Passing Through Costs
First Quarter of 2022 Update
Hey There,
Welcome back to the newsletter. Most of the quarterly reports are out for the big chemical companies and I’ve spent some time reviewing them and the news about them. For most global chemical companies the first quarter of 2022 was awesome.*
This issue and the next 5 are sponsored by:
*there were some slight exceptions
The Good News
If you are a chemical professional I think for the most part things are going quite well. Demand in the first quarter of 2022 was outstanding. In my limited experience there have been raw material shortages, price increases, and from what I can tell there isn’t much capacity available for making more chemicals, polymers, and just stuff in general. Dow, Covestro, INEOS, and LyondellBasell all performed very well in the first quarter. The majority of the chemical industry from what I can tell are having “good problems.” In August of 2021 some companies were reporting record profits. Even some of the Asian companies are roaring back such as Sumitomo.
Sumitomo is doing very well with higher sales and is significantly more profitable than this time a year ago. The company saw big gains (>30% growth) in its plastics business, energy and functional materials, and health and crop science. Sumitomo’s electronics business grew only 12% and seems paltry in comparison to the other business units. 12% growth would be considered good normally.
Trouble On The Horizon Or Growing Pains?
Korean chemical giant Lotte is feeling a profits squeeze due to problems in China, higher raw material prices and posted an EBITDA percentage of just 5.2% in the first quarter of this year while in Q1 of 2021 they saw EBITDA just under 20%. Lotte actually posted a 34% year over year growth in revenue too. Hello inflation.
The Saudi chemical giant SABIC is forecasting a flat year as it posted higher revenue, but lower margins for the quarter compared to this time last year. Raw material inflation is also a concern and being able to pass those costs through to customers.
BASF posted strong revenue gains primarily on higher prices and maintained their margins despite the war in Ukraine and global supply chain disruptions. BASF does benefit from being vertically integrated, but is also very vulnerable to natural gas disruptions. Hungary is holding out on the unanimous vote needed to implement the Russian oil and gas embargo.
Essentially, Hungary’s energy infrastructure would not be able to handle the embargo, which I wrote about earlier this month. Part of the problem is that Hungary’s refineries cannot run non-Russian oil without major investment so switching over to some other crude oil wouldn’t be a viable solution for Hungary. Some think tanks believe that Viktor Orban would rather ingratiate himself to Russia than implement the embargo:
Some in EU hub Brussels made the link with the Commission, which criticizes Orban for undercutting the rule of law, blocking Hungary's access to billions of euros intended to help economic recovery from the COVID-19 pandemic.
The Commission has also recently launched an unprecedented sanction, the so-called conditionality mechanism, over Hungary's persistently sluggish anti-corruption measures. It could cost Hungary more EU funds, an important driver of its development.
"What Viktor Orban's government is clearly looking for is extra money, a slow-walk on the conditionality mechanism, or both," said think-tank Eurointelligence.
Maybe the Ukranians will win the war while Hungary figures out what to do.
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In talking with some industry insiders there is some thought that we might be going through a great reshoring here in North America. Containers that once went to the west coast and idling outside of ports due to a lack of staff to unload container ships are now heading to the east coast and backing up ports there. Prices are also at an all time high for containers coming from Asia to the US, if you can even get a container. There are some reports of containers being stuck in China, being stuck outside of crowded ports, and some think that shipping companies are just profiteering. ICIS is reporting that containers are mostly just stuck outside of China:
“Ships are clogging up the waters off Shanghai. Average waiting times for container ships there have tripled,” said Joerg Wuttke, President of the EU Chamber of Commerce in China, in an April interview with The Market on the impact of the Zero-COVID policies.
He added that some ships were being diverted to Ningbo or Shenzhen, but these ports were not big enough to replace Shanghai.
“The ships coming into Europe today left Shanghai before the lockdown. Only in May and June will we see where the electronic equipment, the machine parts, the pharmaceutical precursors and components are missing. That will then lead to further shortages in the global supply chains,” he added.
Chemicals and polymers that were once easily imported from China at lower costs than possible here in the US are no longer viable. I used to get messages at least once or twice a day about trialing low cost materials coming out of China. The problem with these materials now is even getting them into the country let alone cutting costs out of your supply chain.
Reshoring production or bringing a domestic supplier back is not an easy task and requires significant investment or improvement to existing chemical manufacturing infrastructure. It’s all about manufacturing capacity or finding staff to work at your plant 24 hours a day, 6 days a week. Ideally, the 7th day of the week is reserved for planned maintenance and giving operators the day off. We might have plenty of reactors available here in North America, but they might not all be suited to produce what is in demand right now.
The most important thing chemical companies can do right now in the short term is pass cost increases to their customers. Passing through the cost preserves margins and returning money to shareholders. Often, pricing like this is set to specific indexes of commodity chemicals and as those indices change price the monthly price of raw materials change. Right now, these cost pass throughs are inflationary, but if demand slows or raw material prices drop then actual prices might start to decline.
I suspect we are in a recession right now or on the verge of being in a recession. The tech industry is getting hammered right now, but the chemical industry appears to keep doing well. It appears as if making stuff for the real world is always going to be in demand. Even if prices were to start falling I suspect the demand might be there to keep them from falling too fast.
Good insight into higher (and volatile) costs for imported chemicals perhaps helping encouraging reshoring of chemical production. Will be interesting how much onshored biomanufacturing can take up the slack in the coming years.