Replies to post #534 on The Rising Influence of Rising Affluence

[DewDiligence]

Cheap NG Is Bullish for US Chemical Firms

http://online.wsj.com/article/SB20001424052748704718204574616273363642370.html

›DECEMBER 28, 2009

For fans of the fuel, Exxon Mobil's takeover of XTO Energy, announced recently, signals the dawn of the age of natural gas. That is good news for the U.S. chemicals industry.

Some 70% of America's production capacity for ethylene, the most common basic building block of chemicals manufacturing, uses gas as a feedstock. After years of hovering around $2 per million British thermal units (BTU), average annual U.S. gas prices rose sharply this decade, hitting almost $9 in 2005 and 2008.

With its main raw material suddenly expensive, America's chemicals industry lost a critical competitive edge. Employment in the industry went into a marked decline from 2000 onward. Chemicals sector capacity utilization never got above 80% in the past 10 years—the first decade that has happened since World War II.

While high prices were battering chemicals firms, they were encouraging the likes of XTO to unlock America's vast unconventional gas reserves. This new supply, along with the recent recession, pulled prices back down. The spot price today is $5.49 per million BTU.

Equally important is that oil remains expensive relative to gas. Ethylene plants using oil-derived feedstock like naphtha are predominant outside the U.S., accounting for two-thirds of the world's ethylene capacity, says Hassan Ahmed, a partner at independent research firm Alembic Global Advisors. While in purely energy-equivalent terms, oil should be six times the price of gas, oil's greater versatility means the long-run average is closer to eight times. Today, the ratio is almost 14 times.

As the highest cost producers, plants using oil feedstock set the marginal price of ethylene. That means bigger profits for U.S. producers. At current gas prices, HSBC calculates U.S. chemical plants using gas produce a ton of ethylene for between $550 and $600. Ethylene prices right now are above $1,100 per ton.

Some see Exxon's move as bullish for gas prices, but XTO's decision to sell suggests the near-term outlook is less rosy. If gas prices stabilize in a range of $6 to $7 per million BTUs, oil prices would in theory have to drop toward the unlikely level of $40 a barrel for U.S. chemicals producers using gas to lose the edge regained with gas's price drop.

So American chemicals output may be due a revival. In practice, though, investment in new ethylene capacity in the U.S. looks some years off. Burned by the gas price's volatility earlier this decade, and the focus having shifted to new plants in the Middle East, which also sits atop vast quantities of gas, chemicals firms would need to see a few years of stable, healthy profits before opening new plants at home.

The biggest repercussions are likely to be felt in Europe and Asia, where the bulk of the world's oil-based ethylene capacity resides. South Korean producers like LG Chemical and Honam Petrochemical perhaps face the biggest threat.

At $60 crude oil and $6 gas, it costs South Korean producers using naphtha $1,015 to produce a ton of ethylene, compared with $540 a ton for U.S. gas-derived ethylene, says Mr Ahmed. Middle-Eastern gas-based producers are even more competitive and will also target Asian markets.

Over time, exports from gas-based plants in the U.S. should displace some oil-based plants in Asia and Europe. That, in turn, would be negative for oil prices, since almost a 10th of global consumption is for petrochemicals feedstock. For Exxon, though, it would fit with their latest long-term bet.‹

[DewDiligence]

XOM closed the XTO acquisition on 6/25/10; the deal was announced on 12/14/09 (#msg-44488104), so it took just over six months to close.

#msg-44715108 is a good background piece on the rationale for the deal.

XTO’s buyout consideration was 0% in cash and 100% in stock for the (unofficial) reasons cited in #msg-44568048. XOM issued 417M shares to XTO holders, a 9% expansion of XOM’s shares outstanding, giving XOM 5.16B diluted shares post-merger.

http://finance.yahoo.com/news/ExxonMobil-Announces-bw-530563847.html?x=0&.v=1 (XOM’s PR)
http://sec.gov/Archives/edgar/data/34088/000095010310001865/dp18258_8k.htm (8K SEC filing)

XOM is holding a CC dedicated to the XTO deal on 8-Jul-2010 at 11am ET. Inasmuch as the merger closed only a few days before the end of 2Q10, XTO’s operations will not meaningfully affect XOM until 3Q10.

[DewDiligence]

“We probably paid too much,” former Exxon Chief Executive Rex Tillerson said of the XTO deal at a conference last year…

XOM is writing off essentially all of assets acquired from XTO almost eleven years ago:

https://www.wsj.com/articles/exxon-slashes-spending-writes-down-assets-11606774099