March 2011 Archives

In the first of what we believe will be a wave of new investment in North American petrochemical capacity, Chevron Phillips Chemical has unveiled the first plans for a worldscale grassroots ethylene cracker in the US to take advantage of abundant supplies of shale gas.

Recognize this as a watershed event. This is the first announcement of a cracker in the US for about a decade, as the entire industry took a solemn vow to never again build in the country after the severe downturn in 2001-2002, as aptly recalled by Petral Consulting principal Dan Lippe back in 2006.

The last decade has seen unprecedented volatility in the price of of natural gas - the key feedstock for the US petrochemical industry. But shale gas had the bulls running at the International Petrochemical Conference in San Antonio, Texas, US earlier this week.

Hosted by the National Petrochemical & Refiners Association (NPRA), the conference was the US venue of the running of the bulls. The theme - upward price pressures across a wide spectrum of commodities - from ethylene to naphtha cracker coproducts propylene and butadiene (BD), to short-term shortages in cumene, and downstream products phenol/acetone.

And in the medium term, supply constraints are poised to emerge in monoethylene glycol (MEG) and methyl di-p-phenylene isocyanate (MDI). In inorganics, titanium dioxide (TiO2) has been tight as a drum and producers are banging the skins for further price increases.

The announcement of a new US ethylene cracker was inevitable. The rising prices, favorable cost economics and tight market demanded it. The question is: How many more are on their way? Every global producer is evaluating the potential.

For long-time industry players and observers, this should ring familiar. While not every cycle is the same, there are repetitive elements. The build-up of capacity in what are indisputably favorable conditions is one key element.

Does the planned cracker, which is only in feasibility studies, signal the end of the upcycle? Not necessarily. But keep an eye on other announcements - whether grassroots capacity or other major expansions.

Canada's NOVA Chemicals is undertaking a $100m (€70m) upgrade of its flexi-cracker in Corunna, and other players are debottlenecking capacity.

The global petrochemical industry, in the next two-to-three years, should enjoy the sweet spot of the cycle. No one wants to leave the party early. But recognize the seeds of the downturn that are already being sowed.

Photo credit: http://fineartamerica.com

The economic impact from Japan's crisis is beginning to be felt across the globe. Supply chain disruptions in the automotive and electronics sectors will take a bite out of chemical company profits in North America and Europe.

One component in the supply chain can have a significant impact. For example, a shortage of engine-related micro control units (MCU) resulting from damage to Japan's Renesas Electronics plant in Naka will curtail global auto production, according to Deutsche Bank.

The Renesas plant, the most advanced of its kind, supplies between 18-20% of the world's automotive MCU market, its analysts estimate. About 70% of production is sold to Japanese automakers, with the remaining 30% to US and European car companies. And the supply of these MCUs is not easily replacable, as boosting production at other sites could take as long as 6-9 months.

Deutsche Bank estimates that 12% of US "Big Three" (General Motors, Ford, Chrysler) auto production is impacted by the MCU disruption. In a worst-case scenario, global forecasted auto production of around 76m units would be reduced by 7.5m-11m units, or 10-14%.

"As a result, we see downside risk to US chemicals earnings starting in Q1 for companies with exposure to the global auto makers," says Deutsche Bank chemicals analyst David Begleiter. US chemical firms under coverage with the greatest exposure to the auto end-market include Solutia (18% of sales to auto OEMs), Rockwood (14%), Celanese (11%), PPG Industries (10%), Cabot (15%), Dow Chemical (8%), and DuPont (7%).

The civil war in Libya is also impacting the chemical supply chain - and not just indirectly through the higher price of crude oil.

Lawrence Sloan, president of the Society of Chemical Manufacturers and Affiliates (SOCMA), noted that some of SOCMA's member companies have European customers that have lost business in Libya and other African nations due to popular uprisings. The loss of business will work its way through the supply chain, he said at the GlobalChem regulatory conference in Baltimore, Maryland, US last week.

While supply disruptions stemming from Japan and Libya will certainly hit profitability across many business sectors and regions, the impact is likely to be transitory. If the global economy can withstand and overcome these external shocks, we'll be off to the races.

The unimaginable tragedy that struck Japan in the form of the record-magnitude earthquake and tsunami, compounded by the ongoing nuclear crisis, presents one of the greatest challenges ever for the nation. The images of the destruction and impact it is having on the people are heartbreaking, and we hope the country will recover soon and strongly.

The massive hit to the world's third-largest economy and chemical producer has two major near-term impacts: one on demand and the other on production.

DEMAND-SIDE IMPACT
All of Japan's automakers halted most production lines in the country and there have been numerous disruptions to manufacturing, from automotive to energy. This is already sapping demand. Crude oil prices plunged early last week, along with naphtha - a critical feedstock to Japan's petrochemical sector.

Confidence in the local economy was not at a high point before the tragedy, and this will only ebb further in the near term as caution reigns.

The demand destruction will have a far-reaching impact worldwide. Laurence Alexander, chemicals analyst at global investment bank Jefferies & Co., notes that in the near term, "a shock to Asian demand could also undercut North American [chemical] exports and, indirectly, margins." Companies and analysts will be assessing the Japan impact for weeks to come.

At an investor conference hosted by global financial institution Susquehanna International Group in Boston, Massachusetts, US on March 15, "high oil prices and Japan failed to dent chemical company economic and earnings outlooks," according to Susquehanna chemical analyst Don Carson. "While equity and commodity markets have traded off with the natural disaster in Japan and volatile oil prices due to political turmoil in the Middle East, managements continued to be cautiously optimistic on the economic outlook."

However, this could quickly change, depending on the nuclear situation.

SUPPLY-SIDE IMPACT
The impact on the chemical supply-side is more obvious. A number of crackers are down or operating at reduced rates, causing supply disruptions down the chain. The near-term impact has been spiking prices.

Asia paraxylene (PX) prices hit a record high following a force majeure by JX Nippon Oil, Japan's largest exporter of PX. Asia caprolactam prices have also spiked on panic buying from Taiwan's nylon producers.

But the forces of supply shortages and demand destruction will collide - and it remains to be seen how it will all play out. In the short term, styrene butadiene rubber (SBR) prices are expected to fall as Japan's auto production is stymied.

Much on the overall supply and demand situation will depend on how and if the nuclear situation can be controlled. A major nuclear catastrophe on top of the existing devastation would have dire consequences worldwide, not the least on sentiment.

RECONSTRUCTION PHASE
But once this plays out, Japan can proceed on to the next phase - reconstruction. The resilience of the Japanese people in the face of this tragedy is admirable. There is no doubt that the nation has the full capability to recover, given the proper support and resources.

Japan may one day emerge from this with a revived economy, jump-started by looser monetary policy and huge reconstruction efforts. Its central bank has already injected 28 trillion yen ($350bn, €253bn) into the financial system in several steps.

In reconstructing the energy and chemical sectors, tough decisions will have to be made. In a likely move away from nuclear power, Japan will need much more oil, natural gas and coal for its energy needs, along with any alternative energy solutions.

In the chemical sector, Japan's naphtha crackers have become increasingly uncompetitive in the global context with their relatively small size and lack of advantaged feedstock.

Consolidation of certain crackers has been planned for years and some progress was being made, but it has been painfully slow. Here the industry will have a chance to reevaluate its long-term position.