Natural gas returned as star of the show at the 2014 VMA Market Outlook Aug. 14-15 in Boston, but it shared the stage this year with oil. Speakers said those two commodities promise to alter the flow of trade around the world and rebuild the North American economy. Speakers also said the economy has met the expectations for growth that many predicted would finally bury the Great Recession in the past.
Still, problems linger, in particular with employment. Joblessness has dipped somewhat, but many presenters voiced concern about the labor force participation rate, which has shown a loss of 3 percentage points, and about the loss of skilled workers to retirement. This mismatch from what businesses need to what workers have to offer appeared to be on the minds of many attendees and speakers during the outlook conference.
On the positive side of the economic picture, the boom in tight oil and gas production has been proclaimed as a way to tip the North American trade balance toward exports, not just of natural gas and oil but also petrochemicals and the high supply chain intensity goods made from those petrochemicals. That will bring more employment as well as a demand for more goods, including valves, pipes, pumps, actuators and controls, to build the refineries and pipelines.
Uptick by Year’s End
Michael Halloran, senior industrial analyst for Robert W. Baird & Co., reiterated the important role industrial equipment markets play on Wall Street and how important Wall Street is in how the world sees industry here.
“The stock market helps to define the characteristics of best-in-class industrial companies and to determine what the best investors in the world are looking for,” he said. Still, while many process control companies have favorable characteristics, their stocks underperformed in 2014, partly because they outperformed in 2013 and partly because of underlying demand trends. An uptick is expected going forward because levels of investment in the oil and gas industries (primarily mid- and downstream) are high, and the automotive and residential end markets are seeing ongoing gradual improvement.
A Robert W. Baird survey of process control professionals for the second quarter of 2014 showed sales and order trends have been better than expected, though there is more optimism on the order side than the sales side. Still, sales are trending positively toward single-digit growth in 2014.
Halloran pointed out that near-term power trends in this nation remain constrained by global economic uncertainty and delays in finalizing environmental regulations. Additionally, U.S. power capacity utilization levels remain well below peak levels of the late 1990s. More power was consumed in early 2014, but Baird analysts believe cold winter weather was the cause. Halloran said he does not expect a material global power infrastructure recovery until at least 2015, and natural gas and non-hydro renewables, including wind and solar, will lead any growth in the U.S.
In upstream oil and gas, activity and productivity is beginning to rise both on- and offshore. On the downstream side, Halloran says feedstock is the key and is driving investment opportunities.
Residential construction is aggressively pushing toward multi-family dwellings while non-residential construction markets look at 2014 as the first year of hope for growth. The huge inventory of buildings that remained empty following the recession has been reduced so demand is once again appearing, he said.
Another positive trend, according to Halloran, is the increased focus on cost reductions and stricter environmental regulations. That means industrial companies are seeing good demand for energy-efficient products across the heating, ventilation and air conditioning; power; municipal water/wastewater sectors; and in general industrial applications.
The most successful players in the process control sector will be those who are leaders in technology in areas such as variable speed drives, actuation, smart electronic controls, instrumentation and process management software, Halloran said.
“Given the critical need for valves in the operating process, a wide variety of manufacturers are accelerating capital investments in automation equipment or design to improve performance, reduce costs, and lessen potential downtime or lost production,” he said.
Greater aftermarket focus is also occurring, which creates a more consistent and stable flow of revenue and greater customer interaction and retention levels. According to Halloran, manufacturers are not giving away original sales to gain the aftermarket/maintenance, repair and operations business, but potential revenues from that business are increasingly a part of the original pricing.
FORECAST: In the industrial markets, spending appears focused on maintenance/replacement activity and brownfield projects near term; larger new-build infrastructure projects will come to fruition later in 2014 and into 2015. Cycle dynamics favor healthy process control stock outperformance over the next 1 to 2 years, likely driven by late cycle infrastructure acceleration and a more material residential/commercial construction recovery through 2014 and beyond. In the chemical industry, global capital expenditures spending should accelerate 5% year over year and 7% in 2015. Energy used for power generation will grow about 2% per year from 2011 to 2030.
