Urea capacity rationalisation in China: the $5.83 billion-dollar question - Integer
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Urea capacity rationalisation in China: the $5.83 billion-dollar question

Posted On: 18-09-2017 By: Grahame Turnbull

This article draws on the September issue of Integer’s new Urea 10-Year Outlook. For more information please contact Laura Cross – Head of Nitrogen Analysis – laura.cross@integer-research.com

Since 2013, Chinese exporters have held the position of the primary price setter in the urea market, bringing along with them all the caveats and cautions that a state-influenced economy can unload onto a commodity market. And so an encouraging development for urea market participants in 2017 so far has been the reduction in Chinese exports, driven by increasing production costs, weak demand and a high closure rate – all signs of a market on the road to an oversupply correction. This reduction in China’s urea export volume (if permanent) will help tighten the market, which remains chronically oversupplied despite seasonal upticks prompted by demand drivers such as the latest Indian tender which led urea price ideas to rally by around $20/tonne in the first half of September.

Prior to China’s rise to global urea powerhouse, Ukraine was the major floor price setter, reliant on imported, oil-indexed, Russian gas. However, unlike its predecessor, China’s influence on urea prices was not dictated by the fortunes of one or two urea plants, but millions of tonnes of subsidised, structural overcapacity.

Now that a meaningful correction in Chinese urea output is beginning to play out, the million-dollar question is whether this level will be sustained, and to what extent further capacity closures in China will contribute to the rebalancing of the global urea market in the coming years. Therefore, an analysis of various capacity closure scenarios is a useful tool to quantify the difference different levels of rationalisation in China could have on the supply-demand balance.

Being the analysts that we are, the million-dollar question didn’t quite cut it as the headline to this article, and so we combined the capacity differential across our scenarios with our China FOB urea price forecast for 2022, which as it happens leads us to a US$5.83 billion dollar question. A crude and somewhat circular assessment, but a nice hook nonetheless. The scenarios outlined below were published in the Q3 2017 Quarterly Briefing chapter of Integer’s new Urea 10-Year Outlook Service.

Reaching a sensible 2017 capacity figure:

Firstly, a capacity adjustment is necessary for 2017 to reflect plants that have been reported as closed. Four plants have been confirmed closed so far in 2017, and this reduction in capacity has been pro-rated based on closure date and removed from our annual forecast. Furthermore there are seven urea plants that have been idle for more than 24 months, a criteria that we use to gauge long-term idled plants that given their cost profile and feedstock are deemed highly unlikely to restart.

This culminates in the closure of 11 Chinese plants in our capacity forecast. However, six new plants are expected to begin production in 2017 (outlined in detail in the Regional Analyses chapter of our latest quarterly report), which leads to a net increase in capacity of 500,000 tpy in 2017.

[Click image to enlarge]

Chinese net urea capacity would total around 84 million tonnes in 2019 if accounting for firm and probable projects, and assuming a relatively low closure rate. The following chart shows the outcome of Integer’s firm and probable new project additions, and a modest closure rate of 2 million tpy of urea capacity between 2017 and 2019. This closure rate reflects only plants that are currently slated for closure or have been idle for a sustained period of 24 months.

[Click image to enlarge]

We expect that the difference between effective capacity and nameplate capacity will be the key driver of domestic production volume, and therefore absolute capacity will become somewhat disconnected from realised production volumes. The capacity denominator does impact utilisation rates however, and we expect that the overcapacity in China will be more significantly reduced in the coming five years than shown in our base case nameplate capacity scenario shown below.

It is likely that there will be more closures in China than have been announced to date. The factors driving Chinese capacity utilisation are numerous and varied, and include but are not limited to: international urea prices, Chinese government intervention, environmental protection measures, coal market fortunes, local administrative finances and investment programmes, agricultural market developments and crop pricing, fertilizer application and domestic demand.

In order to quantify the impacts of possible, but as yet unannounced, plant closures on capacity and utilisation, we have assessed all plants in China that were either not operating or operating at reduced rates in mid-2017. We then grouped these plants into risk categories and ran scenarios on different rates of closure based on more / less aggressive capacity rationalisation. The scenarios shown below are applied cumulatively.

[Click image to enlarge]

The combined volume of “at-risk” urea capacity in China currently stands at 16.9 million tpy. While we do not expect the most extreme of the scenarios below to play out, it does highlight the impact bullish closures would have on China’s utilisation rate.

Given its position as marginal producer, and in the context of uneconomic investment in urea capacity in China in the last decade, idle and loss-making plants are at the highest risk of closing and bringing global urea supply into balance sooner.

[Click image to enlarge]

The culmination of the five scenarios is a spread of 17 million tpy in absolute capacity and 20% in utilisation rate by 2022.

[Click image to enlarge]

These scenarios form an important part of Integer’s forecast analysis, not only in the context of China’s urea supply-demand balance, but also the impact of effective vs nameplate capacity in China on international traded volume, curbing the current global oversupply and ultimately, the outcome for price developments to 2030.

This article draws on the September 2017 issue of Integer’s new Urea 10-Year Outlook, which details the plants included in each of the above scenarios. The service also assesses the outlook for supply, demand, trade and prices all major countries and regions. For more information please contact
Laura Cross – Head of Nitrogen Analysis – 

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