Facing spiraling costs, looming skills shortages, and the decarbonization imperative, manufacturers of chemicals and agricultural products can’t afford to stand still.
The chemicals industry produces many of the key ingredients of the modern world, and in 2021, as the global economy roared back into post-COVID-19 life, the sector enjoyed a boom, with sales surging over 2020 by almost 25 percent to $4.7 trillion. Just one year later, chemicals company CEOs had much less reason for optimism.
The year 2022 was a tumultuous one for the industry. Shortages of critical products and materials remained, as producers struggled to catch up with high demand. Surging commodity prices, especially for natural gas, increased costs across the sector. In Europe, where gas supplies were acutely affected by the war in Ukraine, the prospect of gas rationing during the winter was a real possibility. As central banks increased interest rates to tame inflation, chemicals players saw a steep rise in their cost of capital, making it harder to finance the big, complex assets on which the industry depends.
Beyond these immediate-term problems, the sector is facing significant medium- and long-term challenges too. Skills shortages are one, especially in Western countries where chemicals players have been slow to attract new talent to supplement an aging workforce.
Decarbonization is another challenge. The manufacture of chemicals is energy- and carbon-intensive, and some processes produce large quantities of carbon dioxide as a by-product, adding to the complexity of decarbonization. This uncomfortable truth is putting the sector under growing scrutiny by regulators, investors, consumers, and activists.
A catalyst for change
One way for chemicals players to overcome these challenges is by reformulating their operations. While the industry has pursued operational excellence for decades, there’s one key ingredient available today that many companies are underutilizing: the power of digital technologies.
Over the past decade, Industry 4.0 technologies such as robotics, advanced analytics, AI, and cloud computing have made the leap from pilot to large-scale implementation in a host of industries. Now the chemicals sector not only has the opportunity, but rather the necessity to catch up to not get left behind. Here are just a few of the many ways that digitization could deliver the next level of operational excellence in the industry.
People and processes
Automating previously manual tasks can address several of the industry’s challenges at a stroke: boosting output, increasing efficiency, and making chemicals plants a better place to work. The opportunities are numerous, from the increased adoption of robots and “cobots” to accomplish heavy and repetitive manual tasks, to the use of handheld devices to eliminate form-filling and support operators and maintenance personnel.
Improvements like these directly address some of the issues that make people reluctant to work in the chemicals industry. And the additional productivity they unleash gives plant owners the space to adjust tasks, roles, and shift patterns to further improve the working environment. Key changes here include offering staff increased flexibility in working hours or the ability to work from home where feasible and allowing more tasks to be completed during the day shift.
Remote working, facilitated by digital technologies, can also allow chemicals companies to make better use of scarce talent. The introduction of remote, centralized control rooms, for example, allows businesses to use their most skilled operators to manage and optimize multiple plants. The same approach can be applied to enable the at-scale application of valuable but complex maintenance and reliability activities, such as condition monitoring and predictive maintenance enabled by advanced analytics and AI.
Implementing automation and digitization at scale requires a range of new skills, from data analytics and machine learning specialists to robotics engineers. For chemicals players, this will present both a challenge and an opportunity. They will need to invest in systematic recruitment, reskilling, and upskilling programs to access the talent they need, but they will also be able to offer attractive, varied career options with opportunities for ongoing learning and development. That will help to make the sector more appealing for younger workers and entrants from other sectors.
Production performance
It has been a long time since most chemicals players were forced to contend with an inflationary environment. Many companies are still enjoying high demand for their products, but input costs have been rising rapidly, as is now the cost of the capital required to build new plants or invest in equipment to remove bottlenecks from existing production lines.
Technology can help here by enabling companies to make significant increases in the output of their existing production assets, through improvements in yield, throughput, or product quality without significant capital expenditure investments. Advanced analytics approaches allow chemicals players to gain new insights into their production lines, revealing complex interrelationships between material properties and process parameters. One specialty chemicals company applied this approach to a monomer furnace that had become a critical bottleneck, boosting output by 18 to 30 percent. In this case, the only new equipment required was an app that helped operators optimize the furnace control settings.
Leading chemicals players are using technology to transform the way they run their plants, or even manage their businesses. Some companies are using AI to adjust process parameters in real time, using models that have been trained using historical data on process performance. Others are applying advanced-modeling approaches to support decisions about which products they make, when, and how to maximize their margins.
