Company Success Depends on Access to Feedstock, Technologies & Markets

Rising oil and gas prices, growing demand from Asia and other emerging economies and strong global competition are presenting petrochemical companies with new challenges. Long-term reliable access to feedstock, technologies and markets is becoming increasingly important. These factors are critical to a companyÊs ability to respond to changing market demands. Companies have to review their strategic direction and realign their business models. To remain successful going forward, they can strengthen their market position in three ways: expansion, acquisition or cooperation. „Strong economic growth and the rise of the middle classes in many emerging economies are shifting the focus of global demand for petrochemical products eastward,‰ says Jaap Kalkman, a Partner with Roland Berger Strategy Consultants.

New Markets and Technologies Central to Petrochemicals
In the case of China, demand for petrochemical products is forecast to rise through 2015 at around 6 per cent a year, and in the Middle East by as much as 11 per cent. By contrast, annual growth rates in Europe and the US will stick at around 1 per cent. Whereas European and US petrochemical companies enjoyed a market share of around 62 per cent in the 1980s, it had already fallen to just 30 per cent in 2010.

New suppliers from the Gulf States or parts of Asia have been consistently gaining market share since the 1990s thanks to their enormous price and transport advantages. „In recent years, new oil and gas extraction technologies have made production from unconventional sources, such as shale gas, economically viable,‰ explains Roland Berger Partner Alexander Keller. „Countries like the US and Canada have benefited strongly from the major shale gas reserves they hold and are becoming an attractive base for a lot of companies setting up refineries.‰ In Europe, on the other hand, the stricter environmental protection laws mean that the industry will not expand into unconventional gas feedstock.

Growing Pressure on Margins Across Europe
Europe is one of the biggest markets for petrochemicals worldwide. But as an industry characterised by aging production facilities, Europe will have to struggle with shrinking production capacities in the coming years. "Fourteen out of 43 European plants will no longer be profitable by 2015," says Kalkman. „This will result in a 26 per cent drop in capacity. At the same time, the players in Asia or in the Gulf region are building new, state-of-the-art installations with capacities of a million tons. The European plants can hardly handle half as much output."

There are also other factors in Europe adding to the pressure on margins: the lack of economically priced feedstock, the high energy costs and the tighter regulatory environment. „Companies must compensate for these competitive disadvantages by leveraging their technological expertise and market know-how to secure access to growth markets and cheaper raw materials outside Europe,‰ says Keller.

Gulf Region Losing Competitive Advantages Even though the Gulf States still have huge oil and gas reserves at their disposal, cost-effective access to these resources will become more difficult going forward. Higher energy costs and declining ethane reserves mean that existing price advantages over other countries are disappearing. "But the Gulf States still regard petrochemicals, with its diversity of products and applications, as a key industry. They will continue to invest in this highly dynamic sector as an alternative business model," notes Kalkman. One of the most important growth markets for companies from the Gulf is India. India's burgeoning middle class will number around 400 million by 2025, accompanied by a sustained rise in demand for petrochemical products. In order to supply new markets in a sustainable way, companies must accumulate comprehensive know-how to drive technologies, research and efficiency - either through collaborations or through acquisitions.

"While India is currently aggressively building up its petrochemicals industry, it will still have to rely on imports for quite some time. Market access for Gulf companies is made easier by long-standing business relationships and the established trading between the major ports in the Gulf and India. It is fortunate for the Gulf players that India has been lagging somewhat in creating a domestic petrochemicals industry, as they now have an opportunity to support India in catching up," explains Dr Wilfried Aulbur, Managing Partner - Roland Berger Strategy Consultants India.

China Offers Major Growth Opportunities
As one of the largest Asian growth markets, China cannot satisfy domestic demand for petrochemical products from its own feedstock and products. Per capita consumption of polyolefin will expand by 6 per cent a year until 2015 against the backdrop of rising industrial output, improved economic conditions and higher living standards.

