A tough economic backdrop in Europe, uncertainties surrounding
the U.S. fiscal cliff, manufacturing slowdown, sluggish activity in
China and weakness across some key end-markets weighed on the
companies in the chemical space in 2012. The combined effect of
these issues led to depressed demand for chemical products.
While the situation is not expected to change radically in the
current quarter given the continued Eurozone problems, the industry
is expected to fare relatively better this year, aided by the
gradual healing in the U.S. economy and hopes of a rebound in
Chinese demand. The industry is expected to benefit from strength
across emerging markets and a rise in shale gas production in the
U.S. The fledgling recovery in the housing market also augurs well
for the chemical industry in the second half of 2013 and beyond.
Industry Fact File
Chemicals are used to make consumer goods and are also used in the
agriculture, manufacturing, construction and service industries. In
fact, the chemical industry itself consumes 26% of its own output.
Major industrial consumers include rubber and plastic, textiles,
apparel, petroleum refining, pulp and paper and primary metals.
The chemical industry, a nearly $3 trillion global business, has
grown at a brisk pace for more than five decades. The
fastest-growing areas have involved the manufacture of synthetic
organic polymers used as plastics, fibers and elastomers. The
chemical industry is mainly concentrated in three areas of the
world: Western Europe, North America and Japan. Europe is the
largest producer, followed by the U.S. and Japan.
The U.S. chemical industry represents more than 15% of the global
chemical output and employs nearly 800,000 people. It constitutes
roughly 12% of the nation's exports, aggregating $187 billion
annually. Roughly 5.5 million additional jobs are backed by the
purchasing activity of the chemical industry. The U.S. chemical
industry supports roughly 25% of the nation's gross domestic
The chemical industry is cyclical by nature and heavily linked to
the overall condition of the U.S. and world economy. The Chemical
industry also touches 96% of manufactured goods, making the
manufacturing industry the biggest consumer of chemical products.
There are 170 major chemical companies in the U.S. operating
internationally, with more than 2,800 facilities abroad. The
chemical industry is among the biggest industries in the U.S., a
roughly $760 billion enterprise. It has been consistently leading
the U.S. economy's business cycles due to its early position in the
According to chemical powerhouse
), global chemical production (excluding pharmaceuticals) rose 2.6%
in 2012, down from a 3.8% rise registered a year ago. The
deceleration resulted from slower demand for chemical products
compared with 2011, hindered by weak economic environment and
subdued growth across a number of emerging markets.
Within the Zacks Industry classification, the chemical industry
falls under the broader Basic Materials sector (one of 16 Zacks
sectors). We rank all of the more than 260 industries in the 16
Zacks sectors based on the earnings outlook for the constituent
companies in each industry. This ranking is available in the
Zacks Industry Rank
The way to look at the complete list of 260+ industries is that the
outlook for the top one-third of the list (Zacks Industry Rank of
#87 and lower) is positive, while the outlook for the bottom
one-third (Zacks Industry Rank #174 and higher) is negative.
We have four chemicals related industries: Chemical Plastics,
Chemical Specialty, Chemical Diversified and Chemical Fibers. The
Chemical Plastics industry currently retains a Zacks Industry Rank
#9, placing it in the top 1/3rd of the 260+ industry groups. The
Chemical Diversified industry is featuring in the bottom one-third
of all Zacks industries with a Zacks Industry Rank #187, followed
by the Chemical Specialty industry with a Zacks Industry Rank #228
and the Chemical Fibers industry with a Zacks Industry Rank #257.
Looking at the exact location of these chemical industries, one
could say that the general outlook for the chemicals space as a
whole to towards the 'Negative' side.
Please note that the Zacks Rank for stocks, which is at the core of
our Industry Rank, has an impressive track record going back years,
verified by outside auditors, to foretell stock prices,
particularly over the short-term (1 to 3 months). The rank along
with Expected Surprise Prediction (ESP) (Read:
Zacks Earnings ESP: A Better Method
) helps in predicting the probability of earnings surprises.
Key Raw Material Trends
The chemical industry uses oil, naphtha and natural gas as energy
and feedstock inputs. BASF report states that the price of Brent
crude oil averaged $112 a barrel in 2012 compared with $110 a
barrel a year ago. Price rose sharply at the beginning of 2012
stirred by the combined impact of higher demand and political
unrest in the Middle East.
Brent crude, which hit a four-year high of $128 a barrel in Mar
2012, reached a nine-month high of $119 in Feb 2013, triggered by
strong Chinese crude oil import data and geopolitical tension in
the Middle East, exacerbated by Iran's nuclear program.
However, in a recent development, Brent crude prices eased to below
$100 for the first time since July 2012 as reports of slowing
Chinese economic growth coupled with weak U.S. economic data
(disappointing New York manufacturing data coupled with a drop in
retail sales) dampened the demand outlook for oil. However, a
possible intervention by OPEC through a potential production cut
may keep prices from sliding further.
