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Refinery/petrochemical integration disrupts gas-based cracker feedstock advantage

By Alan Gelder, Vice President of Refining, Chemicals & Oil Markets, Wood Mackenzie

The traditional investment thesis for steam cracking has mainly focused on securing advantaged, low-cost gas-based feedstock to secure a first quartile competitive position. Until now, stand-alone naphtha-based steam crackers have typically been the least competitive assets. Integrated refinery/petrochemical assets are prevalent in Europe and Asia and are also emerging in the Middle East. This article explores the competitive advantage of these integrated sites and the need for petrochemical players to better understand these assets.

Figure 1: Steam cracker feedstock composition, 2010 and 2022.

Source: Wood Mackenzie Global Ethylene Long Term Service

Gas-based feedstocks offer a competitive advantage

Ethylene can be produced from a variety of routes and feedstocks. Steam cracking remains the dominant source of supply, with lighter feedstocks offering higher selectivity to ethylene and lower operating costs. Gas-based feedstocks, such as ethane, represent the lowest cost feedstock. Prices are either regulated low in the Middle East or are closely linked to the cost of natural gas (by extraction economics) in North America. Ethane also has the highest selectivity to ethylene.

This powerful combination has resulted in ethane-based steam cracking growth far outpacing the growth in overall steam cracking capacity since 2010, as shown in Figure 1 below. In fact, ethane and LPG based crackers are largely responsible for the growth in steam cracking capacity over this period.

This feedstock, which is both low cost and more selective to ethylene, provides an advantaged cost of production when compared to naphtha-based crackers. Recent history has been tumultuous to say the least with the global pandemic in 2020 and the Russia/Ukraine conflict dominating 2022. So, Figure 2 shows the 2021 cost of production advantage for Middle East sites when compared to other regions. Steam crackers in Europe and Asia (excluding China), which are primarily naphtha-fed form the high-cost part of the curve, so will be the facilities that achieve poor margins as their economic fundamentals set the regional ethylene price.

To date, the market signal has been clear: gas-based feedstocks are key drivers of competitive advantage. This has driven significant capital expenditure over recent years, but the US and Middle East gas-based investment wave is now largely complete. For the Middle East, the challenge is one of feedstock availability, with only Qatar’s growing exports of LNG likely to provide sufficient gas-based feedstock for further ethylene capacity additions. The lack of gas-based feedstock is forcing Middle East producers to look at alternatives and follow the path established by Europe and Asia, which largely relies on liquids and so develop integrated refinery/petrochemical facilities.

Figure 2: Steam cracker cost of production profile (2021, US$/ton, selected regions)

Source: Wood Mackenzie Ethylene Asset Benchmarking Tool

Figure 3: Regional CDU capacity and integrated refinery capacity (million b/d)

Source: Wood Mackenzie REM-Chemicals

Refinery/petrochemical integration offers a viable alternative

Asian refining capacity has grown tremendously this century, but very few stand-alone refineries have been built. The region’s growing demand for both transport fuels and petrochemicals has resulted in Asia leading the world in terms of integrated refining capacity, as shown in Figure 3.

These integrated refinery/petrochemical facilities are well positioned for the energy transition and the associated mega-trend of declining future demand for transportation fuels while petrochemical demand continues to grow. The integration lowers the costs of adaption to the changing demand profile compared to stand-alone refinery and petrochemical sites.

There is value in producing petrochemicals. In 2021, the value uplift from petrochemicals was material to the refinery net cash margin (NCM) on a US$/bbl of crude basis (assessed against fuels-only refineries). As shown in Figure 4, integrated sites in Europe benefited strongly due to the differing net trade positions of petrochemicals relative to transport fuels. Figure 4 also shows the general trend of improving NCM uplift with growing yield of petrochemicals.

In 2021, petrochemical integrated refinery sites enjoyed high utilization rates and strong profits. Refineries didn’t need support in 2022 as pandemic demand recovery and fears of supply loss from the Russia/Ukraine conflict changed global crude and product trade flows, delivering unprecedented refining margins. However, China’s lockdowns and petrochemical capacity additions resulted in weaker petrochemical margins, particularly in the second half of the year when the global economic growth was stalling.

Figure 4: 2021 Petrochemical NCM uplift (by site, identified by region, US$/bbl of refinery throughput)

Source: Wood Mackenzie REM-Chemicals

Figure 5: Steam cracker cost of production profile (2022, US$/ton, selected regions)

Source: Wood Mackenzie Ethylene Asset Benchmarking Tool and REM-Chemicals

Even in this market environment, integrated complexes were competitively advantaged, but this derived from strong refining margins. Figure 5 shows the cost for 2022 of production profile for the same cohort of steam crackers. 2022 was far less profitable for naphtha-based steam cracking, however, particularly in Asia, as overcapacity limited utilization and reduced margins. Figure 5 shows the impact of integration on a third quartile European site.

In addition, the cost of production methodology remained unchanged, but the high refining margin resulted in co-product credits exceeding feedstock costs. So, the effective cost of production for ethylene from that site was negative in 2022. The integrated sites achieved high utilizations despite the weakness in chemical margins. We recognize that this is a novel approach for the petrochemical sector to reconsider its cost of production analysis, as the sector often excludes the impact from the refining sector. It does, however, highlight how refinery integrated petrochemicals became inconvenient by-products of the strong refining margin environment during 2022 and reflects the strong market incentive for refiners to maximize throughputs during that period.

Wood Mackenzie is certainly hoping for a less tumultuous period over the next few years, with refining margins expected to ease as new refining capacity is commissioned and Asian cracker margins strengthen as demand recovers. Refining margins, however, are projected to remain healthy. This market environment is more balanced across refining and petrochemicals than recent years, so the drivers of competitive position become more nuanced and site specific. As such, Wood Mackenzie considers it essential for business intelligence teams to understand and establish the behaviors of integrated refinery sites, both individually and as a cohort, to assess the implications on their asset utilization and overall business performance.

Key takeaways

The key conclusions are:

  • Gas-based low-cost feedstocks have been the traditional investment driver for steam cracker investments, but their feedstock availability is becoming more challenging
  • Stand-alone naphtha-based steam crackers are typically the least competitive assets, so are critical in the assessment of the price for ethylene and its derivatives
  • The key benefits of integrated refinery/petrochemical sites are added value to the production of transport fuels and a very attractive cost of production for ethylene
  • Holistic analysis of integrated refinery/petrochemical sites is essential to understand their aggregate competitive position and market implications.
  • The volatility of the refining sector requires this to be regularly assessed on a site-specific basis, particularly when evaluating future capital decisions.