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Industry Size
Saudi Arabia is a global net exporter of oil and oil products. In addition, the country has recently emerged as one of the leading producers of petrochemicals. Currently, the Kingdom of Saudi Arabia exports these products to more than 100 countries (Kuwait Finance House [KFH], 2013). Around 7 percent of the basic global petrochemical products in the world originate from the Kingdom of Saudi Arabia. In addition, 70 percent of petrochemicals produced by the Gulf Cooperation Council Members (GCC) come from the Kingdom of Saudi Arabia (KFH, 2013).
According to Al-Mady (2006), Saudi Arabia has vast reserves of associated and non-associated natural gas. The natural reserves are estimated at around 200 trillion standard cubic feet. Consequently, the gas constitutes a major element of industrialization in Saudi Arabia. It provides fuel and feedstock for numerous petrochemical complexes in the region. Modern facilities based on state-of-the-art technology provide the foundation for these petrochemical factories.
The Saudi Basic Industries Corp (SABIC) is ranked among the top 25 diversified petrochemical companies in the world. It is one of the leading exporters of petrochemicals (Al-Mady, 2006). In addition to petrochemical products, Saudi Arabia also ranks among the leading exporters of fertilizers in the world. Other notable petrochemical companies the kingdom include SABIC, Sipchem, SAFCO, NIC, Yansab, APC, and SPC (Al-Rajhi Capital, 2013).
Industry Products
The petrochemicals production chain is very complex in nature. The raw materials or feedstock are basically in liquid or gaseous state (Al-Rajhi Capital, 2013). Gas products include, in most cases, ethane. On their part, liquids usually include natural gases like propane, butane, and naphtha. Natural gas liquids are derived from associated elements, usually by-products of the process of crude oil production (CHEManager Europe, 2011). Naphtha is derived directly from crude oil. On its part, ethane is generated from either associated or non-associated gas products (Office of the Chief Economist, 2009).
The raw materials generated from crude oil or related byproducts are broken down to produce other basic commodity chemicals (basic petrochemicals). The building block chemicals produced include propylene, ethylene, and butadiene. Others include xylene, toluene, and benzene (Al-Rajhi Capital, 2013). Normally, butadiene, ethylene, and propylene are commonly called olefins. On the other hand, xylene, benzene, and toluene are referred to as aromatics. Among the basic chemicals, ethylene constitutes the most common one. It accounts for 40 percent of global basic chemicals capacity (CHEManager Europe, 2011). In addition, ethylene is used in most instances as the proxy for the general petrochemicals prices.
Other intermediates and derivatives of the basic petrochemicals include methanol and methyl tertiary butyl ether (MTBE). Others include Vinyl Chloride Monomer, Polyethylene, Polypropylene, and Menoethylene Glycol (Al-Rajhi Capital, 2013). The petrochemical elements are broken down to create other diverse end market products. The diverse end market products include coolants, plastics, pharmaceuticals, and cosmetics. They also include paper, packaging fibers, tyres, and rubbers. Textiles, detergents, and fertilizers are also part of these end user products (Office of Chief Economist, 2009).
Geographical Concentration
Recent report on the Saudi petrochemicals sector indicates that an estimated $45 billion worth of petrochemical projects are being undertaken (Office of Chief Economist, 2009). The complexes are located in various places within the Saudi Kingdom. For instance, Saudi Kayan complex is located at Jubail region. It is one of the largest single-phased petrochemical plants to be ever built in the country (Office of Chief Economist, 2009).
In addition to the above, there are other large scale petrochemical complexes in Saudi Arabia. They include the Sharq and Yansab olefins industries built by Sabic. Most of the petrochemicals production processes in Saudi Arabia are, however, based in Jubail. The latter is a Gulf Arabian city. The Gulf coast also holds a petrochemical complex located in Dammam. Another factory was established at Yanbu, along the Red Sea (Office of Chief Economist, 2009).
