INSIGHT: A cost savings sweet spot for autos makers

By James Ray

HOUSTON (ICIS)–The hot topic in oil and chemicals markets still is the collapse in crude prices from July 2014 and the impact, or lack of an impact, downstream. 

Lower energy prices have fed directly into consumer’s pockets and led to an increase in discretionary spending on some items and in some markets.

In the automobile business, for instance, a further increase in sales is likely following strong growth last year. EU15 auto sales rose by 5.6% in 2014 over 2013. ICIS Consulting projects a 3.6% to 4% increase in 2015.

For most manufacturing sectors, raw materials represent the largest component of cost, averaging about 65% of cost of goods sold (COGS). For automobiles, it is closer to 85%.

For this reason, the price of raw materials is very important to business success. As the largest cost driver for most raw materials, the cost of crude oil is very important to the price of raw materials.

And by looking at how prices of key raw materials and feedstocks have dropped the impact on other products can be calculated.

Most companies have a top few purchased products that represent the largest share of cost. These top-tier purchased products receive the most attention and resources within a company to ensure a competitive price, and rightly so. In the automotive industry, metal products fall into this tier of spending. 

Many times, however, the highest potential for cost savings is in the second tier of purchased products. These represent a smaller spend, are usually managed by junior purchasing team members or an overloaded senior person, and often have a more complex value chain that is more difficult to understand.

In the automotive industry, petrochemical-related products fall into one of these second tier categories.  

To make matters worse, many purchasing departments are under-staffed. And this provides for some low hanging fruit cost savings in the second tier of purchased products that does not exist in the over-worked top tier.

 A knowledge of the product value stream, inter-relations and feedstocks is needed to take advantage of these savings. An example would be the value stream for xylenes, a key ingredient for polyethylene terephthalate (PET).

Mixed xylenes are produced by the catalytic reforming of naphtha; from the pyrolysis gasoline stream in a naphtha steam cracker; and by toluene disproportionation. Paraxylene (PX) is the largest volume isomer of the mixed xylenes with nearly all PX demand coming from the polyester chain. 

Naphtha, a distillation component of crude oil, is a key feedstock for many petrochemicals, including butadiene, ethylene, propylene, xylene, and gasoline. Since 2006, the US use of naphtha to produce ethylene has declined substantially as crackers have shifted to using more low cost ethane as a feedstock.

Normally this would drive prices down, but because of high global demand, US naphtha exports have increased 13 times since 2006, and prices have remained high until the recent oil price drop. 

Looking at the petrochemical relationships for PET, the crude oil price correlates closely to naphtha with an 88% R-squared value. Xylenes correlate to naphtha 87% and paraxylene correlates to the PET pre-cursor purified terephthalic acid (PTA) 97%. PTA correlates to paraxylene 99.5%. So, we can see this is a highly correlated value chain that, for the most part, is formula priced.

The correlations in China are similar as shown in the following chart.

In most markets, there is a time lag such that the US PET chip price in February correlates highest to PTA from January indicating that this month’s contract PET price is based on last month’s PTA price. This is logical because it was probably produced using last month’s raw materials.

Knowing these relationships helps ensure that as a buyer you are getting the full benefits from lower cost crude oil.

In summary, saving opportunities exist right now, more so than normal, but often below the typical area of focus.

ICIS has begun collecting a basket of prices for petrochemical products used in the typical automobile. Its IBAP is expected to be a handy tool that can highlight these often-missed opportunities. With a good understanding of the value chain, adequate time, and resources, companies can go get the savings.

James Ray is a Senior Consultant with ICIS and is the instructor for the ICIS training Advanced Purchasing Course