UPSTREAM OIL AND GAS
Some Balancing Problems
John Spears of Spears and Associates reported that the U.S. currently accounts for about 45% of the global market, and this nation will come close to having a $425-billion market in 2014. He compared the market on this side of the ocean to those around the world and talked about how they will affect each other.
Spears noted that incremental growth in global oil demand is coming from emerging economies, which now account for half of total demand. Meanwhile, oil use in developed economies is trending from flat to downwards because of energy efficiency improvements and sluggish economic growth.
In the U.S., consumption has stayed flat, while oil production was up 11% in 2013. He projected growth of another 11% for 2014, then 7% in 2015, to an average of 14.6 million barrels per day (bpd).
However, the balance could have problems going forward:
“If you have less demand and more production, and we can’t export, that means more oil than demand, and that has a negative effect on prices,” Spears said.
One of the reasons for the mismatch is that U.S. crude oil exports are restricted by law. Spears said that, while recent efforts have been made to amend the definition of crude oil so that very light condensates don’t fall under this category, he does not expect restrictions to be substantially lifted until after 2016. If a combination of increased crude oil exports and refinery expansions does not absorb most of the expected growth in U.S. oil production, U.S. crude prices are likely to fall to the point (below $80 per barrel) that operators cut back drilling activity to reduce growth in production.
Spears estimated shale gas production accounted for 45% of overall U.S. gas output in 2013, exceeding 30 billion cubic feet per day (bcfd) for that year. U.S. gas exports are projected to average 4.3 bcfd in 2014, which is unchanged from 2013, and 4.6 bcfd in 2015 (up 6.7%). U.S. gas exports are positioned to rise if several U.S. Gulf Coast liquefied natural gas (LNG) export projects that have a combined capacity of 18.3 bcfd are approved. However, Spears agrees with most observers that no more than 8.0 bcfd of this capacity will actually be built.
U.S. spot natural gas prices are estimated to average $4.35 per million British thermal units (mmbtu) in 2014, up 19% in response to the drawdown in gas inventories. However, Spears expects gas prices will fall once storage returns to normal levels after an exceptionally cold winter in 2013/2014. U.S. spot gas prices are projected to average $4.00 per mmbtu in 2015 assuming normal weather.
The cost to drill and complete new wells has begun to increase: Spending on new wells is projected to be $157 billion in 2014 and rise to $165 billion in 2015. Rig count is forecast to average 1,870 active rigs in the U.S., which is up 6% in 2014 over 2013. However, drilling activity is expected to roll over in 2015 as prices decline from anticipated oversupply and lower prices.
U.S. well count is on track to approach 47,500 new wells in 2014, and Spears does not expect any changes in total count in 2015 although the number of new oil
wells drilled will fall 3%, while the number of new gas wells drilled will increase 9%.
Canadian and International
Canadian drilling activity is forecast to increase 8% to average 380 active rigs while Canadian rig activity is forecast to fall 3% to an average of 367 active rigs in 2015. Over 230,000 producing oil and gas wells were working in Canada at the start of 2014, up 0.7% over a year ago. One factor that will affect Canadian growth is the possibility of LNG export terminals that may get approved and built on the west coast.
Globally, Spears expects that spending on surface and subsea pressure control equipment such as Christmas tree valves; casing and tubing heads; chokes; safety shutdown systems; and actuators, gauges and fittings, etc., will exceed $26 billion in 2014, up 10%, and is projected to total about $31 billion in 2015, up 17%.
- U.S. oil prices will average about $100 per barrel in 2014 but decline to about $90 per barrel in 2015 as oil production growth remains strong, demand growth remains sluggish, opportunities to displace oil imports grow scarcer and relief from restrictions on crude exports remain limited in the near term.
- U.S. gas prices are expected to rise 25% in 2014 in response to the drawdown in gas inventories but then weaken in 2015 ahead of an anticipated jump in gas exports.
- Overall U.S. rig activity is projected to rise 6% in 2014 but fall 1% in 2015 as oil prices weaken. Overall well count is projected to rise 3% in 2014 and hold steady in 2015.
GLOBAL GAS MARKETS
Kenneth Medlock of the Center for Energy Studies looked into the future as far as 2040 and said, “The world will still be very much hydrocarbon dependent, and that is not going to change quickly.”