The price of the other key raw material, naphtha, which is produced
from oil, averaged $937 per metric ton in 2012 compared with $930
per metric ton in 2011. High crude prices kept the cost of naphtha
elevated. Natural gas remains a bright spot on the feedstock front.
The average annual price of natural gas in the U.S. dropped to $3
per million British thermal units (mmbtu) in 2012 from $4 mmbtu in
Over the last five years, the U.S. natural gas markets have seen a
dynamic shift due to the emergence of a new source of energy, shale
gas, which exists in large quantities with sources close to many
big energy-intensive cities. Shale gas is not only desirable for
environmental reasons given its low carbon footprint relative to
oil or coal, but is at the same time cost effective.
Chemical Industry on the Recovery Trail
The European debt crisis, weak U.S. manufacturing along with
sluggish activity in China and other key emerging markets led to
weak demand for chemical products in 2012. While the U.S. is not
headed toward another recession, the lingering debt issue in Europe
coupled with other economic uncertainties pose downside risks to
the nation's economic outlook.
The American Chemistry Council (ACC) foresees national chemical
output (excluding pharma) to rise 1.9% in 2013 (following a 1.5%
gain in 2012) and 2.3% in 2014. Strength across light vehicle and
aerospace markets bodes well for the industry. U.S. chemical
exports are expected to rise 4.7% this year (up from 1.8% in 2012)
and 6.6% in 2014, leading to an expansion in trade surplus.
The trade group expects global chemical industry output to grow
4.3% in 2013 and 4.7% in 2014. Chemical makers in the emerging
economies are expected to deliver a 7.5% production gain in 2013.
The ACC expects strong rise in capital spending in the coming
years, stemming from new investments in petrochemicals and
derivatives. Domestic chemical investment jumped 15.5% to around
$38.1 billion in 2012. The ACC envisions capital spending to reach
$64.5 billion by 2017. The shale gas boom is expected to drive
investment on plants and equipment in the U.S. A rebound across
emerging markets is expected to contribute to accelerated rise over
the next several years.
BASF expects global chemical production to recover this year on the
back of healthy gains in the emerging markets. It expects the U.S.
chemical industry to benefit from lower gas prices. Asia is
expected to show strong rise riding on strength across
construction, electronics and automotive industries. However,
output in Europe is expected to rise narrowly due to marginal gain
in industrial production.
According to the European Chemical Industry Council (CEFIC),
European chemical output is expected to show a modest increase of
0.5% in 2013 following a 1.5% decline in 2012. The expectation for
a slim gain this year stems from the anticipated modest gain in
every quarter, partly driven by export markets.
According to the American Chemistry Council (ACC), an industry
trade group, emerging market growth and abundant shale gas should
help drive U.S. chemical exports. A string of factors are driving
growth in the export markets including favorable energy costs
stemming from the abundance of shale gas and strong demand from the
Affordable natural gas and ethane (derived from shale gas) offer
U.S. producers a compelling cost advantage over their global
counterparts who use a more expensive, oil-based feedstock. New
methods of extraction such as horizontal drilling and hydraulic
fracturing are boosting shale production, bringing down prices of
ethane in the process.
Leveraging the abundant natural gas supply and cost advantage,
chemical companies are investing billions of dollars for setting up
facilities (crackers) that produce ethylene from ethane. ACC report
indicated that over 50 projects have been announced by the U.S.
chemical makers (representing capital investment of more than $40
billion) to take advantage of ample natural gas supplies. Such
investments are expected to boost capacity and export over the next
Further, cost-cutting measures implemented by chemical companies
including plant closures and headcount reduction should yield
industry-wide margin improvements. Cash flows derived through these
actions can be used for growth.
Mergers and acquisitions offer chemical companies another means to
shore up growth in this difficult scenario. These companies remain
focused on exploring growth opportunities in the fast-growing
emerging markets, particularly in the lucrative regions of
Asia-Pacific and Latin (especially China and Brazil).
China is expected to see a recovery this year following a somewhat
soft 2012. Government stimulus actions coupled with efforts to
staunch inflation appears to bear fruit and exports to the U.S. and
other key markets are regaining momentum. An improved demand
outlook for China bodes well for the chemical industry in 2013.
We feel that chemical companies with strong earnings quality,
healthy growth trajectories and liquidity profiles are better
placed in the current rickety market environment. In particular,
this is considering their ability to leverage strong balance sheets
and cash flows in maximizing shareholder value in the form of
dividends and share repurchases, or use them for value
We have a bullish view on
Eastman Chemical Company
), which is well placed to benefit from its Solutia acquisition.
The company's diversified chemical portfolio and integrated and
diverse downstream businesses represent the pillars of strength. It
also benefits from business restructuring, cost-cutting measures
and increased capacity additions.
E.I. DuPont de Nemours & Co.
) is witnessing strength in its agriculture and food businesses.
Its Agriculture segment delivered healthy sales in the December
quarter boosted by higher volume and strong performance of the crop
protection business. The company expects continued strong gain in
crop protection in 2013 driven by new products. Moreover, DuPont
should continue to benefit from the synergies of Danisco
acquisition and its aggressive restructuring actions.
