VINACHEM

Brazil’s petrochemicals sector is set to suffer a prolonged slump that will threaten profitability if government does not intervene, according to an analyst at credit ratings agency Moody’s.

Carolina Chimenti, analyst for Brazilian chemicals at the agency, added that Braskem’s future would be particularly troubled – as Brazil and Latin America’s largest petrochemicals producer faces margin compression and limited free cash flow generation amid the challenging environment, she said.

“The problem is that we are in the middle of a very stiff down cycle that we think is going to last longer than other down cycles,” said Chimenti.

“Without government support, without a new REIQ [an expired tax break for chemicals companies, for which Congress is debating a replacement], the margins would be very compressed and the company would not generate positive free cash flow considering the payments of Alagoas.”

Braskem’s Alagoas liabilities relate to payments stemming from geological damage caused by its salt mining operations in the northern Brazilian state.

But even excluding these payments, the analyst added, cash generation would remain limited even with potential cost-cutting measures.

“I think Braskem, which is a profitable company, should be able to generate positive free cash flow throughout the cycles. The issue is that this is not a normal cycle, it’s a very difficult condition and they have specific issues related to Alagoas,” she added.

Braskem had not responded to a request for comment at the time of writing.

FEEDSTOCK DISADVANTAGE

Chimenti said Brazil’s petrochemicals industry suffers from structural disadvantages compared with US producers, particularly regarding feedstock costs.

Brazilian chemicals producers rely primarily on naphtha-based production, while US competitors benefit from cheaper ethane derived from shale gas.

“Brazil sits so close to the backyard of the US. It’s one of the biggest export markets and it’s also one of the closest. That’s the other disadvantage you have – Brazil is so close to a market that has much lower feedstock costs. Converting to ethane-based production would require substantial investments – all this during the downturn,” said Chimenti.

“They don’t have that money. They have some projects, especially the gas project in Rio. The main asset they have is Braskem-Idesa in Mexico, which runs on ethane but has its own challenges. They don’t have this internal cash generation as of now and they would need to secure funding at a moment when I’m not sure the funding would be there for them, or at least it wouldn’t be cheap for them.”

Braskem has been negotiating with Brazil’s state-owned energy major Petrobras a supply deal for natural gas for months, but talks are still ongoing.

However, even if Petrobras provided gas supplies, structural differences between Brazilian and US extraction complicate the situation, said the Moody’s analyst.

“Gas extraction in Brazil is not as competitive as in the US. The US went through a massive investment period after the shale discoveries and they were able to create an infrastructure in which you could supply the petrochemicals industry with gas,” said Chimenti.

“The oil extracted in the US is very light oil and so it sucks up a lot of methane. Whereas the oil that’s extracted in Brazil doesn’t come with a lot of methane. That’s fundamentally the Petrobras problem – they don’t have that methane to, let’s say, lend the gas ‘cheaply’.”

POLICY SUPPORT POTENTIAL

To replace REIQ, the Brazilian parliament is debating the so-called Presiq legislation, which also contemplates tax breaks for chemicals producers.

“This would have a material impact for Braskem. The company is estimating it could have a positive impact of around $400-500 million in additional EBITDA [earnings before interest, taxes, depreciation, and amortization]. But in the long term, Braskem needs to make these investments [to switch to ethane] to improve its competitiveness in the current environment,” said the analyst.

“So, more gas-based production and ramping up the operations in Mexico [at Braskem Idesa]: these kind of things to try to diverge from the need for government support to improve profitability during down cycles.”  

– Source: ICIS