determination due on 29 September. The duties will not be increased on that date but could be cut, with money paid back to the producers that's currently being held on deposit.

The effect on overseas shipments has been dramatic - they were only 1.248m tonne for the first seven months of this year against the 2.25m tonne for the whole of 2002. Imports from January-July were 9.3% lower than the corresponding period last year. One industry source estimates that full-year 2003 imports will be down by as much as 600 000 tonne over last year.

The obvious beneficiaries are the local producers. During the period of investigation, which ran from 1 January 2001 to 31 December 2001, local capacity increased by the same amount as the rise in imports, forcing local producers of existing and new capacity to cut back operating rates, local industry sources claim.

But they now have been able to ramp up production of existing plants and run new plants flat out right after commissioning. Production from January-July was 2.274m tonne, 17.2% higher than the same period last year. Profitability for local producers has also improved. A second industry source says local producers increased prices by Rmb7000/tonne immediately after the duties were imposed.

But the Japanese have been able to partially compensate for the loss of both EDC and PVC shipments through ramping up VCM exports to China.

As a result, VCM shipments to China during the first seven months of the year were 4.4% higher than last year at 477 700 tonne. Imports in 2002 totalled 744700 tonne, which suggests that a fairly healthy increase will be recorded for 2003.

The final antidumping duties on PVC, when they are announced, will be in place for five years, meaning a great deal more pain for the Japanese, South Korean, Taiwanese, US and Russian players. It is worth remembering, though, that the duties have applied and will continue to apply only to end-users that sell their finished product into the domestic market. Those which re-export can still buy PVC from the five countries free of antidumping duties.

Before we switch back to the longer-term picture, one final point is that there is another group of producers which has benefited from the duties - the Thais, Canadians and even Mexicans.

Market sources indicated that PVC shipments to China from the three countries have increased since May.

And so to return to the longer term and specifically, the 2003-08 period, is it really safe to conclude that China will switch from being a PVC importer to being an exporter?

A lot depends on what happens in China's red-hot property market. There has been plenty of talk for some time now of an imminent burst of the country's very huge property bubble.

Such an event would have far-reaching implications for the PVC market. It might not only upset the calculations of the very many projects at various stages of construction, but could also force a postponement or cancellation of projects still on the drawing board.

Another scenario could be a collapse of both local projects and imports as the construction sector, and with it potentially the whole of the local economy, contracts.

But how likely is it that the Chinese property bubble will burst? As is nearly always the case with questions like this, it depends on who you talk to.

Earlier this month, a senior official from the Ministry of Construction took the rather unusual and perhaps personally jeopardising (unless he was instructed from the top) step of publicly criticising local governments for approving over-ambitious and ill-conceived property developments.

In a report released at a Beijing news briefing, Liu Zhifeng accused city leaders of approving projects to boost their municipal images and win political kudos.

So what? What's new? Everyone's known for years that half the ports, bridges, airports and property developments springing up in every eastern province in China are the product of some pretty gigantic egos and have little basis in rational economics; and the smell of corruption is almost as strong as the smell of fresh paint.

But what is new, if Liu does not very soon quietly disappear to a new post in Outer Mongolia where he will be required to practise vegetarianism, is that the government has sent a message to the local authorities to calm down.

Regulating China's property market would be hugely difficult, made particularly so by the shift in home ownership in urban areas to individuals from employers.

Liu added, at the same press conference, that 95% of commercial property purchases were by individuals last year, up from 55% five years ago with US$54bn spent on newly built homes in 2002.

The individuals have the money to spend because loans are more easily available. For instance, there has been a 28.3% rise in loans for home buying in the Shanghai area in the first seven months of this year over the corresponding period last year.

Andy Xie, an economist at Morgan Stanley, has predicted that there could be a property market collapse in the next 18 months.

Others, however, including Liu, point to recent government land and tax adjustments as being sufficient to cool the market down.

Also, in several eastern provinces, GDP (gross domestic product) is reported to be rising faster than property prices, indicating that demand is not likely to collapse suddenly.

The property bubble is obviously not the only threat to the Chinese economy with doom mongers and optimists equally divided over the dangers presented by, for instance, a high percentage of non-performing loans in the banking sector.

To use an enormously overworked clich', only time will tell who proves to be right.

By then, by 2008 and beyond, PVC producers will find out whether they can still depend on China to soak up capacity or whether they are going to have to look to other developing countries, perhaps India, as the primary destination for exports.

But India is another story altogether, for another time.

It could be an anxious wait with companies seeking out as much information as possible to enable them to make some very difficult decisions. That will at least put us in a good position!

Acetylene vs ethylene in PVC production

One of the reasons why the carbide, or acetylene, route to PVC is proving so popular in China is that investors recover their capital costs much more quickly than is the case with a C2-based facility.

One estimate from an overseas producer is that the route enables investors to break even in 1-1.5 years while the ethylene route takes 4-5 years at the earliest. This, however, assumes competitive power costs.  

But a domestic chlor-alkali-to-vinyls player is much more conservative in its estimates. It places the break-even period for the acetylene route at 5-7 years against 8-10 years for the C2 route.  

The central government tried to ban the acetylene route several years ago because of its harmful effect on the environment, but for reasons unknown, it was unsuccessful. The strategy now is, in some cases, to discourage investment.  

A total and effective ban would prevent China from taking further advantage of its vast coal reserves. The process is coal to calcium oxide and coke which is then converted to calcium carbide.  

A hydrolysis of calcium carbide produces acetylene, which is subsequently reacted with hydrogen chloride to make VCM. 

Another reason for favouring the acetylene route is the difficulty in sourcing ethylene and ethylene dichloride (EDC) domestically and internationally, and fluctuations in ethylene pricing. The price of raw materials is fixed for China's acetylene players. 

It is not just ethylene supply that's the problem, but, of course, also where you are located, hence most of the EDC-VCM plants are in the Yangtze river delta region or on the eastern coast. 

One major disadvantage of the acetylene process is that it consumes much more power than the ethylene route.  

The local producer estimates that an ethylene-route PVC complex would require 3500 kWh of electricity to produce one tonne of PVC (assuming one is using an ion-exchange membrane in the chlor-alkali unit), whereas the acetylene process would need 6500-7000 kWh. 

Investors in the acetylene route, therefore, obviously prefer to build in areas which have lower power costs and rich coal reserves. These are usually inland and in the west.  

 Power costs in the west are 50% lower than those in coastal areas such as Jiangsu, which also has relatively small coal reserves. Moreover, many of the eastern provinces have been plagued by supply problems especially in the peak summer months (ACN 25 Aug, p9). 

But even if the economic conditions were right for pursuing acetylene projects in the east, they would not be approved by the government because of the environmental impact of such projects. 

 The west is a different story. Environmental standards are lower because of the need for the economic development necessary to drag the West closer to the standards of living enjoyed in the east. 

And as for disposing of the harmful carbide residue, it is being buried in concrete, in landfills and in the numerous roads that are a means of developing the economy of the west. 

  In addition, scale is another drawback of the acetylene process, no matter where you build a plant. The maximum scale of an acetylene-route PVC plant is around 120 000 tonne/year against the 300-400 000 tonne/year possible for the ethylene process. 

  But the advantages must outweigh the disadvantages because so much more acetylene capacity is being added compared with ethylene-based production.

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