Asian Chemical Connections

It is very easy assume that Asia ex-Japan will eventually catch up with the West and become as good at "solution" chemicals as the West. I am excluding Japan because it has long been a major speciality player.

All the money that China, for example, is pouring into its state-run research institutes would seem to suggest that eventually, the country will produce a BASF - or at least a collection of companies that come close to matching the German giant's innovation.

But this report from Deutsche Bank - in a theme I will be touching on a lot over the next few weeks - points out that despite the great drift east, Europe has has held its own.World_chemicals_market_Asia_gaining_ground.pdf">

I've created a new category "Analysts' Reports" which you will hopefully find useful.

The Deutsche Bank report concludes that the West has a great opportunity - and has already made an excellent start - in the green chemistry race.

"In 2007, Europe accounted for 31% of global chemicals turnover; in 1997 the share was 32%." write its authors.

Here's another important statistic from the study: BASF's turnover in 2007 was Euro60bn - the same as the entire Indian chemicals industry.

Knowledge retention, which I talked about yesterday, will be crucial for the West if it is to maintain this lead.

Constant innovation through a willingness to fail many times before succeeding might also be important. As Winston Churchill said: "Sucess is the ability to go from failure to failure without losing your enthusiasm."

It's going to be fascinating to see how the new Dow and Rohm & Haas entity raises its game to meet the challenge of responding to the need for clever new products that must also be sustainable.

Finally, here are a couple of examples of Western innovation, the credibility of which I cannot vouch for.

Ford claims to have developed a way of sequestering VOCs from paints for conversion into fuel for fuel cells.

The clever Germans say they have found a way of producing self-healing nanotech anti-corrosion coatings as an alternative to the toxic chromium.

These serve to illustrate one of the other points I made yesterday - the need to navigate all the information out there to keep up-to-speed with a rapidly changing chemicals world.

I'm bewildered. I don't know about you

The smarty pants at BASF seem to have got it right again with their $6.1bn bid for Ciba Specialty Chemicals and rumours that they might also be after Clariant.

Talking about counter-cyclical investment is one thing, but doing it is quite another. You need to have built up the cash reserves to execute the obvious - and, of course, need the right product portfolio already in place to earn the money in the first instance.

BASF has made and continues to make a packet from its oil and gas business. It's oft-repeated focus on integration and on getting out of the more cyclical commodities is also paying dividends. It was walking the talk about reducing exposure to such commodities long before a certain US-headquartered company jumped on the bandwagon.

Talking about stating the obvious of buying low and selling high, McKinsey does this - but with some useful numbers - in its report, M&A Strategies In A Down Market. Again this is from the consultancy's excellent monthly newsletter, which is free once you have signed up.

The report's authors have also written a book, The Granularity of Growth. It includes a database of 200 global companies that decomposes the most important sources of growth (market momentum, mergers and share gains). Sectors that suffered big upturns or downturns were then analysed in order to rank the importance of these growth sources - with the study also extending to individual companies strategies.

"Two sets of results stuck out," write the authors.

"First, (I wish consultants would learn to write shorter sentences - my comments in italics) of the potential strategic moves companies can take to grow in a downturn - divest acquire, invest to gain a share - an effective acquisition strategy (defined as growth through M&A at a rate higher than 75 percent of a company's pears) created significant value for shareholders (you can pause for breath now).

"During an upturn, on the other hand (surprise, surpirse), divestments created slightly more value that acquisitions did (this presupposes you can find some mug to buy your business at some ridiculously inflated price on the belief that the economic boom will last forever).

"Second, companies often behave in counterproductive ways. Fewer than half as many companies in the segments we studied made acquisitions in downturns rather than in periods of economic growth. Significantly more divested businesses in those market segments in downturns than in upturns."

The global credit crisis and volatility in stock markets "could temporarily disrupt M&A activity and add risk to existing deals," said Scott Anderson, senior economist at Wells Fargo - the US financial services company. He was speaking at the ICIS Chemical Purchasing Summit, which is taking place in Boston, Massachussets.

He added, however, that conditions were right for further consolidation in the chemicals industry as manufacturing customers become larger.

