Upstream Oil and Gas and Olefin Polymerisation—A Strategic Fit?

Yesterday's announcement by Oman's national oil company to build a US$3.6 bn integrated olefin monomer and polymer plant to produce one million tonnes of LLD- and HDPE a year, beginning 2018, brings another key construction project to the Middle East.

The move is a good strategic fit for an oil company like Oman Oil Company because it allows the company to add value to a significant volume of its oil production by turning a small proportion of its oil refining operations into a higher value product, polyethylene. The move can be described as vertical integration, because the company has invested in an operation further downstream which uses the product it normally sells as a feedstock.

The polyolefin manufacturing supply chain begins with oil and gas production, pumped from a well in the ground.

During oil refinery, oil is distilled and light gaseous fractions of it are taken to be steam cracked to produce the basic petrochemical products ethylene and propylene.

In terms of natural gas production, ethane and propane are extracted from the raw natural gas taken from from the ground and then converted into ethylene and propylene, again through a process of steam cracking.

Ethylene and propylene are then polymerised to produce the polyolefins polythyelene and polypropylene.

Recently, my former employer BG Group plc, the UK's largest dedicated gas exploration and production company ranked by market capitalisation, appointed the CEO of polycarbonate polymer manufacturer Bayer MaterialScience as a non-executive director of its board (source). One can only speculate as to whether this appointment was linked to the possibility that BG Group was considering moving downstream into petrochemical production. My opinion is that this rationale is unlikely, as a representative from a polyolefin manufacturer rather than polycarbonate may be better placed to help BG diversify into petrochemicals were this to be part of its strategy (when I worked at BG Group its strategy focused on developing high value chains of gas supply, of which petrochemicals could provide a "link").

There has always been an ovelap between oil and gas majors and polyolefin producers—for example ExxonMobil, ChevronPhillips and BASF all have manufacturing operations in both upstream oil and gas production and polymer operations. Many other oil and gas producers have other chemical operations, including Royal Dutch Shell, while many polymer manufacturers have chemical arms, like Sabic—another Middle Eastern company with headquarters in Saudi Arabia—which manufacturers engineering polymers as well as fertilisers.

Perhaps the clearest example of an integrated hydrocarbon and plastics manufacturing outfit is Borouge, a joint venture between the Abu Dhabi's national oil company (ADNOC), and Austria-based Borealis, a leading polyolefin producer.

The strategy is particularly important in the Middle East because the country has large hydrocarbon reserves. By building downstream operations in the region governments are able to retain ownership of their oil and add significant value per unit by converting it into value-added chemicals like polymers, fertilisers and other petrochemicals. In doing so, downstream projects generate assets and wealth, creating jobs and attracting foreign direct investment.

The scale of projects in the Middle East are vast. Abu Dhabi's Polymer Park is an area of the country built specifically to produce and export polymers. According to the park's website, the expectation is that the park will cover 4.1 mn square metres and export a total volume of 1 mn tonnes per year of a variety of polymer resins. I was lucky enough to attend Arabplast in January 2011, where I was given a tour of scaled down model of the park. To give a sense of persepctive, 1 mn square miles is roughly a third of the size of the City of London, London's financial district. When the park was described to me in 2011, it was expected that it would have its own dedicated container port.

To many, a US$3.6 bn investment will seem a lot of money to put into the production of just two polyolefin products (LLDPE and HDPE), and perhaps fairly risky in today's economic climate, especially as European polymer producers are scaling down capacity. But when you think that a barrel of oil, worth the equivalent of around $1,000 per tonne at current prices, can yield many times more than that once it has been refined into more useful chemicals, it is not surprising that the Middle East see investment in petrochemical manufacturing as a major component to developing and diversifying their economies, especially when their oil supplies are procured at cost, and not at the high international spot oil prices which many western petrochemical producers have been forced to content with in recent years.