Capacity transfer

First, capacity transfer

Natural gas in the chemical industry has the dual properties of energy and raw materials, about 40% of the natural gas used in Europe comes from Russia, and it is difficult to obtain an effective replacement in the short term, and the supply shortage or high price of natural gas will have an impact on the supply of chemical products. This energy crisis affects the industry on the supply side, resulting in insufficient production, and continues to raise product costs on the demand side, which weakens competitiveness and frustrates downstream demand. At present, some chemical manufacturers in Europe have successively raised the prices of related products, and successively implemented production cuts and shutdowns, and the load reduction of overseas production caused by the impact of the epidemic in 2020 May be repeated, and the supply contraction of chemical products with relatively high production capacity in Europe is expected. With the industrial chain advantage of China's capacity expansion continues to accelerate, competitive advantage continues to strengthen, we expect that the overseas chemical industry capacity transfer is expected to accelerate, the domestic market share and profitability of the corresponding manufacturers or will be further improved.

1.1 The gas crisis may lead to the reduction of chemical production capacity in Europe

1.1.1 The cut-off of natural gas supply may trigger a decline in the German chemical industry

If the gas supply is cut off, BASF may close the world's largest chemical base. On March 31, 2022, Russia signed a decree on gas trading rules, requiring "unfriendly countries" to buy Russian gas in rubles from April 1, or face forced supply cuts. All 27 members of the European Union are on the unfriendly list and have said they reject the proposal, after fears of a supply cut were becoming a reality. In response, the CEO of BASF said that if gas supply falls below 50% of maximum demand, BASF will have to scale back or completely close its production site in Ludwigshafen, Germany.

The Ludwigshafen site is BASF's headquarters and currently the world's largest integrated chemical production site, covering an area of 10 square kilometers, about 200 production units and 39,000 employees, accounting for nearly 35% of BASF's global workforce. Among BASF's six integrated bases in the world, Ludwigshafen base has the largest production scale and the earliest production time, and is also one of the world's main VA and VE production bases, with about 12,000 tons of VA and 20,000 tons of VE production capacity, accounting for 26.7% and 13.8% of the global total production capacity, respectively. If the German natural gas supply continues to be affected, the base faces production cuts or production shutdowns, it is expected that the global supply of vitamins VA and VE will be greatly affected. The Ludwigshafen site's energy consumption level has increased in 21 years compared to 20 years, with fossil energy generation increasing by nearly 8% year-on-year.

In 2021, BASF's European gas demand will total 48TWh, of which 37 TWh, or nearly 77%, will be required at the Ludwigshafen site. The surge in European natural gas prices since the second half of 2021 has led to a significant increase in the company's production costs throughout the year, with Q4 production costs reaching 15.06 billion euros, of which natural gas costs are 800 million euros. Gas costs increased to €1.5 billion for the full year and are still expected to increase by an additional €2 billion in 2022.

As a raw material and energy source for chemicals, natural gas cannot be replaced in Germany in the short term. According to the German Chemical industry association VCI, the German chemical and pharmaceutical industry consumes about 2.8 million tons of natural gas per year, accounting for more than 25% of the total gas consumption in Germany, the highest among all industrial sectors. Germany is the continent's most dependent country on Russian gas, accounting for more than half of its 2021 gas imports, and it is difficult to replace other sources of imports in the short term. About 60% of the natural gas used by BASF is used to produce the required steam and electricity energy, and the remaining 40% is used as a raw material to produce basic chemicals. The shortage of natural gas supply will have an impact on both energy and raw materials in the chemical production process, and the output of key basic chemicals and downstream products will be significantly reduced, and even lead to the closure of chemical production facilities, which will trigger a domino effect in downstream agriculture, food, automotive and other industries.

In addition to BASF Ludwigshafen, other major chemical production bases in Germany may be affected by natural gas supply shocks, such as Linde Group, which produces industrial gases, special gases and natural gas, and Bayer Group, which produces pharmaceutical and chemical products, will be similarly affected. According to VCI, the German chemical and pharmaceutical industry accounts for 60% of the production capacity of chemicals such as fine chemicals, polymeric chemicals and petrochemicals. If Russian gas imports are sharply reduced or even cut off, related companies will gradually reduce capacity and close factories, Germany's chemical industry may fall into recession and trigger Germany's worst economic crisis since the end of World War II.