Industry Economic Cycle
Saudi Arabian petrochemicals industry constitutes both upstream and downstream companies. The industry is subject to the global market ups and downs. According to Al-Mady (2006), the petrochemical market is a very cyclical undertaking. The market usually experiences swings ranging from losses to profitability. Such developments have significantly impacted on the Saudi Arabian petrochemicals industry.
Considering the cyclical nature of this sector, Saudi petrochemical industry is either undergoing the downturn or the upturn at any given time. It is a very dynamic field. Currently, the industry is undergoing an up cycle, not a downward trend. The swings are inevitable in this industry. According to Al-Mady (2006), the global chemicals industries, as well as the petrochemicals sector, have grown rapidly in the past few decades. The rise is primarily driven by the rapid growth of markets undergoing economic transition. The petrochemicals industry in Saudi Arabia has experienced this growth as well.
The production of petrochemicals is characterized by a number of phases. Basically, the lifecycle commences from the extraction of raw materials. The stage includes the mechanical and chemical extraction of natural gas and oil through mining. Subsequently, the raw materials are used in manufacturing, processing, and refining the chemicals. The next stage involves the combination of the bulk chemicals used as feedstock. The input is used to generate downstream chemical products and other consumer outputs. Ultimately, the chemicals are disposed of in waste facilities. They are also recycled or released into the environment.
Apart from undergoing all these lifecycle stages, Saudi petrochemical industry is currently experiencing an economic upswing. The industry is currently recovering from an economic downturn (Al-Mady, 2006). The sector appears to benefit from these peaks. For example, between the stages, the industry has become more resilient. It has also become more growth oriented. Overall, the Saudi petrochemicals industry is at its peak in the lifecycle. It is on the rise most of the times.
From the beginning of 2006, the industry experienced a period of growth (KFH, 2013). Consequently, the industry has become a significant producer of basic petrochemicals in the world. It is expected that the global market will experience a positive growth in the next few years. The expected growth follows the introduction of new capacity.
The Petrochemicals Industry: Constituents
According to Al-Rajhi Capital (2013), the value of the Saudi petrochemicals industry still remains high. The worth of this industry persists in spite of the economic slowdown experienced in the recent past. The global economic conditions have remained downcast in the past. However, the demand for petrochemicals products has been subdued. The price of the products is expected to remain range bound. The variation is to be expected, especially following the uncertainties associated with the demand for the products. It is noted that the performance of the Saudi petrochemicals industry has been affected significantly by the global economic dynamics.
Petrochemical industries listed in Tadawul (the Saudi Stock Market) include all the companies dealing with production of basic petroleum products. The listed companies include SABIC, NIC, Sipchem, and SAFCO. Others include Yansab, APC, and SPC (Al-Rajhi Capital, 2013). Generally, the Saudi petrochemicals industry posted lower YTD (Year to Date) returns. The returns stood at 8.2% in comparison to TASI (Tadawul All Share Index) of +19.3 (KFH, 2013). The observations indicated investor concerns in relation to the export oriented sector. The reasons for these concerns include uncertainties related to economic conditions subjected to sluggish demands.
Individually, the YTD per company in the petrochemicals industry did not vary a lot. For example, Sipchem stood at +29.3%, SPC at +22.9%, and Yansab at +24.7. On its part, APC posted a score of +23.3%. The above companies posted a strong YTD. The strong growth was in comparison to the industry leader SABIC (+7.2%). On the other hand, NIC (at -2.9%) and SAFCO (at -1.6%) dragged down the industry performance (Al-Rajhi Capital, 2013). The decline was attributed to the fall in product prices. As already indicated, the fall was linked to the weakened demand (see Figure 1).
On the other hand, the companies operating in the Saudi petrochemicals industry remained attractive from the valuation perspective. A case in point is the price /earnings (P/E) ratio basis 2013. In this case, NIC (at 10.7x), Yansab (at 1.9x), and SABIC (at 10.6x) traded at a discount. The performance was commendable compared to that posted by other global companies (KFH, 2013). Such peers include companies like Solvay (17.1x), Mathanex (13.1x), Hanwha (33.7x), and Formosa Chemicals (18.7x) [see figure 2] (KFH, 2013).
