Low oil price results in improved petrochemicals demand

20th March 2015

By: Donna Slater

Features Deputy Editor and Chief Photographer

  

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The recent decline in global oil prices is not only prompting supply chains to destock their petrochemicals inventories, but is also sowing the seeds for better economic conditions, lower petrochemicals prices and improved global petrochemicals demand, says information and analysis company IHS Chemical.

These trends are ultimately leading to tighter market conditions.

“Since oil serves as the marginal production cost and price setter for many chemicals, plastics and synthetic fibres, a decline in the oil price typically leads to lower product prices,” says IHS Chemical senior VP and GM Dave Witte.

He adds that, concurrently, the lower prices and broad macroeconomic benefits of lower- priced energy will ultimately lead to higher petrochemical derivatives demand: “Simultaneously, we see assets that derive margin from a wide gas-to-oil differential, such as those in North America and the Middle East, which are experiencing margin decline.”

Witte explains that large, capital-intensive projects already under way will continue in these cost-advantaged regions. “However, we expect a lull in future investment plans as chemicals producers wait for future clarity and for some of the market volatility to ease.”

He tells Engineering News that lower-cost petrochemicals imports – a result of reduced landed costs from lower bunkers and cheaper customs duties owing to lower chemical prices – will likely put downward pressure on local market prices in importing countries. Freight-impacted countries, such as most developing countries, will be particularly affected and will likely experience more intense competition from imports that could depress local prices below the amount of feedstock cost reductions.

Gas- and coal-based petrochemicals producers in developing countries will also be subject to lower profits, though oil-based producers might experience higher profits. “This means the cost curve for chemicals has flattened and lowered. A flatter cost curve adversely affects gas and coal use while benefiting oil users,” he says.

Witte adds that, for producers with lower profit margins, operational effectiveness and efficiency will become increasingly important to help sustain profitability.

“Short-term demand will likely be lower owing to a reduction in customer inventories until energy prices stabilise. Opportunistic, temporary plant closures might, therefore, take place,” he says.

Witte further explains that the largest volume and perhaps the most market-indicative petrochemical is ethylene, which is the basic building block for many downstream chemicals, as well as plastics and synthetic fibres.

Improved demand for consumer products from large economies eventually translates into higher ethylene demand, as much of the resulting plastics production is used in the manufacture of consumer products.

On the supply side, lower crude oil prices will change ethylene production costs over time, impacting on the global ethylene market.

Witte says the effects of the low oil price are being felt, after prices in the US dropped by $40/bl in the second half of 2014. “Inventories were already low and are not being rebuilt further down the supply chain. Profit margins of petrochemicals producers are impacted on, but business and industrial consumers are seeing the benefits.

“It is unlikely for retailers and brand owners to let this cost reduction ripple through to consumers, although it will probably help contain price increases for end-users later,” he says.

IHS forecasts the oil price will bottom in the second or third quarter of this year.

IHS Chemical predicts that current global ethylene operating rates will remain below 90% in 2015 and that the positive effect on global demand will amount to less than one-million tons this year.

However, by 2016, if oil remains at these low levels, depleted inventories, together with faster consumption growth, will have generated additional global ethylene demand of more than one-million tons above the previous higher crude-oil-price-based forecast. Under this sustained low oil scenario, the higher demand growth would add up to 3.5-million metric tons by 2020, says Witte.

He adds that, more importantly, the supply pressure on global ethylene producers will intensify if higher demand volumes materialise, causing operating rates to rise above 90%.

“Combined with potential investment delays, ethylene utilisation rates could possibly rise to as high as 95% by 2023,” Witte notes, adding that this higher operating rate would represent a five- to six-point increase and would be one of the most significant outcomes of the lower oil price projections.

Should the low-oil-price- induced higher demand growth persist, IHS expects market conditions to tighten from 2017 to 2020, driving margin expansion opportunities for producers, which the petrochemicals industry has not witnessed over the past several years.

Competitive Advantage
According to IHS’s scenario analysis, the differential between oil- and gas-based feedstock prices in various regions – including Europe, Asia, the Middle East and the US – separates cost-advantaged chemicals producers from cost-disadvantaged chemicals producers in a competitive market.

Whether the analysis focuses on power costs, alternative values for use in crude oil refinery products, heating markets or elementary feedstock choices – such as naphtha, ethane or propane – successful producers must find the means to create a competitive advantage at the relative oil-to-natural-gas price.

IHS says producers, and even their customers, capitalise on these cost advantages through investments in new multibillion- dollar production facilities.

“With as much as 75% of the cost of producing petrochemicals stemming from hydrocarbon values, those companies with a cost disadvantage might invest in lower-cost raw materials or they might attempt to relieve competitive cost pressures through product differentiation,” says Witte.

Typically, however, petrochemicals companies cannot overcome the cost disadvantages and, as a result, will likely experience lower margins, he adds.

Nevertheless, Witte says, market participants may be surprised by the strength of global petrochemicals demand growth spurred by the lower energy prices. “Returns on capital associated with existing facilities will be higher than expected, but the incentive to invest in new, gas-based facilities will not be as attractive as outlined in the original capital plans.”

Edited by Samantha Herbst
Creamer Media Deputy Editor

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