Yet Chinese companies still lack technological and managerial expertise in this field. The government is promoting the creation of local research and development clusters, especially with European and US companies. This will enable Chinese firms to enter into partnerships with outside players or build up their own capacities.

The report prepared by Dr Jaap Kalkman, Partner and Head of Energy & Chemicals Middle East, Manama, Bahrain and Dr Alexander Keller, Partner and Head of Global Chemicals Competence Centre, Düsseldorf, Germany suggests that the Asian markets are expected to grow strongly over this decade, driven by its largest economies, China and India. Governments, especially in China, are keen to support the local petrochemicals industry. Feedstock availability and access to technology and management expertise will be the main strategic issues for petrochemicals companies in Asia.

Domestic capacity increases will not be able to keep up with rising demand and Asia will remain a net importer of feedstock and petrochemical intermediary products in the medium term. For example, China currently relies heavily on naphtha as feedstock for petrochemical production, with 80 per cent of its ethylene production facilities being naphtha-based.

Simply put, refining capacity expansion will not be able to keep up with demand for naphtha as the country expands its petrochemical production capacity. This mismatch will be eased to some extent by increasing capacity for unconventional feedstock, in particular coal and shale gas. This process, however, will be gradual as the coal-to-olefins technology is subject to considerable environmental impediments and the ease of exploiting shale is still being investigated. India is facing similar problems, as it mainly uses naphtha for petrochemical production. Recent government initiatives to establish petrochemical clusters will fuel the need for additional feedstock.

In addition, the technological and managerial know-how of Asian petrochemicals companies generally lags behind their European and American peers. To change this, Asian governments are actively developing their local chemical and petrochemical production and focusing particularly on R&D. For example, the Chinese government requires international companies to relocate parts of their value chains to China to secure any contracts in the country.

The government is also encouraging and incentivising local R&D activities in a bid to start closing the technology gap with the West. Consequently, companies such as Dow Chemicals and Sabic have established large R&D hubs in Shanghai to fulfill this local content requirement, and to create local value by specialising their product range, which in turn will start a process of technology development in Asia. Similar developments in India kicked off in 2007 with the Petroleum, Chemical and Petrochemical Investment Regions initiative to promote investments in the petrochemical sector. The key asset of AsiaÂs petrochemicals sector is expected growth. Per capita consumption of polyolefins, a proxy for petrochemicals, is low in Asia compared to the US and Europe. However, the consumption growth rate has been the highest in the world for many years and is expected to remain high during this decade.

The main drivers are China and India with expected growth rates of 6.3 and 10 per cent respectively, attributable mainly to the expansion of the manufacturing sector and to improving economic conditions and standard of living in Asia. In fact, the number of Chinese consumers with an annual income above USD 10,000 is expected to increase by more than 300 million by 2020, and IndiaÂs middle class is expected to reach 400 million by 2025, leading to increasing consumption of products with high petrochemical content.

Asian petrochemicals players enjoy strong growth prospects and active government support, but also face gaps in technology and management expertise. The report highlights several issues that need to be addressed.

US Looks to Latin America for Growth
The US is, ahead of Europe, still the worldÊs largest market for petrochemicals. Its annual per capita consumption of petrochemical products stands at 58 kg. The figure for Europe is 45 kg. The problem is that growth rates in the US have been declining for years.

The fresh impetus for growth has, for some time now, been coming from Latin America. "Brazil, in particular, can boast enormous oil and gas reserves, robust economic growth and a stable political environment," notes Kalkman. Per capita consumption of polyolefin is forecast to rise by around 8 per cent a year through to 2015, so Brazil has become an attractive growth market. Domestic and international companies are expected to invest around USD 26 billion in the Brazilian petrochemical industry by 2014. „The question facing some US companies is whether to push for expansion in China or in Latin America," says Alexander Keller. „They will be well advised to analyse their options very carefully before making such a major strategic decision and risking a miscalculation."