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We attended the ‘Indian Petrochem 2010’ conference recently. Key takeaways are as follows:
n Petrochemical industry on verge of cyclical upturn, but opinions vary
There was consensus about a cyclical upturn, but there were large differences of opinion—while some believe we are already in a bull market, others believe that the scale up of Saudi capacities will pressurise cracker margins till Q2CY11. There was a convergence of view that H2CY11 will be the bull market for petrochemicals ending somewhere in CY14.
Indian demand for petrochemicals continues to remain strong, at 1.1-1.7x GDP growth rate. Demand for polymers is expected to remain high at >12% CAGR for the next five-six years. Asian demand for polyester is expected to post 9% CAGR in CY10E and CY11E. Most of the recent demand growth comes from a surge in cotton prices, which are expected to remain high till CY11 due to tight inventory levels and recent floods in Pakistan. PSF prices have surged on high prices of cotton. While PSF margins are high, the same could change in CY12 as cotton prices correct and polyester capacities increase.
n Consensus on crude: Positive; Asia to drive demand growth
The broad consensus on the crude market was positive but differed on the timing of the crunch. Most participants believe that the crude market will be under pressure definitely by CY12. Crude supplies/production from non-OPEC countries is expected at 400-500 kbpd, but call-on-OPEC will continue to grow as non-OPEC countries will not be able to keep pace with the rising global demand. This will put pressure on OPEC spare capacity as global demand recovers, which will lead to higher crude prices in the medium term. OPEC has passively accepted crude price ranged at USD 70-90/bbl. Deep water investments are expected to pick up as crude averages USD 90/bbl.
n Ethylene crackers in scale up mode; utilisation constrained by feedstock
Most capacity additions in the petrochemicals space have been in ethylene crackers in Q1CY10 and Q2CY10. Most crackers are in scale up mode now. Cracker utilization capacity has been constrained by availability of feedstock, which can only be available as crude production scales up in the Middle East. As per our discussion, Iran continues to be plagued by skilled manpower availability issues. European capacities remain high cost due to high cost feedstock and operating costs. While cost of Middle East players remains low due to low cost of feedstock, prices of petrochemicals will be determined by the high cost of West European players.
n Conclusion
Recent downturn in the petrochemicals space seems to be mild compared to earlier cycles. The impact of the recent slowdown in global economy (CY08-10) has led to lower investments in the petrochemicals industry, implying sustained improvement in margins till CY13 due to rising demand. Due to limited competition in India (only RIL, Haldia Petrochemicals, IOCL, GAIL have crackers), Reliance Industries (RIL) remains the best play in petrochemicals (due to integration). However, due to diversification, impact of petrochemicals on overall SOTP fair value of RIL is limited to ~22%. We have a ‘HOLD/Sector Outperformer’recommendation/rating on RIL.
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