The Kingdom holds a considerable market share of supply for basic petrochemicals and their intermediaries. However, Saudi petrochemical producers were not immune to the global downturn of 2008. The collapse in global demand for petrochemicals impacted profitability, while tight credit conditions led to a number of project delays. At the same time, the crisis showed the growing dominance of Saudi producers in the industry as their margins allowed them to ride out this period of weakness relatively comfortably. Thus, the recovery of global olefin and derivative consumption in 2010 saw the expansion of domestic production and the return of pre-crisis profit levels.Saudi Arabia currently accounts for 7 percent of global supply of basic and intermediary products, and 50 percent of GCC's (Gulf Cooperation Council’s) 105.7 million tons of total petrochemical capacity in 2009. The Kingdom has gone from being a net importer to a leading net exporter in the petrochemical sector, supplying over 100 countries, the report added.In 2009, the export volume rose to 27.57 million tons, an 11.14 percent rise. However, the dramatic fall of prices across the petrochemical spectrum during the crisis caused the value of exports to fall by 14.94 percent settling at SR52.67 billion, slightly below its 2007 level. Petrochemical imports represent a smaller share of the market, catering mainly to downstream producers. In 2009, the sector's import volume and value fell by 1.78 percent and 3.60 percent, respectively, to reach 3.31 million tons valued at SR41.22 billion, largely attributed to the dominant share of derivatives.Global olefin and derivative consumption is forecast to have recovered in 2010 as demand from Asia, particularly China and India, accelerates. Domestic export volumes increased by 13.31 percent to 31.24 million tons. Meanwhile, the recovery of oil prices also ensured a significant growth in export value, with total level rising by 56.34 percent to reach SR82.34 billion. Based on the monthly averages of first half of 2011, the value of petrochemical exports is forecast to reach SR99.48 billion by the end of 2011.The global landscape of the industry is set to radically change over the next 5 years as demand and supply shift eastwards. By 2015, According to the NCB report, Saudi petrochemical production will expand by 32 percent to reach 70.2 mntpa, accounting for 9.2 percent of global supply. The expansion and further specialization of domestic production will continue to diminish the percentage of imports.Recent political turmoil in the MENA region has boosted oil prices. NCB estimate for the average 2011 price of Arab Crude Light has risen by 18.75 percent to $95 per barrel. What are petrochemicals?The petrochemical industry lies downstream of the oil and gas industry. Crude oil and natural gas are extracted from the earth and shipped to refineries for processing to produce hydrocarbons. The mismatch between supply and demand for refined products leads to surpluses of some hydrocarbons. These surpluses are the raw materials or "feedstocks" for the petrochemical industry. On average, only 5 percent of oil and gas products are used in the production of petrochemicals.The principal component of natural gas is methane, the simplest aliphatic hydrocarbon used as a fuel feedstock. Natural gas liquids (NGLs) are higher hydrocarbons in natural gas that are separated from the gas as liquids through the process of absorption, condensation, or other methods in gas processing or cycling plants. Generally NGLs consist of ethane, butane, isobutene, propane and natural gasoline. Despite being an NGL, ethane is in fact a gas that can also be extracted from associated gas, which is a byproduct of the crude oil production process. The final liquid feedstock is naphtha, derived directly from crude oil.These feedstocks are then cracked to produce primary petrochemicals; that is their long chain of hydrocarbon molecules is broken down to produce a small number of basic commodity chemicals. Olefins such as ethylene, propylene and butadiene are produced by steam cracking NGLs. Meanwhile, aromatics such as benzene, toluene and xylene are produced by catalytically reforming naptha. The most important basic petrochemical is ethylene, accounting for roughly 40 percent of basic chemicals global capacity.Olefins and aromatics are the building blocks of petrochemical intermediaries, as well as more complicated derivative products, the NCB report said. Petrochemical prices Feedstock prices vary according to their drivers. Crude oil prices set the cost of refinery operation, as well as the bottom end of the naphtha price band. The top end is set by premium gasoline prices; a downstream product formed when naphtha is placed into a reformer (an apparatus that reforms the molecular structure of hydrocarbons to produce richer fuel). The regional differences in naphtha prices are the result of differing freight costs when the raw material is exported. For example, West European naphtha prices have averaged $10 per ton lower than in the US. On the other hand, the price of ethane varies entirely with location. In the US, ethane is linked to the market price of natural gas as well as extraction costs, while in Saudi Arabia it is set by a Royal decree at the cost of extraction.The price of refined products varies throughout the world due to (1) differences in market structure; (2) political influences; (3) product quality specifications; (4) environ- mental legislation; and (5) supply and demand imbalances. The regional differences of a particular product are once again attributed to differing freight costs. Unfortunately, petrochemical prices in general are not very transparent. The larger a congregation of buyers and