Digital approaches also have plenty of potential beyond the plant. For example, digital tools can boost supply chain resilience by offering close-to-real-time information on shipments, inventory levels, or end-customer demand. Smart pricing models that account for variations in input and processing costs can help to foster alignment between the sales, manufacturing, and procurement functions. Models of production networks, regional costs, and operating risks can help companies make medium-term decisions about their sourcing and manufacturing footprint.
Sustainable operations
Digitization won’t solve the decarbonization challenge for the chemicals sector, but it can get companies off to a strong start. Improvements to yield and product quality come with meaningful carbon reductions attached, since they require fewer raw materials and less energy to deliver the same amount of product. And the same models can also be used to optimize the efficiency of energy-intensive processes, with direct benefits for both product unit costs and carbon emissions.
Companies are also using advanced analytics techniques to plan, prioritize, and design the new assets and technologies that will help them move further down the carbon abatement curve. These include options that have become economically attractive because of spiking gas prices—such as heat pumps (and other energy-recovery devices to transform waste heat into useful input energy), the replacement of gas boilers with electric units, and the integration of renewable-generation capacity.
Time is already running short for chemicals companies to address the challenges of demographics, sustainability, and long-term profitability. We believe that chemicals industry CEOs need to have clear answers to five key questions:
How will we obtain the capabilities we need to drive the digitization of our manufacturing processes?
What approaches will we use to decarbonize our operations, and how much will they cost?
What kind of workforce will we need over the next decade and beyond, and how will we attract it?
How can we maximize the value we generate from our assets in the short, medium, and long term?
What will our manufacturing operations look like in 2050, and how will we get there?
In a sector as complex and asset-intensive as the chemicals industry, transformation won’t happen overnight. Embedding new tools and technologies, and the people and organizational processes required to support them, into a large organization requires years of sustained effort.
Cracking the growth code in chemicals
A meaningful and higher level segmentation should provide a better and more qualified insight. We found that a differentiation between specialty and deiversified chemical companies already provides a much better view. Both segments however have in common, that consistent revenue growth has become more difficult than ever. But first let's take a closer look on how we value each segment:
Specialty Chemical Companies:
Focused Expertise: Specialty chemical companies concentrate on producing a narrow range of high-value, specialized chemical products for specific industries or applications. This focus can lead to in-depth expertise and a strong competitive advantage in their niche markets.
Higher Margins: Because specialty chemicals are often tailored to meet unique customer needs, they can command higher prices and generate better profit margins compared to commodity chemicals.
Resilience: Specialty chemicals may be less susceptible to price fluctuations and economic downturns compared to commodity chemicals because they serve niche markets with specific demands.
Innovation: These companies tend to be more innovation-driven, continuously developing new products to meet evolving customer requirements and environmental regulations.
Diversified Chemical Companies:
Diversification: Diversified chemical companies operate across a wide range of chemical products and markets, which can provide stability and reduce exposure to the volatility of individual markets or products.
Economies of Scale: Large diversified companies can benefit from economies of scale, potentially leading to cost efficiencies and competitive pricing.
Risk Spreading: Diversified companies can spread risk across various product lines and geographic regions, which may mitigate the impact of market-specific challenges.
Stability: Diversified chemical companies may offer more stable financial performance over time, as they are less dependent on the success of a single product or market.
Over the past ten years, only 15 percent of the world’s top 151 specialty and diversified chemical manufacturers grew above the average global GDP growth rate while maintaining a ROIC above the industry weighted average cost of capital (WACC).
Our research explored why some chemical companies outperformed competitors to become what we call “growth champions”: companies with revenue growth exceeding the annual average global GDP growth of 3 percent and ROIC exceeding the average industry WACC of about 7.5 percent. We found that a subset of growth champions we call “organic growth champions”—those demonstrating continuous organic growth from 2015 to 2019—did so by winning market share from competitors rather than by relying on market growth or mergers and acquisitions.
However, the COVID-19 pandemic has created a significant set of challenges that makes organic growth more difficult. Supply chains across the world are broken; the chemicals industry was hit particularly hard because of the global nature of its supply chains. In addition, lockdowns as a result of the pandemic created an acute shortage of raw materials and labor, challenging the production capabilities of many companies. So how should specialty and diversified chemical companies respond in the short to medium term?
Recipes for market-beating profitable growth differ for individual companies, but we believe that, in general, three actions will move the needle:
Meet the customers where they are with an omnichannel approach, and develop bespoke solutions (at scale) for today’s customer journeys.
