The oil majors have made huge bets on plastics and petrochemicals in recent years, but those investments look increasingly shaky following the COVID-19 pandemic and economic downturn.
Some economies are slowly rebounding from earlier shutdowns, and the oil and petrochemical industry succeeded in ramming through rollbacks of plastic bag bans in the wake of the pandemic. But the hit to the global economy could more than overwhelm those wins.
The market for one of the main feedstocks for plastic – polyethylene – has fallen sharply over the past year, with a pronounced dip since the onset of the pandemic. “Even before the coronavirus outbreak, we were already expecting to see various petrochemical value chains ... heading into an oversupply situation,” Catherine Tan, principle analyst at Wood Mackenzie, told Reuters.
The pandemic and the deep economic hole could lead to a contraction in U.S. polyethylene demand by 4 percent this year, compared to a dip of just 0.8 percent globally, according to IHS Markit.
But the hit comes not only from weaker demand for plastic, but also the sharp decline in crude oil prices. “The consequences of the COVID-19 pandemic and the drop in oil prices created a ‘perfect storm’ scenario for North American (NAM) polyethylene producers,” IHS Markit wrote in a report late last month.
The decline in Brent oil prices, which heavily influences feedstock costs for naptha in Asia (which competes against North American polyethylene), has brought costs down. U.S.-based petrochemicals are more heavily weighted towards ethane as a feedstock, which is linked to natural gas liquid prices, not crude oil.
At the start of the year, with WTI trading at around $57.5 per barrel, the average U.S. Gulf Coast ethane-based producer had a cost advantage of roughly $481 per ton over a rival naptha-based producer in Asia, according to IHS. That margin collapsed to just $38/ton when WTI fell to $28.6. If WTI falls below $20, U.S. producers would be “unable to compete in the Asian/European markets,” IHS estimates.
Plastic producers in North America “for all practical purposes, lost most of the feedstock advantage that the shale gas revolution created over the past 10 years,” the firm said. Related: What's Holding Natural Gas Prices Back?
“One should ask, what has been the financial result associated with all these billions of dollars invested in the North American assets? Sadly, the news has not been good so far,” IHS concluded. Production of polyethylene has ramped up dramatically over the past decade, but margins continue to shrink.
“Indeed, the impact of lower oil prices and competitive [polyethylene] offerings from Europe and Asia in the export markets have already driven [polyethyelen] export prices to the point that some US production curtailment is already being curtailed,” IHS said. North American polyethylene producers will see margins under pressure though 2021.
The weakening market for polyethylene has already led to delays on new investments. For instance, PTTGC America and Daelim Chemical delayed a final investment decision on a massive ethane cracker in Ohio. Dow Inc. recently said that it would sideline three plants that produce polyethylene.
One closely-watched project already under construction in western Pennsylvania faces heightened risk as well. Royal Dutch Shell is building a gargantuan ethane cracker in the heart of the Appalachian shale gas region, and the project is expected to come online in 2021 or 2022, entering a market that is more “challenging than when the project was planned,” according to a report from the Institute for Energy Economics and Financial Analysis (IEEFA). “The complex is likely to be less profitable than expected and face an extended period of financial distress.”
When Shell designed the project nearly a decade ago, the plastic pellets the plant plans on producing cost $1 per pound. But today, those pellets sell for between 40 and 60 cents per pound. Futures prices for 2021 are as low as 20 cents per pound, a sign that traders expect the market to continue to deteriorate.
Shell will enter the market “amidst a plastics price war among formidable corporations with existing client bases that are reducing their prices to maintain their position in a constricted market” IEEFA analysts wrote. The state of Pennsylvania gave Shell a $1.65 billion subsidy to build the plant. Because of the public is on the hook, Shell “owes a more complete explanation to shareholders and the people of Pennsylvania of how it is managing risk,” IEEFA analysts said.
By Nick Cunningham of Oilprice.com
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