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The Chemical Industry Is under Pressure

Will the chemical industry survive both a glut in supply and a terrible economy?

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The chemical industry is in a sorry state. A glut of commodity chemical capacity, mainly in the Middle East, has been anticipated for several years, and it would likely have caused a cyclical downturn even if demand for chemical products had remained robust. Unfortunately, this onslaught of new supply is coinciding with a massive global slowdown. As a result, many companies are struggling, especially those that entered the downturn with a high degree of financial leverage.

Industry Overcapacity will Slow Recovery
Overcapacity will be most pronounced in the market for polyethylene (PE), a basic thermoplastic that is one of the most widely produced and traded petrochemicals in the world. The situation in the PE market mirrors that of several other major basic chemical products. By 2010, excess capacity in the global PE market is estimated to reach 17 million tons, or 15% of total world demand, according to estimates by consultancy Chemical Market Associates, Inc. (CMAI). By comparison, previous cyclical downturns in the PE market in 2002 and 1993 both saw a surplus of 7% of demand. Most importantly, this projection assumes that plant closures over the coming years will take 9 million tons of product out of the market--which has an estimated size of approximately 125 million tons--in order to reduce surplus capacity to more manageable levels by 2013. Most new plants are being built in the Middle East and China, and therefore plant closures will likely occur in North America, Europe, Japan, and Korea. Those plants that use naphtha (a form of heavy crude oil that is commonly used as feedstock in Southeast Asian petrochemical plants) could be closed first, since this input is typically more expensive than natural gas. However, shutting naphtha crackers can be difficult, as often they sit at the heart of petrochemical complexes and provide other useful byproducts in addition to ethylene. Furthermore, it can be exceedingly difficult to close facilities in Europe, where stringent labor laws can make layoffs relatively difficult.

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Annie Sorich does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.