The Middle East has the cash, of course - as do the Chinese if they can be bothered. Sovereign wealth funds could be the vehicles, as well as the petrochemical companies themselves, for a wholesale shake-up of industry ownership.

And as I've already said, those clever people at BASF look likely to be involved. Being right and having senior executives with brains the size of a small planets is very annoying for those of less able (especially if they are also nice to children and animals, actively care about the environment, give a large proportion of their incomes to charity and are good at football when World Cups come round).

By Malini Hariharan

Japan's largest chemical company Mitsubishi Chemical Holdings has been actively restructuring this year but more needs to be done to complete its transformation.

High on the list is reorganization of its cracker operations at Mizushima. Mitsubishi and Asahi, which also has a cracker at the same site, have been talking since 2007 about unifying operations.

The two had even made an announcement in June that a study on this would be completed within two months. But that deadline has passed and it is uncertain if they can start joint operations at the site from the earlier target date of April 2010.

The official line from the two companies is that the study is still in progress.

Industry players in Japan acknowledge that 1-2m tonnes of ethylene capacity in the country will need to close given the rising competition from the Middle East. But while companies have announced plant closures for derivatives they have been hesitating when it comes to crackers.

The biggest reason for the slow pace is culture, says one industry analyst. In addition to this, cracker structure at most Japanese sites is complicated with many companies involved in offtake contracts. It is difficult to move quickly, he adds.

Mitsubishi's other challenge will be to digest the proposed merger of Mitsubishi Rayon Co (MRC). The Yen228bn ($2.57bn) deal, due to be completed in March 2010, gives Mitsubishi access to the methyl methacrylate (MMA), polymethyl methacrylate (PMMA) and carbon fibre businesses.

Mitsubishi's aim is to achieve a cost synergy of Yen3bn and operations synergy of Yen7bn by fiscal 2012-13.

But analysts are not convinced about the synergies especially as buying into MMA takes Mitsubishi away from its strategy of expanding in specialities. Even carbon fibre, they say, is not very exciting.

Carbon fibre is a value added product and demand is quite promising. But competition is likely to be intense," says a second analyst.

Analysts say that the merger was driven by financial reasons and pushed through by Bank of Mitsubishi-Tokyo which had funded MRC's $1.6bn acquisition of Lucite earlier this year.

In a recent research report analysts at Nomura said that while major synergies are unlikely, the merger gives Mitsubishi an opportunity to reconfigure its business portfolio for higher growth.

"If Japanese chemical makers are to capitalize on growing overseas demand, we think they will need to create a portfolio of businesses that are among the global leaders in terms of market share. The merger will make Mitsubishi the world leader in MMA and could facilitate major progress in compiling a full line of LCD [liquid crystal display] materials, leveraging comprehensive strengths in carbon fibre, and going on the offensive in water-treatment products. We think the merger is really aimed at leveraging MRC's strengths more fully than it can do on its own."

They pointed out that MRC did not have the capital to scale up its carbon fibre business on its own.

But they also emphasised the need for further restructuring at Mitsubishi.

"If the company can put together an all-Japan team comprising olefins, polyolefins, terephthalic acid, phenol, and polycarbonate resin, we think it could see sharp cost reductions and a business platform capable of competing worldwide."

By Malini Hariharan

The much talked about revision in Saudi ethane prices may not take place in 2012. In a recent report on the Middle East petrochemical sector analysts from Nomura expected the current price of $0.75/mmbtu to continue until 2015.

They pointed out that there has been no official update from the Ministry of Petroleum over the last year.

"While changes can occur at short notice (for example, gasoline pricing in 2006), we believe the limited official update points to keeping the status quo for ethane pricing until 2015, with perhaps only minor changes to propane, naphtha and butane pricing," they said.

The analysts also confirm to the blog's view that the revision is unlikely to be significant as the Kingdom is still interested in promoting the petrochemical industry. Additionally, lenders to many of the new petrochemical projects would not welcome an abrupt price change that would adversely affect profitability.

The analysts also pointed out that several chemical projects in Saudi Arabia were being restructured as the industry was under pressure to justify to lenders that new projects met internal profitability hurdle rates at higher feedstock prices.

