The chemicals business appears to be at the start of an up-cycle, but few are forecasting a boom, Martin Quinlan writes
PROFITABILITY of the worldwide chemicals business nudged upwards in 2009, according to Petroleum Economist's latest survey of the largest chemicals companies and the oil majors' chemicals subsidiaries. The sector's return-on-assets averaged 4.6%, up slightly from the 4.1% of 2008 – but enough to raise hopes that the industry is past the trough of the latest chemicals cycle.
If so, the low-point will have been less painful than that of the previous cycle, in 2003, when the average return-on-assets fell to only 2.6% (see Figure 1). The trough of 1992 was even deeper, with returns struggling to stay in positive territory.
In the classic chemicals cycle, a sharp fall in profitability kicks off a rapid growth phase for about two years – as shown in the recoveries following the last two low points. But there are grounds for caution this time. The large volume of new ethylene capacity due on stream this year is likely to depress operating rates worldwide and, with the world economy still fragile, growth in chemicals demand is expected to be constrained (see p18).
Accordingly, one forecast would see a period of low-to-moderate profitability, similar to that of the late-1990s and early 2000s. In those years, the industry was dealing with a surplus of capacity by implementing radical corporate restructurings – which resulted in the disappearance of many previously world-dominant companies.
The chemicals business is notoriously cyclical, with new manufacturing facilities being constructed in the boom times and – seemingly inevitably – starting up towards the top of the cycle. The new capacity then depresses utilisation rates and prices, taking the industry into the next down cycle.
The cycle is made more extreme by the industry's stockholding strategies. Chemicals manufacturing is a chain, in which one company's end product is the next firm's starting material. When demand from the main consuming industries for chemicals products – car manufacturing, building and electronics – turns down, stocks are shed throughout the chemicals chain. Producers of heavy petrochemicals usually feel the greatest effect.
But when demand turns up, stocks are built rapidly throughout the chain – partly in readiness for higher utilisation rates and partly to lock-in existing prices before expected rises. The heavy petrochemicals producers usually benefit most, but are unlikely to in the next upturn. With world ethylene capacity in surplus, the cost of importing heavy petrochemicals from the Middle East seems likely to set a price baseline for the US and European producers.
Oils do better
This year's survey, set out in Tables 2 and 3 and summarised in Table 1 (below), shows the usual difference in performance between the chemicals companies and the oil majors' chemicals subsidiaries. In 2009, the chemicals companies achieved an average return-on-assets of 3.1%, while the oil majors achieved 7.0%. The majors almost always do better, generally achieving about twice the return-on-assets shown by the chemicals firms – their better performance is explained by synergies with refining operations and a weighting towards the heavy petrochemicals sector.
Of the chemicals firms, the US-based companies usually do better than those based in Europe – but 2009 saw a reversal, with the US producers earning an average return-on-assets of 2.6% while the Europeans achieved 3.3%. The US producers have been restructuring in readiness for the expected surge in imports of ethylene derivatives from the Middle East. There are forecasts that, when the new Middle East facilities are producing, the US will lose its position as a net exporter of ethylene derivatives and become a net importer.
Last year, the oil majors' chemicals operations accounted for an average of 5.7% of their total earnings. The figure is typical for recent years, the 2.6% recorded for 2008 being the result of exceptionally high upstream earnings.
ExxonMobil, with the largest chemicals operations among the majors, saw its sector income trimmed, but still achieved a return-on-assets of 9.6% – the firm attributes its consistently strong profitability in chemicals to a "high degree of integration [with refineries] and advantaged feedstock". ExxonMobil's volume sales totalled 24.8m tonnes – slightly down from the 25.0m tonnes of the previous year and considerably below the 27.5m tonnes of 2007.
Feedstock challenges ahead
But ExxonMobil sees feedstock challenges ahead. At the Petrotech 2010 conference in Bahrain in May, Stephen Pryor, president of ExxonMobil Chemical, forecast that world demand for primary petrochemicals will increase by an average of 5% a year over the next decade – but fuels demand is forecast to increase by only 1% a year, leading to constraints in availability of refinery-based feedstocks. Middle East ethane is also becoming constrained, and bio-based feedstocks are not expected to become significant for "decades".
ExxonMobil's response is to research new low-cost feedstocks – "from the heaviest residual fuels to the lightest gas-based feeds" – and to design its facilities for feedstock flexibility, integrated with refineries to allow streams to be switched rapidly. The firm's petrochemicals expansion at Jurong, Singapore, due for start-up next year, incorporates the flexibility to crack heavy feedstock. Last year, the integrated chemicals and refining complex at Fujian, China – a venture between ExxonMobil, Saudi Aramco, Sinopec and Fujian Province – started producing.
Within a decade, "the Middle East will account for three-quarters of global exports of the three highest-volume petrochemicals", Pryor says. But the rapid capacity growth will outpace growth in demand, exerting downward pressure on profitability. He warns against tariffs and other trade barriers against petrochemicals produced in the Middle East.