sellers, the more liquid the market is and therefore the more reliable the prices are.It is undeniable that petrochemical derivatives have a vast range of uses in the economy. Meanwhile, water conservation and hygiene have improved dramatically due to plastic water pipes and bottles. Thus, the petrochemical industry takes the residuals of the oil and gas industry and turns them into useful products that sustain and enhance life.The Saudi petrochemical sectorThe NCB report said Saudi Arabian petrochemical industry is the most attractive in the Middle East, promising a long-term path toward economic diversification. This is due to the strategic advantages Saudi producers enjoy compared with their global competitors. The most prominent advantage is the Kingdom's substantial reserves of cheaply extractable feedstock. Crude oil reserves amount to 264 billion barrels - the world's largest reserve base — while natural gas reserves amount to 279.7 trillion cubic feet. The government offers ethane-rich associated gas to domestic producers at a subsidized rate of $0.75 a mnbtu through state-owned oil giant, Saudi Aramco. However, globally, producers procure this commodity at spot market prices that currently stand at $5 a mnbtu.As the price of oil increases, the relative feedstock cost advantage rises. The Kingdom's competitive cash point position serves as an incentive for foreign petrochemical companies to invest in the industry, while its accession to the World Trade Organization (WTO) in 2005 has eased market entry. Saudi Arabia has opened its market by lowering import tariffs: PE, PP and PS tariffs were reduced to 8 percent from 12 percent in 2008, and have been brought down further to 6.5 percent at the end of 2010. However, in the WTO agreement, Saudi Arabia was able to maintain its feedstock pricing comparative advantage by indicating that ethane is a natural resource that is not being exported. The argument was also extended to naphtha and other liquids, arguing that because these liquids are used for domestic purposes and require no investment in export terminals or marketing, they can be sold to domestic customers at a discount on export prices. Naphtha receives an 11 percent discount on its export price and NGLs garner a 30 percent discount on the export price of naphtha. This will allow domestic producers to offer competitive prices to tariff-protected markets - such as the EU, US and Japan - and lead to sizable increases in Saudi petrochemical exports, particularly for polymers.These comparative and policy drivers are encouraging the inflow of capital. The Kingdom's lucrative crude oil reserves allow for the world's lowest project energy costs, while its supportive government provides some of the lowest taxes and property registration costs. Large economies of scale and proximity to European and Asian markets have also encouraged foreign investment. For example, three international oil companies with major Saudi Arabian petrochemical presence are ExxonMobil, ChevronPhilips, and Royal Dutch Shell.Despite the government's commitment to reform, conditions on investment have been imposed and are en- forced through ethane allocations. The guidelines emphasize diversification, value addition and Saudization of the work force. The drawback of ethane is that it only yields a small and low-value slate of products; basic olefins, such as ethylene. The Saudi Arabian General Investment Authority (SAGIA) strongly encourages greater captive use of olefins in petrochemical mega-complexes in order to increase the exportable value of petrochemical projects and boost local employment. Currently the petrochemical sector employs just over 43,000 nationals, representing 6.4 percent of the Saudi work force and only 0.6 percent of the total labor force. Moving further down the product chain into intermediates and derivatives generates far more employment opportunities.Unfortunately, according to the NCB report, there are a number of disadvantages to this conditional approach on investment. Diversification into the downstream sector requires a great deal of capital, compelling Saudi investors to seek JVs with foreign firms. Meanwhile, restrictions of ethane allocations mean that state-owned companies receive higher priority. Saudization also poses a challenge due to the shortage of necessary skills needed to cater to the growing demands of the sector.The effect of economic crisisDemand for petrochemicals and their derivatives generally track global economic trends given their extensive use in everyday applications. Thus, global demand for olefins fell 3-4 percent in 2008, and remained largely flat in 2009. The situation was then exacerbated by destocking throughout all petrochemical product chains. This caused the price of polymers - particularly polyethylene - in Asian markets, a key benchmark, to plummet by 20 percent in 2009.Saudi petrochemical producers were not immune to the global downturn. Sharp declines in the price of oil toward the end of 2008 and into 2009 gave naphtha-fed crackers outside the gulf a boost in competitiveness, undermining the feedstock advantage of ethane-fed crackers in the Kingdom. The slowdown also reduced the earnings of domestic producers with the collective net income of the sector falling to SR273 million in Q4, 2008, down from SR8.14 billion in Q4, 07. However, this was mainly due to SABIC's (Saudi Basic Industries Corp.’s) 95.5 percent drop in net profits. Overall, producers' feedstock advantage and proximity to Asian markets provided a floor to their earnings. After bottoming out at SR557 million in Q1, 2009, Saudi firms together reported net income of SR8 billion in the second half of 2009 compared to the net income of SR0.7 billion in the first half of 2009.