As for propane butane and naphtha pricing, Nomura expected the conversion factor to continue to rise modestly in line with the increases seen between 2002 and 2011.

"We assume that propane, butane and naphtha conversion continues to
gradually liberalise to approximately a 20-25% discount to international prices by 2020."

By Malini Hariharan

The debate on the next petrochemical upcycle is heating up. After confident forecasts of a "supercycle" the blog is increasingly hearing more cautious assessments

Take the recent report from Credit Suisse which stresses that while conditions for a period of bumper margins are favourable there are still many uncertainties.

Pic source: avalonwine.com

On the plus side the analysts highlight that global ethylene capacity growth will slow down to a compounded annual growth rate (CAGR) 2.5% during 2012-15 - the slowest pace in 20 years.

While there is still time for companies to build new capacities for this period the challenge of putting a together a project in such a short period is enormous.

But Credit Suisse expects some plants taken offline after the 2008 economic crisis to restart once margins recover.

Cheap gas in the US has given producers the incentive to resume operations while European capacity would normalize as demand conditions and business confidence improve.

Additionally, they expect a rise in Middle East production which has been constrained for the last couple of years by a cut in oil output and consequently a fall in availability of associated gas.

These developments would boost capacity growth to 3.7% over 2011-15.

But for a megacycle to materialise, world economic growth would have to exceed 4.5% on a sustained basis.

The industry, they point out, has seen three peaks in the last 22 years - 1988, 1995 and 2005-07. "1988 was a super peak, with margins 2x higher than the other two instances. Sustained global GDP of 3.5-3.7% CAGR over four-five years will get us to a 1995/2005 type of peak. A global demand rise of 4.5%+ CAGR will get us to the 1988-type peak".

The bank's economists predict global GDP growth of 4.7% in 2010 and 4.4% in 2011. But growth thereafter is still a question.

Another uncertainty relates to demand multiplier. "Over the last 22 years, demand multipliers - ethylene demand growth to global GDP growth - have averaged 1.3x. However the multipliers in this decade (2000-07) have averaged only 0.9x. The question is what are we going to get going forward. Will multipliers rise as demand growth shifts to emerging markets as some have suggested? Or will it be otherwise?" they asked.

This takes us to China and whether the country's domestic demand will be sufficient to take care of any drop in exports. And here the analysts predict that the demand multiplier in the country is likely to weaken rather than accelerate.

"Using China's exports of plastic-related products, we estimate that in 2009-10, China's exports of product accounted for 45% of total ethylene/propylene demand, or 11% of total world demand. Going forward, as export growth slows, and shifts away from the more manufacturing driven products into higher value added things, the demand for petrochemicals from this segment of China's GDP is likely to slow."

The chances of a megacycle are the highest in the last ten years but it would be good to remember that there are also plenty of uncertainties.

By Malini Hariharan

Paraxylene (PX) markets are on a roll. Prices have risen by 20% since the beginning of the year and were assessed at around $1,620/tonne cfr Asia late last week by ICIS pricing.

One contract nomination for March was out yesterday with JX Nippon Oil proposing a $110/tonne increase to $1,730/tonne cfr Asia.

The opening of the East-West arbitrage window has fuelled Asian markets. Plant problems in the US and Europe could create room for as much as 50,000 tonnes of Asian product.

European spot PX prices moved towards record levels last week despite a number of force majeure declarations in the downstream purifited terephthalic acid (PTA) industry. Buyers were said to be willing to pay as much as $1800/tonne for spot PX.

Besides the arbitrage factor, Asian markets were also propped up by unconfirmed reports of a possible delay in the start up of S-Oil's new 900,000 tonnes/year plant. The plant was expected to start at end-March but this could be delayed by two months, said market players.

However, action in the Asian PTA market was muted last week as a fall in futures prices on the Zhengzhou Commodity Exchange dampened sentiment. There were also concerns about the impact of the Chinese government's efforts to tighten liquidity. Labour shortages in the coastal regions had also affected the textile sector and polyester margins were under pressure from high input costs.