On the basis of Price-Free Cash Flow (P/CFC), the valuations of Saudi petrochemical companies remain compelling. For instance, Yansab (9.4x) and SABIC (6.5x) continue trading at a discount to Solvay (20.3x) and Formosa Chemicals (13.1x) (Al-Rajhi, 2013). In addition to the performance, Saudi manufacturers derive greater advantage from subsidized feedstock. As a result, their income before interest and taxes, as well as their depreciation and amortization (EBITDA) margin, strengthened. The growth can be described as positive compared to that of other companies in the world. The subsidies are also expected to continue in the foreseeable future.
Saudi petrochemical industries have also consistently paid their dividends, hence generating stronger returns for the shareholders. For instance, NIC (7.4%), SAFCO (8%), SABIC (4.2%), and Sipchem (4.9%) offer their shareholders stronger dividend yields, than global peers (Al-Rajhi, 2013). Figure 3 provides a comprehensive performance analysis of the covered stocks.
Industry’s SWOT Analysis
Strengths
According to Office of Chief Economist (2009), there is a wave of investment in the petrochemicals industry in the Middle East. However, Saudi petrochemicals production capacity exceeds that of other nations in the Middle East. In fact it is estimated that Saudi Arabia should be able to account for more than 10% of the global petrochemicals capacity by 2014 (CHEManager Europe, 2011).
As mentioned earlier, Saudi Arabia boasts vast reserves of associated, as well as non-associated natural gas, with estimated capacity at around 200 trillion standard cubic feet (Al-Mady, 2006). Consequently, this means the country has capacity of producing petrochemicals for the next several decades. The capacity enhances the country’s petrochemicals industry competitiveness immensely.
The Saudi petrochemicals industry producers derive substantial benefits locally. Essentially, the producers enjoy fixed price, and or heavily subsidized feedstock (Al-Rajhi Capital, 2013). Hence, the Saudi petrochemicals sector profitability link to hydrocarbons is weaker than anywhere else in the world.
Weaknesses
Currently, the Saudi petrochemicals industry is experiencing ethane scarcity, of which Saudi Aramco is investing heavily in remedying (Office of Chief Economist, 2009). In addition, the Saudi petrochemical industry needs to overcome labor productivity sacrificing. Apparently, labor productivity is sacrificed, in a bid to provide downstream jobs for Saudi Arabia nationals.
Opportunities
China is emerging as the primary force driving global demand of petrochemicals globally (KFH, 2009). In addition, China as well as Asia provides the primary market of Saudi Arabia Petrochemicals. The massive investments in the Saudi petrochemicals industry should help Saudi Arabia strengthen its position in the region, and globally.
The Saudi petrochemicals industry stands to benefit immensely from introduction of advanced technology. The abundant hydrocarbons reserves, as well as the relatively low production costs in the Kingdom provide the Saudi petrochemicals industry with a great opportunity.
Threats
Other Middle East economies and mainly the GCC are engrossed in investing in the petrochemical industry. Therefore, the wave of new investments provides competition in the global petrochemicals industry products.
The petrochemicals industry is a very relatively unstable industry, with numerous long term challenges. Some of the uncertainties in the industry include deviations from forecasts, as a result of environmental regulations impact, and changing technologies.
Expansion of the Chinese petrochemicals domestic production has resulted to incidents of friction between the Gulf and China. For instance, China recently accused Sabic, a Saudi petrochemical firm, of dumping polypropylene in its market (Office of the Chief Economist, 2009). Such incidents might damage valuable petrochemical market ties between Saudi Arabia and Asia, a major market for Saudi petrochemical products.
Competition Environment in the Industry
Saudi petrochemical industry competitors include the petrochemical companies listed in Tadawul, including SABIC, NIC, SAFCO, Yansab, SPC, APC, Sipchem, among others. These companies competition is greatly influenced by Porter’s five forces namely threat of new entrants, threat of substitute products or services, bargaining power of supplier, bargaining power of buyers, and rivalry among existing competitors (Porter, 2008).
