Shale Gas verses Oil: The Battle for Global Supremacy

Presented at IPASeptember 17, 2015

Shale Gas verses Oil: The Battle for Global Supremacy

Presented at IPASeptember 17, 2015

Polymer Consulting International, Inc.

This is me a few weeks agoThis is me a few weeks ago

PCI

Then cameThen came

• Greece economic crisis• China economic slowdown• Iran sanctions to be lifted on promise of nuclear agreement• China stock market crisis • China currency devaluation• Second China stock market crisis• US stock market crisis• Second China currency devaluation• Donald Trump leading Republican presidential candidate

PCI

So today, I am not so happy So today, I am not so happy

PCI In Argentina, next month’s presidential election will determine which face you will have

Latin America has problems in 2015 which could continue in 2016

Latin America has problems in 2015 which could continue in 2016

• Argentina– Gas shortages – Trade restrictions– Presidential elections in October– Will there be a currency devaluation? (blue~+60%)

• Brazil– Corruption issues– Severe drought impacting electricity costs, production – Recession (-2.4%)/inflation (polymer demand down)– Currency decline (China’s devaluation impact)

• West coast/north– Weak economies – lower demand growth– Venezuela multiple problems

• Central America– Demand growth lower than expectedPCI

PCI

While there are many short-term issues there is one major long-term issue facing the North American petrochemical industry

What will be the impact of low oil prices on the future competitiveness of the shale gas driven investments in the export market?

OR

PCI

An American Chemical Council (ACC) study estimated that about $125 billion is

being invested in shale oil and gas

About $50 billion more would have been invested in shale gas projects with oil at $100/barrel

More than $25 billion will be spent on the 7 cracker projects under construction in North

America (exclusive of the 7 expansions)

More than $6 billion will be spent on the 3 PDH projects under construction in the US

The new “shale” paradigm The new “shale” paradigm

• The US is exporting gas (reverse flow and new terminals)• Oil imports have been reduced by one-third • Oil exports not allowed (Congressional act to change, EIA

study) but refined products can be exported• North America is the second lowest cost producer of ethylene

and ethylene derivatives• North America will likely be the lowest cost producer of

propylene and propylene derivatives• Unprecedented construction in petrochemicals• Middle East and China investing in the United States

PCI

But, as the saying goes: whatever goes up must come down

But, as the saying goes: whatever goes up must come down

• In the fourth quarter of 2014 oil prices unexpectedly dropped to levels no one expected or predicted ($35-$40/bbl) – and there has not been any move to increase prices significantly by curtailing production ($45-$55/bbl)

• One suggested reason: stop the development of shale gas and shale oil and delay petrochemical projects in North America (US)

PCI

Has it been successful?

PCI

The price of oil and has deteriorated beyond expectations

The price of oil and has deteriorated beyond expectations

Thursday, August 28

The spread between oil and gas has also been impacted

There was an immediate reactionThere was an immediate reaction

• Shale oil and gas exploration and new well production essentially stopped

• Many existing wells (drilling rigs) were shut in • Oil and oil-dependent company profits dropped substantially

with personnel and other cost reductions• Petrochemical investments not already under construction

were postponed

PCI

But the actual impact on oil and gas production did not go as was expected

Low prices have impacted oil and gas drillingLow prices have impacted oil and gas drilling

PCIBut, due to continuously improving technology, oil and gas production has not decreased accordingly

While the number of working wells has declined, gas production has actually increased

While the number of working wells has declined, gas production has actually increased

PCI Significant technology improvements have resulted in increased production

One of the developments increasing production at a lower cost: multi-level stacked horizontal drillingOne of the developments increasing production at a lower cost: multi-level stacked horizontal drilling

Cline shale map www.shaleexperts.com

With oil and gas prices both dropping there will be a battle for export market share

“Global Supremacy”

With oil and gas prices both dropping there will be a battle for export market share

“Global Supremacy”

PCISo, who will win?

There is a quantitative measure of North American export competitiveness

There is a quantitative measure of North American export competitiveness

• The American Chemical Council (ACC) had commissioned a study that calculates ethylene produced from ethane and from naphtha

• The study revealed that when the ratio of the oil price relative to the natural gas price was below 7, naphtha was the more competitive feedstock

• When the ratio was above 7, ethane was the more competitive feedstock

• At $100/bbl the US ethylene competitive advantage was substantial

PCISo how has the lower oil prices affected

export competitiveness?