Additionally, around 1.5m tonnes/year of Chinese polyester capacity scheduled for maintenance shutdown from 10 February to 10 March which would further hit PTA demand.

But these could be temporary factors as cotton prices continue to remain firm.

In a recent report, analysts at UBS Investment Research noted that cotton prices have risen by 30% so far this year and were expected to remain strong at least until the next harvest season in late Q3 2011.

The analysts were bullish for the entire polyester chain and have revised their spread forecasts for the year.

The average PX-naphtha spread has been raised to $550/tonne from the earlier estimate of $370/tonne. The PTA-naphtha spread has been raised by nearly $100/tonne to $605/tonne while the ethylene-monoethylene glycol (MEG) spread was expected to reach to $350/tonne in 2011, up from the previous estimate of $190/tonne.

"We see limited new capacity coming on stream in 2011-12 for PX and MEG. And with the strong downstream demand, spreads are likely to remain robust in the next one to two years," they noted.

By Malini Hariharan

With naphtha crossing $1000/tonne yesterday Asian petrochemical producers reliant on this feedstock remain caught in a tight spot. Costs are continuously rising while market direction for key derivatives is uncertain.

Ethylene and propylene prices are holding firm at around $1,350/tonne CFR Northeast Asia and $1,500/tonne CFR Northeast Asia respectively, supported by a cracker outages and upcoming turnarounds in South Korea and Japan. And aromatic prices are tracking developments in upstream markets with benzene at around $1,180/tonne FOB Korea.

But the Chinese polymer market continues to trouble producers. As explained by the blog earlier, demand is weak as credit tightening has affected traders and end-users.

"It is a difficult market. Looking at crude oil and naphtha, we need a price increase of over $100/tonne for polypropylene (PP) in April; but we will probably have to start with $30 and if successful, ask for more. The big constraint is weak Chinese demand," explained one South Korean producer.

As for polyethylene (PE), he thinks it is better to forget exports and instead focus on the Korean domestic market.

His only hope is that turnarounds in Q2 will keep supply tight. Additionally, spiraling naphtha prices should force at least some Asian producers to cut output. And eventually, the sentiment of rising crude oil prices should trickle down to the polymer markets.

Crude oil prices declined by a few dollars yesterday after news emerged of a possible peace plan for Libya. However, the situation is still very fluid and there is every possibility for a rebound.

Not surprisingly then, some cracker operators are looking at propane/butane as an alternative to naphtha. The Saudi Aramco March contract price for propane is at $820/tonne FOB Arabian Gulf while butane is priced at $860/tonne FOB Arabian Gulf.

The premium on spot propane is now $15-20/tonne but the delta is still lucrative, pointed out one industry source.

While Asian naphtha-based producers are struggling, their counterparts in the US are well placed.

In a recent report Alembic Global Advisors sees a scenario beneficial to US ethane-based producers.

"US ethane based producers would continue to enjoy very healthy margins benefiting from the pricing umbrella provided by high cost naphtha based producers. It is worth noting that if crude oil prices continue their ascent the US ethane based cost advantage may widen further."

As a rule of thumb if natural gas prices remain flat while crude oil prices rise by $10/bbl, US ethane based ethylene margins should expand by around $120 per tonne, the analysts estimated. And the key beneficiaries would be Dow Chemical, LyondellBasell and Westlake Chemical.

By Malini Hariharan

GROWTH in China and other leading economies has slowed and oil prices have slipped but analysts are predicting strong prices for the rest of 2011 and 2012. Their reasoning is based on continued speculative activity in this commodity and geopolitical risks in the Middle East .

HSBC's recent report on this subject estimates that speculation has contributed as much as $30/bbl to May's peak oil price.

This is in line with arguments about we will make about the dysfunctional, and therefore harmful, nature of oil markets in our new ebook - Boom, Gloom and the New Normal.

The analysts point out that "net long positions held by managed funds have roughly doubled since February 2010 and nearly tripled since September 2009". Each 100m bbl in net long positions is associated with US$20/bbl move in the oil price.

While speculation is shaping markets in the short term, demand and supply fundamentals cannot be ignored, the report adds.