Perhaps the most influential of these forces is the rivalry among existing competitors. According to Al-Mady (2006), SABIC is the petrochemical industry leader in Saudi Arabia. The company ranks among 25 top diversified petrochemical global companies. In addition, the company is the biggest exporter of fertilizers and petrochemicals in Saudi Arabia. The rivalry however focuses on the global petrochemicals consumers, as opposed to internal consumers.
To face the competition, the various Saudi petrochemical companies have developed various strategies to face the competition. For instance, SABIC has developed one of the largest industrial research and technology center in the Middle East (Al-Mady, 2006). The strategy is intended to facilitate development of wide range of petrochemical products, as well as more efficient production methods. Consequently, the company hopes to utilize these competitive aspects against its competitors both locally and globally.
According to Al-Mady (2006), there is a new wave of investment, by the Saudi petrochemical companies, to improve their capacity. The trend is also apparent throughout the Middle East. Essentially, Saudi Arabia should be able to account for more than 10% of the global capacity by the year 2014. The capacity development drive also intends to enhance the position of Saudi petrochemical suppliers inside Asia, and further.
Saudi petrochemicals companies are also employing wide business mix, such as low-cost production, and high investments strategies to enhance their position in the global industry. For instance, feedstock in Saudi is supplied in a subsidized discounted rate (Al-Rajhi Capital, 2013). Consequently, Saudi petrochemicals exercise an added advantage in relation to global peers as a result of reduced production costs.
Saudi petrochemicals are also venturing into mergers to enhance their market position, For instance, Sipchem has recently revealed that a merger possibility with SPC is being explored. NIC petrochemical company on the other hand has entered into partnership with other petrochemical companies, to construct the world’s largest butanol plant (Al-Rajhi, 2013).
Generally, Saudi petrochemical companies are embracing varied strategies to combat competition both domestically and more essentially globally. The main strategies employed have included searching for most appropriate overseas opportunities, and undertaking mergers. In addition, the companies are also investing heavily in their production capacities.
Ultimately, Saudi petrochemical industries are maximizing on customer satisfaction. This is being achieved through focusing on research and technology. Strengthening of in-house technologies and product development capabilities is also among the strategies.
Future Outlook
The Saudi petrochemical industry is expected to continue expanding, to the extent of becoming the global primary petrochemicals centre, at least for the basic petrochemicals. The industry has also been stormed by the recent global financial crisis, which greatly affected the demand for industrial chemicals globally.
The cost advantage of the Saudi petrochemicals industry is however expected to enhance recovery, and thrive of the industry. This advantage that can only be negated by substantial fall of crude oil prices globally, an event very unlikely to occur since these prices are expected to rise over the short-term.
Considering the global long term perspective, Saudi petrochemicals is expected to face stiff competition from the East Asian petrochemicals producers (KFH, 2013). Saudi petrochemical industries will however confront the global competition in conjunction with the broader GCC. Assuming labor flexibility is maintained by the GCC, chances of emerging winners in this global competition are high.
The massive investments in relation improving production capacity are witnessing extensive utilization of advanced technologies. The investment trend will enhance productivity, and lower production costs. Ultimately, Saudi petrochemicals will build an impregnable competitive advantage. The advantage, coupled with the subsidized feedstock can make Saudi petrochemicals industry almost an impossible competitor to beat in the industry.
References
Al-Mady, M. (2006). Saudi Arabia. Hydrocarbon Processing. May 2006 Supplement: 14-15.
Al-Rajhi Capital. (2013). Saudi petrochemicals sector. Web.
CHEManager Europe. (2011). Saudi Arabia: Rise of a global chemical hub. Web.
Kuwait Finance House. (2013). Saudi petrochemical:”Tread with caution”. Web.
Office of Chief Economist. (2009). Saudi petrochemicals sector: Current situation & future prospects. Web
Porter, M. (2008). On competition. Boston: Harvard Business School Publishing. Web.
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