“Oil and natural gas demand will continue to grow, driven largely by very populous developing economies such as China and India,” he said.
In the U.S., the oil market is saturated, and no real growth will occur in that time.
“Everybody has a car and everybody drives a car as much as they’re going to drive it. Demand will fall or increase depending on how efficiency affects it. It is price sensitivity, not real growth that drives things in the developed world,” he said.
The Effects of Coal
Medlock pointed out that many of the coal plants in the U.S. were developed in the 1970s, so they are reaching the end of their lifespan. However, in China, huge numbers of coal plants have been built in the last decade. Since the lifespan of those plants ranges 30-50 years, they will stay in place.
“Other fuels can only capture margin,” Medlock said. “They can’t penetrate what already exists. China will eventually be the driver for LNG demand, but it will be by degrees.”
Despite the carbon dioxide (C02) emissions from coal, demand is continuing to rise around the world. Indonesia and Australia are the largest exporters, but the U.S. is also increasing its exports, mainly to Europe. Meanwhile, “Germany is shutting down nukes,” so it has need for a stable energy source. “There is an impetus to import coal, and they are building supercritical coal plants,” he said.
According to Medlock, the technological breakthroughs that made it possible to tap into shale resources mean available gas is now closer to its markets in North America, but it’s much more than geography or geology that have made the U.S. able to capitalize on shale resources.
“Nowhere else in the world will you see the pace of development as in the U.S.,” he noted, “because nowhere else in the world can a developer negotiate with a landowner for mineral rights.”
The U.S. also has a well-developed pipeline network that can accommodate new production volumes and a market where a well-developed service sector can facilitate fast-paced drilling activity and provide rapid response to demands in the field, he said. Still, the pipeline infrastructure will need to be expanded, Medlock said.
Shale and LNG
Medlock noted that oil production increases from the deposits in North Dakota and South Texas are two of the three largest increases by any country anywhere in the world. With that abundance of oil comes gas production associated with the shale, which adds to the natural gas abundance in North America.
While the supply is plentiful, much more is needed to tap into that windfall, he pointed out. “A variety of regulatory and market institutions must be in place if regions outside the U.S. are to reach full development potential.”
Medlock said U.S. exports of LNG and other supply abundance will put downward pressure on prices. This will be exacerbated by demand reductions from re-activation of the nuclear fleet in Japan and increased supplies from shale originating in China, East Africa, Australia and Russia.
“Small changes in demand can create a huge increase in price because of supply constraints, but if you reduce the deliverability constraint, you drive down the price,” Medlock said. “There is no way prices in the U.S. will rise to international rates. As U.S. gas goes out into the world, it will push all the liquidity from here to the rest of the world.”
- U.S. LNG exports will create a large infrastructure industry, to likely make this nation the third largest exporter in the world. However, the U.S. is also the largest gas consumer and industrial activity is rising, which will require more power generation. Because of the Environmental Protection Agency’s (EPA) requirements to reduce carbon emissions, coal will be retired and replaced with natural gas.
- Strong growth will occur in total dry gas production through 2020 followed by stabilization, with shale gas continuing to increase share. Canadian supply will grow more strongly post 2020 as prices strengthen and U.S. LNG creates additional demand pull along existing pipelines.
A Changed Global Environment
Mark Peters, publisher of the Oil and Gas Financial Journal, didn’t venture into the future as far as Medlock in making his forecast, but he talked about the next decade and what factors will shape energy expansion.
“You can’t discuss anything in this industry without talking about tight oil and gas,” he said. Also, no matter which side of the fence policymakers are on as far as the effects of climate change, “policies aimed toward mitigating it are having an effect on the industry,” he said.
Despite the fact the U.S. is reversing 40 years of declining oil production, oil prices remain high.
“There is a war premium because of ongoing strife,” Peters said. He expects these prices will remain between $100 and $120 per barrel. Meanwhile, Texas oil production will reach an all-time high by 2017 when the Permian Basin comes online.
Peters suggested that lower prices of natural gas and long-term supply will drive industrial regeneration in the U.S. and additional gas exports will drive down global prices. “Gas intensive petrochemicals will see the strongest growth.”
