A slowing US economy may dampen profit prospects for European and Middle Eastern chemical industry, according to Standard & Poor's. Currently, Middle Eastern and Russian petrochemical producers are benefiting from high oil prices because their feedstock costs are fixed to low gas prices in their regions.
Therefore, the cost curve in petrochemicals is becoming even steeper, with Middle Eastern producers at the low end and European producers having the highest production costs.
However, in the coming quarters, the downturn in the US economy and weaker growth prospects for Europe will threaten capacity utilisation, especially for petrochemical producers and specialty chemical producers, and therefore their profitability, says S&P.
"Performance in this industry is closely linked to economic growth and industrial production," says credit analyst Tobias Mock at S&P. "Strong economic conditions in recent years have increased operating rates across the industry, supporting the pass-through of higher energy costs to customers. Consequently, a downturn will dampen prospects," he adds.
Nevertheless, most companies are prepared for this slowdown after several strong years for the industry. According to S&P, around 80 per cent of companies are prepared and well-equipped for the obstacles ahead.
"While we expect that most companies will still report strong results for the first quarter of 2008, earnings are expected to weaken in the course of the year, reflecting weaker economic growth, high raw-material costs, and unfavourable currency movements," said Mock. Tougher economic conditions are also likely to erode demand growth, and the large-scale capacity additions from lower-cost regions will make it increasingly difficult for companies to cope with raw-material spikes. However, some sectors of the chemical industry are less sensitive than others to general economic growth and supply-and-demand balances. In fact, for agrochemical companies and industrial gas producers, supply-demand balances should remain tight.
"The agrochemical industry is enjoying a renaissance," says Mock. "Demand is exceeding production for key crops in global markets and the price of wheat has more than doubled over the past 12 months." This should enable them to continue to enjoy strong pricing power and thereby maintain their strong performance.
"Furthermore, industrial gas producers generally benefit from business models that allow them to pass through higher energy costs to customers either by contracts or their exceptionally strong market dominance," he said.