Just one month ago, the European Union made its largest step yet in enlarging its boundaries, taking 10 countries in Central, Eastern, and Mediterranean Europe into membership with the existing 15 members--called the former EU-15. With the dust now beginning to settle, it is obvious that opportunities are opening for the chemical industry throughout Europe--albeit with some challenges for the next few years.
For the chemical industry, the scope of the new entrants is important enough to have generated recent studies by consulting groups PricewaterhouseCoopers (PwC) and Cap Gemini Ernst & Young, now Cap Gemini. And next week, the European Chemical Marketing & Strategy Association and the German Chemical Industry Association are cosponsoring a workshop in Frankfurt to explore the ramifications of enlargement for the chemical industry.
Enlargement, as the PwC report points out, is expected to generate many economic changes. For chemical enterprises in the accession countries--Cyprus, Czech Republic, Estonia, Hungary, Latvia, Lithuania, Malta, Poland, Slovakia, and Slovenia--these changes will be a considerable challenge, but one offering too much opportunity to spurn. "Producers operating in the new member states are looking at an excellent opportunity to capitalize on their central location and growing local markets," says Saverio Fato, global chemical leader at PwC.
Most chemical producers in the accession countries have tended to their domestic markets or have relied on exports to the markets of the former Soviet Union, a legacy of the former Communist bloc economic system.
As the PwC report notes, only a few of the strongest producers have penetrated the former EU-15 market. The Cap Gemini report explains that "while Central European companies have well-qualified people and established links with technical institutes, the interface of technical development with customer needs is currently only in the process of being established in some companies and countries. This particularly applies to countries such as the Baltic States, where trade was predominantly with other parts of the Soviet Union prior to independence."
IN FACT, where those former Soviet Union markets have receded--as in the fine chemicals sector, for example--the industry in the accession countries has suffered.
Meanwhile, the growth of trade between the new members and the older ones "has been less pronounced, and all 10 new member states had negative and deteriorating trade balance in chemicals with the former EU-15 between 1995 and 2001," the PwC report says. In 1999, the former EU-15 accounted for almost 70% of chemical imports into the new member countries, while the former EU-15 took only about 40% of exports from the new members.
Significant restructuring has already occurred in the chemical sector and will continue in the Central and Eastern European regions. Some of this is being fueled by foreign direct investment, which has increased considerably in recent years, the PwC report says. In 2001, foreign investment in chemicals was roughly $6 billion--about two-thirds in chemicals and chemical products, and the remaining third in rubber and plastics. Almost 40% of the investment was in Poland, with another 25% in the Czech Republic, PwC statistics indicate.
Some of the more significant investments to date have come in the fine chemicals and pharmaceuticals fields. Lonza, for example, was into the area early with its acquisition in the early 1990s of a fine chemicals producer in Kouřim, the Czech Republic. And Lek Pharmaceuticals, the Slovenian generics producer acquired by Novartis several years ago, is leading the Swiss company's investments in Central Europe, including plants opened in Poland and Romania last month.
Many chemical producers in the new member states are competitive in their domestic markets, even though they operate aging plants with much smaller capacities than those in the former EU-15, the PwC report argues. The bigger players have started to consolidate their operations, but some large companies still need to be restructured, and there are many small and medium-sized enterprises that could face a tough future. None of them can rely indefinitely on lower wage rates to ensure they remain competitive.
When the restructuring is completed, however, there will be a decided split of strengths between the new member countries and those awaiting accession in the next round: Bulgaria, Turkey, and Romania. To a considerable extent, and probably not surprisingly, this distribution also reflects the legacy of the former East bloc system, in which countries were "assigned" areas to focus on, says Roy Lenders, Cap Gemini team leader.
The Cap Gemini report predicts, for example, that the Czech Republic will become an important petrochemicals country because of its historic network of feedstock pipelines. Hungary and Slovenia will become important centers for fine chemicals and pharmaceuticals. However, the large agrochemical industries in Bulgaria, Lithuania, and Poland "will experience dramatic losses because of EU regulations and increasing labor costs," the report adds.
The Cap Gemini analysts, in their report, note that the enlargement has implications for the industry in Western Europe.
In fact, one of their report's major conclusions is that the German chemical industry will be threatened by the EU's eastward expansion. Customers will source chemicals from Eastern Europe instead of Germany because of significantly lower costs, the report predicts, and German chemical companies themselves will move part of their investment into the new member countries "because they will recognize that manufacturing costs will be lower than in Germany. Replacement investments in German chemical facilities will be replaced by merger-and-acquisition investments in Eastern Europe."
Both reports see a major problem looming for the industry in the new countries from the Registration, Evaluation & Authorization of Chemicals (REACH) program now being promulgated by the European Commission.
PwC's Fato says the most notable challenge for chemical producers in the new member countries is "the need to comply with EU environmental regulations."
The bulk chemicals sector will be particularly hard hit, his report says: "It remains a significant challenge for most firms, as many plants are old and inefficient and characterized by poor energy efficiency, overemployment, and a product profile that largely reflects the original markets the plants were built to serve."
MOREOVER, the PwC report adds, few firms have access to either the domestic financial resources needed to invest in new technology or the foreign investors who could provide such investment.
"A number of the new member states have negotiated transition periods, which provide them with additional time to comply with EU environmental regulations in exchange for a commitment to restructure their heavy-chemical sectors within an agreed time frame," the report points out.
Lenders' team at Cap Gemini agrees that REACH is expected to have negative consequences on the EU chemical industry, especially for the fine and specialty chemicals business, at least in the short term. Eastern European chemical companies will trail Western counterparts in adapting to REACH, the analysts warn, while REACH will make it difficult for the accession countries to build up their own fine chemicals industries.
"At the moment, the average Eastern European chemical company is still lagging the Western European chemical companies in terms of up-to-date asset base and compliance with environmental and legislative regulations," the Cap Gemini report says.
"Most of the new 10 EU countries at the moment do not yet fully comply with all of the EU chemical legislation. Also, the three possible future EU entrants--Turkey, Bulgaria, and Romania--still have to comply with most of the EU chemical legislation," it continues.
"A parallel entrance to the EU and a 100% introduction of REACH could have disastrous effects on the Eastern European chemical sector, especially the specialty and fine chemicals sector," the Cap Gemini report says.
The European Chemical Industry Council (CEFIC) has worked closely with the chemical federations of the accession countries in a variety of areas over the past decade. CEFIC opened membership to them in 1992 and since then has run workshops and established joint working groups--with the cooperation and blessing of the EU--to help the federations become fluent in EU regulations and standards.
Topics range from harmonizing the classification, packaging, labeling, and marketing of dangerous chemicals to developing techniques for assessing the risks associated with new and existing substances (C&EN, Jan. 27, 2003, page 19).
However, the Cap Gemini report notes, although the effect of the new REACH legislation is negative for the EU's chemical industry in the short term, in the long term it may have a positive effect. For example, it may encourage phasing out of some low-volume chemicals because of low profit margins, and it may encourage chemical companies with overlapping portfolios to merge or establish joint ventures to streamline production and reduce manufacturing costs.