Peters pointed out several environmental factors that will have an ongoing effect on oil and gas. One of them is CO2 levels, which he said are already much lower now than in the first decade of the century. Regulation in this area might threaten the slow growth manufacturing is now seeing. Some other countries are already addressing environmental effects. For example, “Australia recently began repealing their strong climate change taxes and rules due to damage to their economy,” Peters said.
Regulation in other areas may also be in effect soon. For example, while fracking is still regulated by states, EPA is trying to make it a national issue.
Echoing the sentiments of other presenters, Peters said additional gas exports will drive global prices down. “Gas processing facilities and pipeline construction will be driven by changed production locations, and as LNG export facilities are added, more will be needed,” Peters said. He also said a recent spate of derailments may spur pipeline construction, but this situation may be delayed by the difficulty of getting rights-of-way to lay the pipeline.
As far as refining, Peters stressed that capacity in the U.S. needs to change. While units were restarted and expanded in 2012 and 2013 for vacuum distillation, thermal cracking, catalytic hydrocracking, catalytic reforming and hydrotreating, more units are needed, and if the Keystone pipeline is approved, Gulf Coast refineries will need to expand. Meanwhile, “Gasoline as a motor fuel continues to decline as ethanol takes an increasing share of the market,” which will also require refinery changes, he said.
Inexpensive natural gas has also driven petrochemical expansions. The current value of U.S. chemical projects planned between 2014 and 2020 in the U.S. is $71.7 billion, he said, and gas-intensive petrochemicals will see the strongest growth going forward.
- Pipeline capital spending in the U.S. in 2014 will be $15.6 billion.
- Capital spending in refining will equal $12.9 billion in 2014, an increase of 0.8% over the previous year. Capital spending in petrochemicals will total $5.6 billion in 2014, an increase of 51% from 2013.
- Going forward, the nation will see more export of refined products, more upgrades and expansion of petrochemical facilities and possibly new plants in U.S. Northeast because of shale gas production.
On the Rebound in North America
Mark Eramo of IHS Chemicals had the same positive outlook as Peters when it comes to expansion of petrochemical facilities over the next decade.
He pointed out that modern life and its dependency on everything from packaging to carbon fibers has led to an increase in production from 290 million metric tons (MMT) in 2000 to an anticipated 640 MMT in 2020.
The make-up of products will change over the next few years for several reasons, he said. For one thing, environmental issues have reduced benzene use and increased methanol use. Gasoline use has decreased in North America, meaning less propylene derived out of the refining sector. Chlorine’s primary end use is PVC resin, but electricity cost is a major factor and demand growth is driven by construction materials, which means those two factors will affect chlorine needs, Eramo said.
In general, chemical demand grows as world GDP rates rise, he said. That GDP is currently reaching about 3.5%, but will flatten over the next few years and fall beginning in 2017. Meanwhile, because feedstock costs make up 60-70% of the costs of chemical production, the prevalence of that feedstock creates competitive advantages for certain regions. Three primary regions of the world currently have low-cost feedstocks: the Middle East, North East Asia and North America.
In the Middle East, Saudi Arabia historically produced polyethylene, polypropylene, polystyrene, ethylene glycol and styrene. However, to create jobs, the area is focusing on performance polymers such as engineering resins and rubber, nylon, performance plastics and materials as well as acrylics and polyols.
In North East Asia, many petrochemical refineries, especially in China, are close to the coal mines. This is done to increase the country’s capability and self-sufficiency by converting coal to propylene, monoethylene glycol and other feedstocks. A strong surge of investment is occurring in China focused on reducing import dependencies as domestic demand evolves. Shale gas is also under development in China, but that may not affect matters until the late 2020s.
In North America, low-cost energy and abundant feedstock from shale oil and gas are driving new investments. Right now, the area has about a $1,000-per-ton advantage over other potential producers. However, demand is weaker domestically and products are being sent to Asia and Latin America. North America also has access to trade and the technology to enable competitive production costs.
Still, North America is not going to compete with China and South Korea on low supply chain products, Eramo said.
- Investments in ethylene, pro-pylene and methanol will accelerate in the near term, driven by “supply-push” dynamics as the U.S., China and the Middle East leverage competitive feedstock positions.