In spite of the low oil price, North American competitiveness remains strong

In spite of the low oil price, North American competitiveness remains strong

PCI

Oil price, $/bblGas price, $/MMBTU

North America is still the second lowest cost producer of ethylene and ethylene derivatives

Highly competitive

above 15

Oil: $47.78 on 9/10/15

Gas: $2.71 on 9/10/15

Ratio: 17.6

Source: ACC

Gas prices have not declined as much as oil but the ratio has never been below 15

Petrochemical feedstock competitiveness has not changed position – but the gap has narrowed

Petrochemical feedstock competitiveness has not changed position – but the gap has narrowed

Naphtha C2/C3 (market price) Asia and Europe

Middle East ethane

Mexico/Argentina/Brazil ethane (referenced)US ethane Northeast

Malaysia ethane

Middle East liquids/naphtha (discounted)

Middle East propylene (discounted)

Ethane is still the feedstock of choice and North America still has an advantage over naphtha

PCI

China coal-based ethylene

Western Canada ethane

US ethane Gulf coast

Singapore naphtha

US naphtha

US propylene (2015)

PCI believes that the winner will be PCI believes that the winner will be

PCI

GAS

PCI

So the question becomes:How much and how soon will the new shale gas

driven capacity impact the export market?

First wave: seven new crackers under construction.… First wave: seven new crackers under construction.…

PCI

………and seven ethylene expansions………

New cracker Company Location KTA Target Products1 Braskem IDESA Mexico 1,000 1Q16 Polyethylene2 Chevron Phillips* TX 1,500 2018 Polyethylene3 Dow* TX 1,500 2017 Polyethylene, other4 ExxonMobil* TX 1,500 2017 Polyethylene5 Formosa Plastics* TX 1,750 2017 Polyethylene6 Oxychem/Mexichem TX 550 2017 EDC/VCM7 Sasol* LA 1,500 2018 Polyethylene,EO/EG

Total 9,300

Expansions Company Location KTA Target Products1 DuPont* TX 80 2017 Polyethylene2 LyondellBasell TX 875 2015-17 Polyethylene

3&4 NOVA Canada 650 2016 Polyethylene5 Shell* LA 250 2017 EO/EG6 Westlake LA 110 2017 Polyethylene7 Williams LA 650 2016 Merchant

*estimated capacity 2,615Total 11,915

……..totaling 12 million tons per year

But, there are many critical issuesBut, there are many critical issues

• Delays during Construction– Procurement (in spite of global sourcing)– Labor (shortages with rate escalation)

• Welders are the most critical skillset– Weather (hurricane seasons: August-November)

• Post-construction– Logistics

• Port of Houston is currently congested (other ports will be used but there are infrastructure issues)

• Houston rail service is currently congested and rail cars could be a problem

• Exports: ship schedules and availability– Overcapacity (fight for domestic and export sales)

PCIIt is doubtful that any company will meet its

target startup (delays of 4-12 months)

There will likely be a second waveThere will likely be a second wave

PCI PCI believes that at least three of these could be built based on specific drivers

Potential new ethylene projects New Company Location KTA Products

1 Axiall/Lotte LA 1,000 EDC/VCM/PVC2 Braskem Americas WV 1,100 Polyethylene3 Chevron Phillips#2* TX 1,200 Polyethylene4 Formosa Plastics#2* LA 1,000 EDC/VCM/PVC; HDPE5 Indorama/partner* LA 1,500 EO/EG; PE?6 PTT/Marubeni OH 1,000 Polyethylene7 SABIC Not decided 1,200 Polyethylene8 Shell PA 1,500 Polyethylene9 Shin-etsu LA 500 EDC/VCM/PVC

10 Total TX 1,000 Polyethylene11 Williams#2 LA 1,200 Merchant

Total announced 12,200*etimated capacity. Crackers are also being considered by Korean companies  (e.g., HanWha, SK) and Japanese producers and trading companies 

Polyethylene will have the largest share of the new derivative capacity

Polyethylene will have the largest share of the new derivative capacity

PCIThere will be a LOT OF POLYETHYLENE!

