The world's lowest input costs have placed Saudi petrochemicals suppliers “in an enviable position” and are helping them capture global market share, Al Rajhi Capital, the investment banking subsidiary of Saudi Arabia's Al Rajhi Bank, said in its new report entitled “Advantage Saudi Arabia”. “We expect Saudi petrochemicals suppliers to outperform global rivals with margins driven by cheap feedstock costs and strong demand coming from Asia,” Dr. Saleh Alsuhaibani, head of Research, Al Rajhi Capital head office in Riyadh, said in the report released on Saturday. “We believe a shift toward heavier, more expensive feedstock in plants from now on will not constrain profits growth as improving prices and higher volumes should offset the higher costs.,” he added. “The Saudi petrochemicals sector is fundamentally attractive as feedstock costs for these companies are the lowest in the world,” and though the shift currently taking place to heavier and more expensive feedstocks will result in slightly higher input costs, “this should not greatly harm the competitiveness of the sector, the report released on Saturday said. The comprehensive report includes five companies: SABIC, Sipchem, Saudi Kayan, Yansab and Petro Rabigh. Saudi Arabia alone should account for over 10 percent of global capacity by 2014 due to major new projects like the SABIC's plants at Yanbu and Jubail, Alsuhaibani said. This wave of new investment should help the Saudi petrochemicals suppliers to strengthen their position in Asia further. Emerging markets are increasingly becoming the drivers of growth in the global economy as mature and developed markets struggle with slow or even negative growth. This is especially true for the petrochemicals industry, which is banking on emerging markets in Asia and elsewhere absorbing new capacity due to come on stream in the next few years and so avoid a large supply glut. With such feedstock cost advantages as the Saudi petrochemicals players enjoy, the industry has gradually increased its exports to Asia in order to tap the markets of China and India, two of the largest and fastest-growing economies in the world. The combination of the world's lowest feedstock costs and large-scale capacity expansion is transforming the Saudi petrochemicals sector into a formidable force. These strengths provide powerful support for the industry as it strives to meet surging demand in China and Asia. SABIC is attractive as the giant of the sector. Sipchem is a higher-growth alternative with strong recovery potential. Conversely, Saudi Kayan has lost opportunities after major project delays. Companies from Saudi Arabia currently account for 10 percent of China's petrochemicals imports, the report said. With no new allocations of ethane since 2006, Saudi petrochemicals players are currently shifting to heavier and more expensive feedstocks. This will result in slightly higher input costs but should not greatly harm the competitiveness of the sector. The Kingdom's petrochemicals sector accounts for 5 percent of Saudi GDP and 34 percent of the value of the stock market. SABIC alone represents 22 percent of the TASI. As the global economy recovers, it is widely believed that China will maintain economic growth at a double-digit pace while India will see its GDP growth rise from 6 percent in 2008 to around 9 percent in 2010. This expansion will reduce the gap in petrochemicals consumption between these markets and the developed countries. The end-use of petrochemicals is often in consumer products such as textiles, plastic bottles, etc. These products are considered basic necessities used in everyday life in the developed world and are used by consumers across all economic strata. China and India are at an inflection point following usage of end-products manufactured from petrochemicals, the report noted. While there are certain countries which are growing at rates comparable to China and India, e.g. Azerbaijan (9.3 percent GDP growth in 2009) and Congo (7.5 percent GDP growth in 2009), it is the size of the market in China and India with populations of 1.3 billion and 1 billion respectively which sets them apart. These statistics overwhelm the population figures for the entire European Union, whose population stands at 850 million, and the complete North American continent which has a population of million. These figures, combined with current per capita petrochemicals consumption in the developed world (around 25kg in the EU and around 35kg in North America, based on industry sources), corroborated Al Rajhi Capital's view that Asia's untapped petrochemicals markets offer huge growth potential. However, in the long term, China could be a potential competitor to Saudi petrochemicals players as petrochemical imports from the Kingdom are replaced by local Chinese output, the report noted. For some time though, since local Chinese demand for petrochemicals is outpacing supply growth, China is seen to be a net importer of petrochemicals given the size of the supply-demand gap, Al Rajhi Capital said in its report. China is the current driver of global petrochemicals demand growth, while India and Brazil represent the next big markets, which will generate demand over the longer term. In the near term, “we expect capacity additions to lag demand growth in all three markets and so believe that a ready market will soak up expansion by the Saudi petrochemical majors,” it said. Chinese state-owned players like Sinopec and PetroChina are rapidly building new ethylene capacity, aided by favorable government policies for joint ventures with foreign majors. China is also on a propylene capacity build-up which will see the country become the largest producer of the chemical in the world. Nonetheless, environmental worries, the economically unviable size of scattered petrochemicals plants and the potential threat of overcapacity could delay the commercial start of production, the report said, noting that “demand is catching up at a faster pace”. The report welcomed SABIC's wide business mix, its low-cost production and its strategy of high investment, while Sipchem's focus on methanol products and gearing to Asia give it strong recovery potential. The large petrochemicals stocks have dominated recent market trading. This makes it hard to bet against the sector, and SABIC in particular, the report added. Both Yansab and Petro Rabigh have high debt levels, although Petro Rabigh should benefit from strong parents and its shift to integrated production. Besides, A shift toward crackers using heavier feedstocks will boost employment through a labor-intensive process. Petrochemicals would help government widen the base of Saudi GDP Saudi Arabia has vast proven reserves of crude oil but the government recognizes the need to diversify the economy away from this finite resource. “ From a portfolio management perspective, this makes it hard to bet against the sector,” the report said. Among the five companies analyzed in detail, the report emphasized SABIC's wide business mix, its low-cost production and its strategy of high investment. It also highlighted Sipchem's focus on methanol products and gearing to Asia, which in combination give it strong recovery potential. Al Rajhi Capital rated both companies as “Overweight”. Saudi Kayan looks overvalued after project delays. It obtained an Underweight rating. China is the primary force driving global petrochemicals demand. While the country is adding significant domestic capacity, it was forecast that demand growth would outpace capacity additions for many years yet. “China and other Asian countries are already the key market for the Saudi petrochemicals industry, and we expect the focus on this region to increase,” the report said. Overcapacity is not a great risk, since demand is strong and developed markets are not seeing capacity growth, it added.