We are also optimistic about
), despite the challenges it faces in Europe. We like the company's
initiatives to improve margins and profits by running its plants
better and controlling expenses. The company's strong presence in
emerging markets, especially in China, will enable it to deliver
incremental earnings in 2013. We are also upbeat about the prospect
of its TCX ethanol process technology.
We have a favorable view on
Air Products and Chemicals Inc.
). Impressive results from its core Merchant Gases segment coupled
with Indura and DA NanoMaterials acquisitions helped it to rake in
better-than-expected results in the December quarter. Air Products
plans to take a number of steps including cost-control measures,
restructuring actions, price improvements and volume gains. Its
recent strategic moves will position it for future growth and
profitability despite the soft economic backdrop.
In the specialty chemical space,
PPG Industries Inc.
) represents an attractive play. The company witnessed strong
growth in its North American automotive OEM coatings business in
the December quarter. Continued momentum across automotive OEM and
aerospace markets helped it to post better-than-expected sales in
the quarter. It has a diversified base of products and markets, and
looks to grow its businesses strategically along with controlling
Given the industry's sensitivity to the global economy, any
negative current in the macro economy would be reflected in the
prospects of the chemical companies. The turmoil in Europe and its
impact on global growth remain sources of near-term uncertainty.
Western Europe continues to pose challenges on chemical stocks due
to weak demand and the nagging impact of debt crisis.
The U.S. housing sector, a key consumer of chemicals, has shown
signs of recovery lately, manifested by rising housing starts,
increase in building permits and a steady pick-up in home prices.
However, demand from this industry remains way below the historic
levels. In addition, weakness still persists in commercial
construction and electronics, which are among the key end-markets.
Chemical companies generate a considerable amount of revenues
outside the U.S., and therefore are exposed to foreign exchange
fluctuations. Currency exchange translation remains a headwind for
Chemical makers may also face greater regulatory challenges in
2013. Environmentalists as well as different consumer and industry
groups long argued that the existing Toxic Substances Control Act
(TSCA), administered by the U.S. Environmental Protection Agency
(EPA), is outdated and needs an overhaul.
Recently, Sen. Frank Lautenberg and Sen. Kirsten Gillibrand along
with other co-sponsors introduced the Safe Chemicals Act of 2013,
which is geared to limit the use of toxic chemicals linked to a
broad range of diseases and place the burden on chemical makers to
prove that their chemicals are safe.
Commodity prices, though subsiding lately, still remain a concern
for many of the U.S. chemical producers. Their ability to pass
these costs on to end consumers is not always easy, given the
competitive pressures at play. As a result, margins for a number of
producers may continue to be under pressure.
U.S. chemical kingpin
The Dow Chemical Company
) slipped into a bigger loss in the December quarter, clobbered by
weakness across end-markets, especially in China, and weak pricing.
Dow still faces challenges in Western Europe and is exposed to
significant pension headwinds. Moreover, weakness in the
electronics and construction end-markets may continue in
first-quarter 2013 and currency headwinds are expected to persist
given the weak euro.
Specialty chemical company
) is grappling with the difficult market conditions. Persistent
weakness in its Paints segment hurt its sales in the most recent
quarter. Weakness in the residential housing market in Australia
may continue to hurt paint sales moving ahead. The company cut its
earnings forecast for full year citing a soft demand environment
across some overseas markets.
) put up a lackluster fourth quarter with both revenues and
earnings missing expectations. Restricted supply of natural gas
affected its operations in Chile, Trinidad and Egypt in the
quarter. Methanex may continue to face headwinds due to curtailment
of gas supply and constrained spending across its end markets.
In the agricultural chemical space,
) is contending with macroeconomic uncertainties and a challenging
demand scenario outside North America. Reduced contributions from
all three nutrients arising from slack global fertilizer markets
and lower demand hurt its sales in the December quarter. The
company remains exposed to volatility in potash and phosphate
pricing and currency exchange fluctuation.
Also, agricultural chemical company
) is exposed to a soft pricing environment and somewhat weak
overseas demand for potash and phosphate. The pricing environment
for phosphate is expected to remain soft in the March quarter.
Moreover, the global phosphate market is expected to remain weak in
the near term, partly due to lower demand from India (a major
phosphate import market).
AGRIUM INC (AGU): Free Stock Analysis Report
AIR PRODS & CHE (APD): Free Stock Analysis
BASF SE (BASFY): Get Free Report
CELANESE CP-A (CE): Free Stock Analysis Report
DU PONT (EI) DE (DD): Free Stock Analysis
DOW CHEMICAL (DOW): Free Stock Analysis Report
EASTMAN CHEM CO (EMN): Free Stock Analysis
METHANEX CORP (MEOH): Free Stock Analysis
POTASH SASK (POT): Free Stock Analysis Report
PPG INDS INC (PPG): Free Stock Analysis Report
VALSPAR CORP (VAL): Free Stock Analysis Report
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