Many of the announced propylene investments are not yet proceedingMany of the announced propylene investments are not yet proceeding

PCI

Company Project Capacity PP PO Other Merchant Timing CommentsAscend/C3 PDH, TX 1,100 X X 2016 DelayedBASF MTP, LA 750 X X 2018‐19 No final approvalDow PDH, TX 750 X X X 2015‐16 Under constructionEnterprise PDH, TX 750 X 2015 Under constructionFormosa Plastics PDH, TX 750 X 2017 DelayedRexTac PDH, TX X CanceledWilliams PDH, Canada 500 X 2016‐17 Need off‐takerTotal 4,600Actual 2,000

This will impact the longer term supply of propylene

The propylene market has experienced another dramatic change

The propylene market has experienced another dramatic change

• Initially, ethylene crackers switched from naphtha to ethane creating a propylene shortage for almost three years

• This year propylene became oversupplied– Refineries are operating their FCC units at full capacity to

produce refined products that can be exported generating excess propylene

– Ethylene crackers are using ore propane and butane which increases propylene production

• Propylene prices have dropped but polypropylene is tight so prices have remained high

• Polypropylene margins are very high (happy producers)• As polypropylene demand increases, the excess propylene

will be used up (demand year-to-date is very high: +5.5%)• Propylene could become tight again in 2016 and remain tight

until the PDH units start up (2016/2017)

PCI

Polypropylene ExpansionsPolypropylene Expansions• Unlike polyethylene, there has not been much new PP capacity

announced: – Braskem: will depend upon ability to source propylene – Formosa Plastics: 650 KTA on hold for at least one year– Rextac: will not proceed

• As there will be about 5% of under-utilized polypropylene capacity (~1.5 MM tons/year) die to expected propylene tight supply

• There will be an immediate surge in polypropylene production and exports

• Until new capacity starts up polypropylene could remain very tight with high margins

PCI

No new PVC capacity being built No new PVC capacity being built • PVC is benefitting from lower power costs (chlor-alkali) and

lower ethylene costs (EDC/VCM)• High exports due to low cost position (strong global demand

growth) but export prices are weak with competition from China• Domestic demand (construction) should further improve in 2016 • EDC expansions: Westlake, Occidental/Mexichem, but no new

PVC – yet (due to low capacity utilization)• But companies are already planning expansions for 2020 in

anticipation of tightening supply: – Axiall new cracker JV with Lotte (~1 MM tons PVC)– Formosa second cracker (HDPE and PVC)– Shin-etsu new cracker (500 KTA ethylene=1 MM tons PVC)

PCI

PVC is likely to tighten by the end of 2016 resulting in reduced exports and higher prices

The shale gas investment pendulumThe shale gas investment pendulum

PCI

Nothing for ten years

Way too much!

Which may not have been so bad if the fundamentals that drove these investments did not change

And so the “Share Wars” beginAnd so the “Share Wars” begin

• There will be a severe battle for domestic market share• There will be a severe battle for export market share• Latin America will be a major battleground • China and Southeast Asia will be another strategic battleground –

but displacing current suppliers will be more difficult• Other regions will also be targeted but the volumes will be much

lower• About 10 million tons per year of new ethylene capacity will be

starting up globally (2016-18) mainly in the Middle East (higher exports) and China (lower imports)

PCI

PCI believes that the oil-to-gas price ratio will be high enough to ensure a US export competitive advantage

compared to Asian and European naphtha based producers

At the end of the day….At the end of the day….

• The US chemical industry is being reborn with an unprecedented level of investments in new and existing ethylene crackers– Five new US crackers and 5 expansions (First Wave pre-2020)– One cracker in Mexico and two expansions in Canada– Three to five new US crackers (Second Wave post-2020)– Three new PDH units with three more possible

• The net result is that there will be a continuous stream of new cracker and PDH unit construction through 2021

• PCI believes that the onslaught of all of the new capacity (2017/2018) could result in severe polyethylene margin erosion due to the oversupply but polypropylene and PVC margins should be strong

PCI

www.poweredtemplates.com

Polymer Consulting International, Inc.