Gulf petrochemicals sector to face slump

The Gulf's petrochemical industry is in danger of facing a downturn in the next two to three years as most Chinese and Middle East petrochemical projects are set to go online by the end of the decade.

Terry Newendorp, Chairman and CEO of Taylor-DeJongh, a global merchant banking firm that specialises in energy, told Emirates Business that by 2010 there would be a glut of ethylene and polyethylene products in the global market because most projects would be commissioned at the same time.

Ethylene, made from oil or gas, is the most basic petrochemical building block used to make plastics and synthetic fibres for a wide variety of manufacturing sectors. To meet the ever-increasing demand for ethylene, sharp increases in production facilities have been added globally, particularly in the Gulf countries.

Polyethylene or PE on the other hand is the most popular plastic in the world. It is used to make grocery bags, shampoo bottles, children's toys and bullet proof vests.

"A lot of petrochemical deals are justifying themselves on the basis of Chinese demand. However, China has become self-sufficient, so obviously there is going to be an inherent imbalance in the sector at least for a few years," he said.

In addition, global polyethylene trade is becoming stiffer. According to Philip Leighton, Director, Jacobs Consultancy, the Middle East has depended on the Chinese market. And with Chinese import growth lagging Middle East capacity growth, the region will thus need to exploit new markets just as global operating rates are falling. Some of these markets such as Western Europe and the Americas, however, are geographically remote and difficult to penetrate.

Currently, there are 159 petrochemical projects in the region worth $247 billion (Dh906bn), almost half of which are located in Saudi Arabia, according to data from UAE-based ProLeads.

The database, seen by Emirates Business, shows Saudi Arabia has $124bn investments and is followed by the UAE with $33bn and Qatar with $23bn. Other big players are Egypt with petrochemical projects valued at $16.6bn, Libya $16bn, Algeria $14bn, Oman $9.6bn and Kuwait $6.5bn.

Leighton said there is enough capacity to satisfy global petrochemical demand beyond 2010. But as Middle East and Asian ethylene capacity begins to come on stream from 2009, the effect could be an oversupply.

To start off, the polyethylene market is looking dangerously overbuilt. The highest degree of building is in low-density polyethylene (LDPE). "Anyone building LDPE for commodity film grades must be prepared to force existing operators to shut down," he said.

Leighton added: "The Arabian Gulf will account for over 20 per cent of global polyethylene capacity by 2010. The Arabian Gulf polyethylene net exports will increase to around 16 million tonnes by 2010 and 19 million tonnes by 2012. But so will the Chinese capacity."

"This poses a key challenge to Gulf producers, especially to those bringing on new projects around 2010," he said, adding that even on the best scenario, operating rates will fall in 2009-2010.

But the nervousness is felt not only in the GCC but also in China. The Chinese treats Middle East's petrochemicals projects as a challenge to their expansion drive, especially that the oil-rich region has a cost advantage.

Chinese officials believe that easier access to feedstock such as natural gas and naphtha will give petrochemical producers in the Middle East a large competitive edge in costs over Chinese peers.

Figures from Sinopec, China's top oil refiner, show the Middle East is forecast to add 23 million tonnes of annual ethylene capacity by 2012, representing 45 per cent of the world's total increase during the 2006-2012 period.

"The Middle East has obvious advantages in costs," said Liu Jie, deputy chief economic adviser of PetroChina Co's chemicals and marketing division. "The average production costs for ethylene and polyethylene is about 50 per cent lower in the Middle East than in North and East Asia. This is posing a sharp challenge to China's petrochemical industry."

Although the National Development and Reform Commission, China's top planner, has mapped out a five-year industry plan to more than double its ethylene capacity by 2010, the nation still relies on imports for a large portion of its ethylene needs due to fast-rising demand, spurred by automobiles, textiles, electronics and other manufacturing sectors.

China is forecast to have ethylene capacity of up to 18 million tonnes and output of 14.5 million tonnes in 2010, with a self-sufficiency rate of 58 per cent.

The country's ethylene self-sufficiency rate was 43 per cent in 2005, against 78 per cent in 1990. China's ethylene supply gap may widen to nine million tonnes in 2010 and 16 million tonnes by the end of 2020, Jie said.

He said China could have problems in securing a stable supply of cheap naphtha with its own rapid construction of ethylene crackers. Naphtha is derived from crude oil and used to produce ethylene and gasoline.

"The tight raw material supply condition, together with rising imports from the Middle East, will force some uncompetitive Chinese producers, typically inefficient, small-scale ones, to quit this market," Liu, as quoted by Chinese local media, said.

Garrie Li, director of olefins studies in Asia at market consultants Chemical Market Associates in Singapore, has been more positive.

He said companies operating plants in the Middle East and exporting from there will likely weather periods of oversupply better. But he said operating plants in China has many advantages.

He said Middle Eastern plants tend to use ethane gas as feedstock, whereas facilities in China tend to use the oil-based feedstock naphtha. The latter yields a broader spectrum of products, which is an advantage in China because demand is strong for many petrochemicals.

Some products are difficult to transport, and this may be another reason to build facilities in China, Li said. Chinese demand for ethylene oxide and propylene oxide derivatives, for example, is particularly strong.

But it is impractical and costly to ship ethylene oxide, Li said because it is explosive.

Most producers prefer to make ethylene oxide and propylene oxide intermediates close to the market.

But even within China, quick delivery only happens if the buyer is located close to the plant. A shipment that must cross several Chinese provinces may be no faster than one from the Middle East, Li pointed out.

Petrochemical plants set up in China are most competitive in serving the region where they are based, not the entire country.

Summing up, Li said whether the Middle East or China is a better project location depends on what the sponsors intend to make.

"If you want to make high-value ethylene oxide derivatives, then you have no choice but to build where the market is. But if it's commodity polyethylene and ethylene glycol, then it might be better to be in a low-cost location so that you're competitive over the whole cycle."

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