Demand is expected to grow this year but at a slightly slower pace than the 2.9% recorded in 2010.

Beyond 2011,the analysts forecast demand to expand at 1.4-2.0% annually with the bulk of the growth coming from the non-OECD countries. But there is a risk of demand destruction if prices remain above $100/bbl.

Supply from non-OPEC countries is expected to lag behind the estimated 1.5-1.6MMbbl/day increase in global demand annually. OPEC will have to play a balancing role producing a little under 30m bbls in 2011 and slightly above this figure in 2012.

OPEC currently has spare capacity to stop prices from rising but its willingness to use it is another issue. Its spare capacity is also likely to be eroded from 2014 on demand growth which should put upward pressure on prices.

HSBC's prediction for Brent is $110/bbl in 2011 and $90/bbl in 2012-2013. But other banks are more bullish.

"It is only a matter of time until inventories and OPEC spare capacity will become effectively exhausted, requiring higher oil prices to restrain demand, keeping it in line with available supplies," said a Goldman Sachs analyst.

Goldman Sachs recently raised its its 12-month Brent price estimate to $130/bbl while Morgan Stanley increased its average forecast for Brent this year by 20% to $120/bbl l and by 24 percent for 2012 to $130/bbl.

By Malini Hariharan

The margin pain experienced in Asia in the last quarter is clearly evident in the recently released results by South Korean majors Honam Petrochemical and LG Chem.

Honam's operating profit for Q2 declined 36.8% from the previous quarter to Won36.1bn. LG Chem's operating profit was down 7.2% at Won775.4bn while its petrochemical segment saw a 11.9% decline in profit to Won642bn.

High butadiene and acrylontirile prices and weak demand from the information technology industry hit LG's key acrylonitrile butadiene styrene (ABS) business which accounted for 30% of the petrochemical division's operating profit in the second quarter. Contribution from the naphtha cracker and polyolefins business remained stable at 26% despite weak product prices and LG attributed this to the special grades that it offers.

Honam's results were dragged down by the poor performance of affiliate companies KP Chemical and the recently acquired Titan Chemicals.

Analysts at Woori Investment & Securities estimate that earnings at KP declined 50% due to a sharp narrowing of the spread between purified terephthalic acid (PTA) and mixed xylenes (MX). KP is a standalone PX, PTA and polyethylene terephthalte (PET) producer and has to buy MX feedstock for its operations.

Earnings at Titan also declined mainly because of inventory valuation losses.

Honam was saved by the strength in butadiene and monoethylene glycol (MEG) markets. Butadiene prices have been in the $2,750-4,150/tonne range because of a structural shortage of the product globally.

Woori estimates that Honam's per tonne EBITDA from butadiene was ten times the average EBITDA for polyethylene (PE), polypropylene (PP) and MEG. With butadiene projected to remain short for the next couple of years Honam will continue to benefit and butadiene's contribution to the company's EBITDA is likely to touch 50% in 2012.

Both LG and Honam have predicted a stronger Q3. The price increases seen since the beginning of July certainly point in this direction and many market players are fairly confident that markets will remain firm in August and September supported by plant turnarounds and shutdowns like the one at Formosa Petrochemical in Taiwan.

But the consensus for the fourth quarter is that there is still too much macroeconomic uncertainty to make a prediction.

By Malini Hariharan

It is the results season and numbers posted so far confirm that the last quarter has been rough with depressed demand, weak product prices and firm feedstock costs affecting earnings.

Siam Cement Group's EBITDA for the chemicals division dropped 25% in Q4 from the previous quarter, while sales revenue declined by 5%. This was despite a 9% jump in polyolefin sales volume (mainly from exports) during the same period. Profit for Q4 was down 79% and down 51% for the full year , partly because of reduced margins, said the company in a presentation to analysts.

Indian major Reliance Industries posted a 11% drop in EBIT in Oct-Dec 2011, compared with the previous quarter. Sales revenues were down 6%.