Move from intuition and experience-based decision making to analytics-driven commercial management, especially in pricing and mix management.
Tailor contracting strategy to current supply- and production-constrained contexts while selectively negotiating long-term contracts where possible.
Becomming a growth champion
Only 16 percent of chemical companies—the growth champions—managed to grow above global GDP growth rates while at the same time delivering a ROIC higher than the chemicals industry’s WACC. They produced a 23 percent total return to shareholders from 2010 to 2019. While 23 percent of companies managed to grow at a ROIC that exceeded the WACC, their growth remained below the GDP growth rate. About 17 percent of companies grew above the GDP growth rate and had a ROIC below the WACC, while 49 percent of companies neither grew above the GDP rate nor produced returns above the WACC.
Growth champions have also generated significantly higher valuations than other companies. Between 2010 and 2019, the revenue and EBITDA multiples for these companies was 1.5 to 3.0 times higher than the others, suggesting that investors have rewarded them for strong performance.
Our research found a significant decrease in growth coming from market momentum—that is, overall market growth in the sector—between the period from 1997 to 2007 and the period from 2007 to 2018. Market outperformance, or gaining market share, rose in importance as a growth driver.
For organic growth champions specifically, market outperformance has become a key to their success.
After addressing revenue growth, the natural next question is: how do these companies fare in terms of profitability? The specialty and diversified chemicals sector display a wide range of EBITDA margins, from less than zero to as high as about 60 percent. Growth champions across segments create interesting opportunities for accretive value creation. A winning play is possible even in less obvious segments such as construction chemicals, and growth champions across segments pursue multiple opportunities to create disproportionate bottom-line value.
Apply omnichannel at scale
Our research shows that faster-growing chemical companies have used the power of digitalization to serve their customers much more effectively than their slower-growing counterparts. Their share of both digital customer interactions and revenue from digital channels is larger.
The pandemic accelerated the move toward digital and innovative business models for many industries. Omnichannel models have become a must-have for conventional B2B players. In the past year alone, several new online marketplaces (or digital platforms) have emerged and are creating opportunities for players to reach millions of new customers.
Even legacy players and industry incumbents have seen the power of omnichannel and have jumped on the digital bandwagon. For example, a leading fertilizer and agricultural inputs company facing competitive threats created its own direct-to-consumer digital channel. In 12 months, the company attracted more than 60 percent of its customers to the platform. And in 18 months, the platform generated more than $1 billion in sales, accounting for 10 percent of its revenue. Also, the digital channel reduced customer churn to a third of its former rate and increased the customer’s share of wallet by about 25 percent.
Institute analytics-based commercial management
Fast-growing B2B companies have kept up with changing customer expectations, especially through the pandemic, and have built the capabilities to use customer data and create actionable insights to serve them better.
The application of advanced analytics has added value across the sales life cycle, from customer acquisition to cross-selling, upselling, dynamic pricing, and prevention of customer churn. Companies are going beyond table stakes analytics use cases such as sales planning, account management, and pricing to newer areas such as gathering account-level intelligence on opportunities and threats, identifying opportunities for specific customers, and gaining deal-level insights. Our research indicates that on average, growth champions have benefited from at least a 20 percent productivity increase as a result of employing analytics-led commercial management.
Evaluate terms in current contracts
While COVID-19 has affected almost every industry, the impact on the chemicals industry has been especially severe due to its reliance on global supply chains, the raw-materials shortage, and labor constraints. In this difficult environment, companies initially doubled down on shorter-term sources of value capture. In the first few months of the pandemic, many companies pursued cost optimization projects and drove them to yield good results. However, inflationary pressures are now predominant, and pricing levers are critical. Leading organizations are being proactive in this market environment to reevaluate their contracting strategies. Powerful actions include confirming longer contracts with higher-margin customers, applying clauses in existing contracts that have gone unused (for example, minimum order quantities and service fees), and implementing new and more aggressive clauses to protect pricing flexibility in the face of variable market conditions.
While the chemicals sector has been—and will continue to be—attractive compared to other industries, it will take a sophisticated commercial approach to outpace competitors. As market momentum slows, companies should begin to pay attention to areas they may have neglected in the past. Going omnichannel, investing in a digital-and-analytics capability across the commercial spectrum, and reevaluating commercial constructs will be key.
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