Market Report, "Saudi Arabia Petrochemicals Report Q2 2016", published

Sustained low oil prices are having a profound effect on the Saudi petrochemicals industry. The decline in ethane-naphtha spreads along with a rise in domestic gas prices, which have raised the cost of the country's dominant ethane feedstock, is squeezing Saudi petrochemicals margins. Sanctions relief for Iran will put further downward pressure on naphtha prices, undermining competitiveness at a time when Asian markets are seeing demand soften.

Saudi Arabia is pressing ahead with its drive towards greater feedstock flexibility, with the new mixed-feed Sadara complex ramping up production in 2016. While this should buffer it against the challenge posed by competition with shale-derived ethane-based production in the US, coal-to-olefins production in China and Asian producers are benefitting from the drop in naphtha prices. Saudi Arabia is also seeking to diversify into a broader and higher value-added product chain in order to see off challenges from Iran and other producers that are rapidly increasing their global market share.

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Saudi petrochemicals may be ahead of the development curve, but the signs in Q415 pointed to a collapse in profit margins amid market volatility. Saudi Basic Industries (Sabic) saw its polymer and fertiliser subsidiaries report a worsening financial position. This occurred even before the hike in gas prices in Q116, which will significantly increase feedstock prices going forward, even though they remain low by international standards. With Saudi petrochemicals producers already among the most efficient in the world, there are few opportunities for cost cuts and we foresee potential losses in the sector over the next few quarters.

By 2020, BMI forecasts ethylene and propylene capacities will rise to 19.52mn tonnes per annum (tpa) and 7.00mn tpa respectively, with Saudi Kayan's commercial operations set to contribute the bulk of the increase. Total polyethylene capacity will rise to 10.23mn tpa, polypropylene will increase to 5.65mn tpa, polystyrene will reach 375,000tpa and polyvinyl chloride will remain unchanged at 855,000 tpa.

Growth in Saudi Arabia's petrochemicals capacity will come at a time when China - Saudi Arabia's key export market - is ramping up its capacities, including a total of 3mn tpa of ethylene, while the country is seeing slower consumption growth.

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