How the chemical industry works: commodity and specialty
From feedstock to plastic bottle, the difference between commodity and specialty chemicals, how each makes money, and the metrics that matter.
Industry brief, with a one-minute summary: ChemicalsKey takeaways
- Chemical companies turn a small number of raw materials (oil, gas, salt, minerals) into thousands of products.
- Capacity utilization (or operating rate): production divided by capacity.
- Cash cost per tonne: feedstock, energy and other running costs for one tonne of product.
- Spread (or margin over feedstock): the product price minus the cost of feedstock needed to make it.
Key idea
Chemical companies turn a small number of raw materials (oil, gas, salt, minerals) into thousands of products. Commodity chemicals win on low cost and scale. Specialty chemicals win on performance and service. Before you structure a chemicals case, decide which of the two you are looking at.
- From feedstock to consumer
- FeedstockNaphtha (from crude oil), ethane and propane (from natural gas), methane, salt
- Base chemicals (cracker and other large plants)A steam cracker heats feedstock and cracks it into smaller molecules
- Ethylene, propylene, butadiene, benzene; also methanol and ammonia
- Intermediates and polymersPolyethylene, polypropylene, PVC, PET, synthetic rubber, fertilizers such as urea
- ConvertersMake films, bottles, pipes, fibres, car parts from polymer pellets
- End marketsPackaging, construction, cars, textiles, agriculture, electronics, health, consumer goods
Feedstock is the raw material that goes into the process. Many chemical plants sit next to refineries or gas plants so they can use this feedstock directly.
| Feature | Commodity chemicals | Specialty chemicals |
|---|---|---|
| Examples | Ethylene, polyethylene, methanol, ammonia, caustic soda | Coatings additives, adhesives, catalysts, electronic chemicals, flavors, water treatment chemicals |
| How customers buy | On price and specification; one producer's product is much like another's | On performance; the product solves a specific problem for the customer |
| Plant size | Very large, capital heavy plants; scale lowers cost | Smaller, flexible plants; many products |
| Main cost | Feedstock and energy, often most of the cash cost | Raw materials plus R&D, technical service and sales |
| Typical margins through the cycle | Swing widely; thin in bad years, high in good years | Higher and more stable, if the products stay differentiated |
| How to win | Cheapest feedstock, scale, high utilization, integration | R&D, close work with customers, pricing on value, service |
So-what
A commodity producer should talk about cost position and utilization. A specialty producer should talk about customers, innovation and price.
Chemical customers are other businesses, not consumers. A packaging company buys polyethylene pellets. A paint company buys resins and additives. A farmer buys fertilizer through a distributor. Commodity chemicals are often sold under yearly contracts with prices linked to published market indices, or on the spot market. Specialty chemicals are often designed into a customer's product, which creates switching costs: once a car maker has tested and approved an adhesive, changing it takes time and money.
Key metrics, in plain words
- Capacity utilization (or operating rate): production divided by capacity. The industry often needs around 85 to 90 percent to earn good margins.
- Cash cost per tonne: feedstock, energy and other running costs for one tonne of product.
- Spread (or margin over feedstock): the product price minus the cost of feedstock needed to make it.
- EBITDA per tonne: profit before interest, tax, depreciation and amortization, per tonne sold.
- Share of sales from new products: for specialty companies, a sign that innovation is working.
- Working capital days: how much cash is tied up in stock and unpaid bills; chemicals hold a lot of stock.
- Safety metrics: incident rates and process safety events. A serious accident can close a plant.
A polypropylene plant in Singapore has capacity of 1.6 million tonnes a year and produced 1.2 million tonnes. What was its capacity utilization, as a decimal?
A company sells a coating additive that makes car paint last longer. Customers test it for a year before approving it. Is this commodity or specialty, and what should it compete on?
Sources for this lesson (1)
- Recognized public explanations of case-interview concepts and frameworks
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