- Derivative trade will continue to grow as low-cost centers supply high-demand growth regions.
- Downstream manufacturing is expected to grow in North America for products with a high supply-chain intensity.
WATER AND WASTEWATER
Not Gone with the Wind
Thomas Decker, vice president and Atlantic Coast area leader of Brown and Caldwell, asked the outlook audience if the water and wastewater market was “Gone with the Wind.” His answer to that question was a resounding, “No!”
While the rough winter was a factor in the first quarter of 2014 for this end-user segment, signs are positive that the market will pick up in the second half of 2014, he explained.
Municipal revenues are up slightly as the tax base is slowly improving. Rates are also going up slightly, and the public supports those rate increases. At the same time, people are conserving more water so the drop in consumption is lowering income from water. That means municipalities cannot spend as much on improvements and capital projects.
Also, the U.S. population growth rate in 2013 was 0.7%, the lowest since the Great Depression, while housing growth has stalled, which means the demand for new water construction is down.
On the industrial side, a steady decline is occurring in industrial and commercial building. Even though small improvements have occurred in manufacturing in the U.S., the country is no longer a manufacturing-driven economy, he said, which means significantly less water demand for commercial and industrial companies.
No New Regulation
No comprehensive regulation that encompasses the entire marketplace, coast to coast, has occurred in 30 years, and the Safe Drinking Act of 1986 and the Clean Water Act of 1987 are both “expired.” However, the country’s infrastructure is deteriorating, which means some action must occur in the future. Studies show, for example, that in the U.S., 14-20% of water is treated and sent out but does not reach its destination. This is not just from leaking pipes, but also from outdated plants and pumping stations.
Although the government has not given this issue priority, EPA has taken action in the form of EPA enforcement activity, which is high right now. Ten new consent orders have been put into place in areas as diverse as San Francisco and Miami Dade (each has a $1.6 billion agreement) to small cities such as Vicksburg, MS. Generally, the enforcement actions are triggered by overflows, but the fixes include many kinds of equipment from pumps to cleanup. Valve, pump, actuator and control manufacturers will see opportunities in these enforcement situations, Decker said.
A study by Black and Veatch indicated that 60% of water utilities say they will need a 5% increase per year for the next 10 years to meet their needs; 20% say they will need 10%. Los Angeles says it will need a 4% increase every year just to replace pipes that are 100 years and older. A number of water utilities are considering some form of public/private partnership to get the needed funding, and Decker recommended those in the market keep an eye on private money.
While current funding is not nearly enough to cover the needs, there is some money available for water and wastewater projects across the country, Decker said. For example, in the summer of 2014 the “Water Resources Development Act” was passed with a subset on water infrastructure financing that gives a green light to 34 water infrastructure projects across the country.
Additional opportunities exist both domestically and internationally, Decker said. For example, EPA is increasingly looking to ensure that municipalities are creating separate storm water systems. Also, desalination is growing, although slower in the U.S. than other countries, and wastewater disposal for hydraulic fracturing continues to be an issue. Globally, world markets, including the Middle East, Southeast Asia and China, are growing in water/wastewater. There is some growth in India, but it is slower because the economy is not moving as fast as other world markets. In a positive move for the industry, the World Bank recently announced it is expanding infrastructure spending, Decker pointed out.
FORECAST: While the last few years have been a challenge, 2014 will claw back to flat from a first quarter that saw some rough winter conditions. Very modest growth will occur in 2015 for the first time in four years.
ON THE WEB
Simona Mokuta of IHS compared the post-recession progress of countries around the world with what’s happening in the U.S. She reported that countries recovering well from the 2008 recession include Australia, which is now at nearly 120% of pre-2008 levels; Canada, which is at 110%; and the U.S., which is at about 108%. Historically, advanced countries have grown about 5% slower than emerging markets, but emerging economies are now growing only about 3% faster than established countries, and the pace of globalization has slowed.
Learn what Mokuta had to say about each country and what she thinks is driving the developments in the U.S. Also on the website is an article (“Mining for Value”) based on a presentation by Glen Ives of Deloitte Canada, who discussed the state of the mining industry and the trends affecting its profitability and future.