Cheap Shale Gas Means Record U.S. Chemical Industry Growth

Dow Chemical Co. (DOW) spent a decade moving chemical production to the Middle East and Asia. Now it’s leading the biggest expansion ever seen back home in the U.S. as shale gas revives the industry’s economics.

Dow is among companies planning to build crackers, industrial plants typically costing $1.5 billion apiece that process hydrocarbons into ethylene and other synthetic materials. The new crackers will be the first to be built in the U.S. since 2001 and the largest wave of additional capacity, John Stekla, a director at Chemical Market Associates Inc., a Houston-based consultant, said in an interview.

Driving this renaissance is the plunge in the price of natural gas, used in crackers as a raw material, to a nine-year low. New drilling methods are opening up vast shale formations from Texas to West Virginia. U.S. chemical investments stemming from shale gas may top $16 billion, creating 17,000 jobs directly and another 400,000 indirectly, according to the American Chemistry Council, a Washington-based industry group.

“The U.S. now has investment-grade economics, and because of shale we are going to lock those economics in,” Dow Chief Executive Officer Andrew Liveris said. “We can grow our Americas base off our U.S. Gulf Coast assets. That is a big change.”

Dow will spend about $4 billion to construct a cracker near the Gulf Coast by 2017, reopen another in Louisiana, and build two propylene plants, Liveris said in a July 8 telephone interview from Dow’s Midland, Michigan, headquarters. That investment will supply ingredients for Dow plants making high- margin products such as paint additives and automotive plastics.

Appalachian Plant

Occidental Chemical Co., Chevron Phillips Chemical Co. and Formosa Plastics Corp. (1301) have said in the past nine months they too may build crackers on the Gulf Coast, while LyondellBasell Industries NV (LYB) may invest in one. Royal Dutch Shell Plc (RDSA) said in June it plans to build a cracker in Appalachia, the region’s first in half a century.

Shuttered crackers also are being reopened by companies such as Eastman Chemical Co. (EMN), and others are being expanded.

The flurry of announcements contrasts with the woes previously inflicted by volatile energy prices on the industry, culminating in LyondellBasell’s January 2009 bankruptcy filing. U.S. gas prices surged from about $2 per million British thermal units at the start of the decade to more than $14 in 2005. Gas for September delivery climbed 0.9 cent, or 0.2 percent, to $4.003 per million British thermal units as of 5:15 p.m. on the New York Mercantile Exchange.

Saudi Arabia

Liveris, who cut 10,000 jobs during the recession, shut three ethylene plants in Louisiana as he hastened his plan to move chemical operations to Kuwait and Saudi Arabia, where gas prices were cheaper.

U.S. chemical-industry employment fell to 782,000 from a peak of 1.1 million in 1981, Kevin Swift, chief economist for the American Chemistry Council, said in an interview.

Dow, the world’s biggest maker of ethylene and polyethylene, employs 25,000 people in the U.S. The company will add 500 manufacturing and 2,500 construction jobs with its Gulf Coast expansion, said Liveris, who President Barack Obama appointed in June to co-chair the Advanced Manufacturing Partnership, which is tasked with improving U.S. manufacturing competitiveness.

Plentiful Gas

Increased U.S. gas production has helped create a cost advantage over producers in Europe and Asia, where petrochemicals are made primarily from oil derivatives. Shale gas may account for 47 percent of total U.S. gas production in 2035, up from 16 percent in 2009, according to the Energy Information Administration.

“Everyone called the U.S. commodity chemical industry dead a few years ago,” Mark Demos, who helps manage $18 billion as a fund manager at Fifth Third Asset Management in Minneapolis, said in an interview. “All the sudden, with plentiful natural gas, the margin story in commodity chemicals looks pretty favorable.”

Earnings before interest, tax, depreciation and amortization at Dow’s basic plastics business jumped 75 percent to $2.91 billion in 2010. Dow is on track to top that figure this year, earning $1.56 billion in the first half. LyondellBasell’s operating income from plastics and related materials surged 12-fold to $1.89 billion last year and was $1.11 billion in the first six months of 2011.

Gas Advantage

The gas advantage could help Dow and LyondellBasell earnings triple from their 2010 level, Robert Koort, a Houston- based analyst at Goldman Sachs Group Inc., said in a report. All 12 analysts following LyondellBasell, which gets two-thirds of its revenue from commodity chemicals, rate the shares “buy.”

Still, environmental concerns may lead the government to restrict shale-gas drilling, which in turn could drive gas prices higher. Restrictions on exploration in New York and parts of Pennsylvania have increased chemical producers’ anxieties about their new plants, Peter Oosterveer, president of energy and chemicals at Fluor Corp., which builds crackers, said in an interview.

Food & Water Watch and the Natural Resources Defense Council are among environmental groups seeking full or partial bans on hydraulic fracturing, or fracking, which releases gas from shale-rock formations. The process, in which millions of gallons of chemically treated water are forced underground to free the gas, can contaminate drinking water, the groups say. The American Chemistry Council, which is funded by chemical producers, supports state-level oversight of fracking to address the public’s concerns.

Port Expansion

Demand may not support all the crackers currently on the drawing board, Oosterveer said. The price tag for each plant typically doubles once infrastructure and downstream plants that make polyethylene and polypropylene are included, he said.

Meanwhile, the shift in the industry is already being felt at the Port of New Orleans, which is expanding after chemical exports jumped 34 percent last year, Chris Bonura, a port spokesman, said in an interview.

U.S. exports of polyvinyl chloride, or PVC plastic, have tripled since 2006, said Paul Carrico, CEO of Georgia Gulf Corp. (GGC) More than 20 percent of plastics output was exported last year, double the level recorded before the recession, Swift said. U.S. chemical exports exceeded imports last year for the first time in a decade, he said.

Shale gas has been a “game changer,” Swift said. “The U.S. has emerged as a low-cost producer of many of these products.”