In a presentation to analysts Reliance highlighted the challenging environment for the petchem industry last year: stagnation in Chinese imports, rising exports from the Middle East (exports have doubled in last 5 years to 15.5m tonnes and increased by 2.2m tonnes in 2011), high oil and naphtha prices resulting in a cost push during a period of demand slowdown.

The Indian market was also weak with polypropylene (PP) and polyethylene (PE) demand declining 6-7% during October-December, from the previous quarter, said the company. PVC was the only exception posting a 21% jump in demand during this period. For the 9 months ended 31 December 2011, Indian polymer demand was up only 4%, a dramatic change from the robust markets seen in 2010.

It was a similar story in the polyester market which was affected by cautious buying and reduced demand as a result of a power shortage in parts of the county. Overall polyester demand was down 2% during April-December 2011.

Middle East companies were also not spared. SABIC attributed lower prices for the worse-than-expected decline in its fourth-quarter earnings, which were down 10% year on year and 36% lower than in the third quarter.

SABIC said that its volumes had been higher during the reporting period but that it had been hit by lower selling prices. A loss at the Saudi Kayan joint venture also clearly dented the net result.

The company's results surprised financial analysts with a fourth-quarter net income of Saudi riyals (SR) 5.2bn ($1.4bn), 44% lower than the consensus estimate of SR7.4bn.

Korean companies have yet to announce their results but analysts are forecasting weak numbers for Q4 2011.

In a recent report on Korean companies, analysts at Woori Investment & Securities said they expected sales of petrochemical companies under their coverage to decline 5.9% quarter on quarter while operating profit was likely to be down 36.5%.

Among the Korean companies, they expected LG Chem to post relatively solid earnings compared to its peers thanks to solid earnings at the company's information and electronic materials division. Honam Petrochemical was expected to post sluggish earnings due to operating losses at overseas subsidiary KP Chem. Kumho Petrochemical was likely to miss consensus due to poor BPA margins and one-off losses and Hanwha Chem was also expected to fall short of market expectations on continued operating losses in its solar business.

By Malini Hariharan

Analysts are predicting a quick recovery for South Korean petrochemical companies after a dismal performance in the last quarter.

Honam Petrochemical's Q4 2011 sales were down 14.7% quarter on quarter at Won3,488 bn. Operating profit declined 59.8% to Won158.4bn.

LG Chem's sales dipped 4.8% at Won5,602bn while operating profit slipped 30% to Won506bn.

Among the other South Korean companies, S-Oil saw sales decline 18.7% in Q4 2011 to Won9,264bn while operating profit was 11.6% at Won411.8bn. SK Innovation saw sales decline 1.6% while operating profit was down 60.2% at Won 343.1bn

But analysts at Woori are predicting a sharp correction in earnings in profits in Q1 2012. Honam is expect to post a 78% quarter on quarter growth in operating profit to Won282.2bn thanks to strong butadiene prices.

Butadiene prices have crossed $3,500/tonne cfr Asia in response to maintenance shutdowns at Asian crackers.

LG Chem's 2012 sales and operating profit are projected to rise as the company is due to add volumes from new plants for acrylic acid (190,000 tonnes/year), superabsorbent polymer (72,000 tonnes/year) and bisphenol A (150,000 tonnes/year).

And they are also confident of a continued recovery in fortunes as petrochemical prices are likely to steadily improve through 2014 on tight supply conditions.

"We anticipate Honam enjoying long-term growth potential from both domestic cracker capacity expansion and its planned overseas business ventures in Indonesia and Uzbekistan," they said.

Honam has a stake in a joint-venture cracker project in Uzbekistan that is due to be completed in 2013.

S-Oil's operating profit is projected to climb 18.0% to Won485.8bn in Q1 2012 on strong oil prices and refining margins.

"With the Dubai crude oil price remaining strong in response to Middle
Eastern geopolitical risks, high oil prices have spurred petroleum product demand--the Asian complex margin now stands at around $12/bbl versus $8.2/bbl in Q4 2011," they said.

The strength in refining margins should also benefit SK Innovation. The company's operating profit is expected to rise 113% quarter on quarter to Won730.6bn.

Current market conditions support the positive view taken by analysts. But whether the conditions will last for the rest of the year is still open to debate.