Planning A Comeback

Last year at this time, the economic outlook was dire. Chemical firms were slashing capital spending plans, and most pruned research spending as well. But now, as the global economic outlook brightens, so too have chemical firms’ future-oriented spending plans, according to C&EN’s annual survey.

Fifteen U.S.-based firms say they will ratchet up spending on new plants and equipment by 9.4% this year to a combined $8.3 billion. The improvement marks a turnaround from last year, when the group cut capital expenditures by 27.5% to $7.6 billion, ending a string of double-digit increases that began in 2005.

Seven companies plan a modest 2.1% boost to their research budgets in 2010 to a combined $5.4 billion. And although the increase follows a 3.8% spending rise in 2009, four firms actually cut R&D last year. Two of the three companies that posted increases in 2009 were helped in large part by their purchase of research-intensive businesses: Dow Chemical bought Rohm and Haas, and BASF bought Ciba.

R&D and capital spending don’t guarantee better sales and earnings, William F. Banholzer, Dow’s chief technology officer, tells C&EN. “There’s no one road to Mecca,” he says.

But as the economy improves this year, chemical industry executives expect to enjoy a payoff on their future-oriented gambles. In a recent conference call with investors, Andrew N. Liveris, Dow’s chief executive officer, noted fourth-quarter sales volumes in China were up nearly 60% compared with the year-ago quarter. Volumes were up 30% in India and Russia and 20% in Brazil.

Confident in the long-term business outlook, Dow will boost its R&D budget this year by more than $100 million to $1.6 billion. If all the projects under way are successful, Dow could realize an additional $28 billion in revenues, Liveris says.

Stronger economic activity in developing countries also figured into other executives’ decisions to boost capital investments abroad. “In Asia—and in China in particular—the capital spending increases are to meet demand,” Charles E. Bunch, CEO of chemical and paint maker PPG Industries, said in his fourth-quarter conference call with investors.

The single biggest capital project in PPG’s $300 million budget this year, Bunch noted, is a 60,000-m² auto primer resins plant in Zhangjiagang, China, scheduled to open in 2011. Capital spending in North America and Europe are tied more to cost reduction, productivity, and maintenance projects, he said.

According to C&EN’s survey, the overall trend for future-oriented spending is much brighter than it was a year ago. For the six firms—Cytec Industries, Dow, DuPont, Eastman Chemical, Lubrizol, and NewMarket—that supplied both R&D and capital spending data, combined budgets increased 9.9% to $7.5 billion.

Although that figure is up from 2009, it is down from the levels of 2007–08. The six firms’ combined spending on R&D and capital projects hit their decade high of $8.6 billion in 2008. The group’s future-oriented spending hit a decade low of $5.8 billion in 2004.

Despite the increase in capital spending this year, the ratio of investment in new equipment to investment in research is lower than it has been in some recent years. Budgets for 2010 direct 52.8% of funds to capital projects, well off the decade high of 62.1% in 2008. The decade low was in 2009, when 50.2% of future-oriented funds were directed to capital improvements.

Funding devoted to R&D does not fluctuate as much from year to year. So when the economic outlook improves and capital spending rises, a smaller share of future-oriented budgets tends to go to R&D. This year, 47.2% of future-oriented spending will likely go to research, down from 49.8% in 2009, the decade high. The decade low was 37.9% in 2008.

The number of firms ready to provide investors and the press some insight into future-oriented spending varies from year to year. Last year, as economic circumstances deteriorated, 13 U.S. firms provided insights into their 2009 capital spending plans and six firms provided them for R&D. This year, 15 U.S. firms provided forecasts for capital expenditures and six revealed their R&D plans.

New to this year’s R&D table is BASF. As the business of chemistry is increasingly global in nature, chemical firms have also internationalized their research. At a press conference late last month, Andreas Kreimeyer, BASF’s research executive director, said that in 1988 only 20% of BASF researchers worked outside of the firm’s headquarters in Ludwigshafen, Germany. Today, 40% do, including 1,600 in the U.S. and 300 in Asia.

Like BASF, most U.S.-based chemical firms have globalized their R&D efforts. Dow, for instance, conducts R&D at 41 sites worldwide, including ones in China and India. DuPont has more than 75 R&D locations worldwide, about half of which are outside the U.S. So it makes sense to add BASF, the world’s largest chemical firm and largest corporate funder of R&D, to C&EN’s annual survey.

Budgets often change over the course of a year. Companies surveyed last February expected to cut 2009 capital spending by 25.1%. However, firms participating in C&EN’s survey this year say that as they dealt with a bruising recession they ended up slashing capital spending by 27.5%. In contrast, last year’s group expected to whittle R&D spending by 1.8%. This year’s group says they actually increased R&D by 3.8%.

Of the 15 firms surveyed for their 2010 capital spending plans, 10 plan to increase spending on new plants and equipment, and five plan to reduce it. This compares with just four that increased spending in 2009 and 11 that cut it.

Lubrizol, which plans to double capital outlays to $280 million, says the centerpiece of its plan is a new lubricant additives plant in South China within the Zhuhai Gaolan Port Economic Zone. The Zhuhai plant, announced in 2008, is part of a 10-year plan to increase global additives capacity that Lubrizol placed on hold in 2009.

Many other firms are restoring projects that were postponed because of economic conditions. After cutting its capital spending by 33.9% in 2009, DuPont says it plans to increase it by 22.3% this year to support growth opportunities it believes are now available.

C&EN predicts that the survey group’s capital spending as a percentage of sales will be 5.1% this year, the same as in 2009. The estimate assumes group sales will increase 8.0% in 2010. The ratio hit a 10-year high in 2000, when spending on capital projects reached 6.9% of sales. The decade low occurred in 2004, when the group spent only 4.5% of sales.

Of the seven firms surveyed for their R&D spending forecast, four plan to increase spending in 2010, two plan no change, and one plans a modest budget cut. This compares with four that cut expenditures in 2009 and three that increased it.

Dow plans the largest R&D boost among the group in 2010. Banholzer says the firm has reallocated “a ton of money” from research tied to businesses that don’t have good growth opportunities, such as styrene-butadiene lattices used in carpet backing, to seed and crop protection research. Agriculture is getting additional R&D funding that had been going to now-divested businesses, Banholzer notes.

In 2010, C&EN estimates, the survey group’s R&D spending as a percentage of sales will be 3.8%. The 10-year high was 5.0% in 2000, and the low point for the decade was 3.1% in 2008. BASF is not included in these estimates because 10-year data are not available.

Because inflation inevitably wears away the purchasing power of dollars devoted to research, the $3.5 billion devoted to R&D by the six U.S. firms represents just $2.8 billion in constant 2000 dollars. The inflation-adjusted R&D spending high for the decade was $3.0 billion in 2000, and the low was $2.5 billion in 2003.

Maintaining a commitment to R&D during the economic downturn was a challenge for most chemical firms. Uma Chowdry, chief science and technology officer at DuPont, tells C&EN that “when the economic tsunami hit us in the fourth quarter of 2008 and sales volumes were dropping like a rock, our CEO, Ellen Kullman, made a clear commitment to innovation.”

Despite temptations to scuttle long-term programs as the firm hemorrhaged cash during the downturn, “we stayed the course,” Chowdry says. “You can’t jerk R&D around during up-and-down cycles.”

Owing to cost-containment measures such as freezing travel and dropping the use of consultants, DuPont’s 2009 R&D budget was down 1.1% to $1.4 billion compared with the year before. Like Dow, the firm shifted funding away from its less promising businesses, such as coatings, to agricultural and nutrition businesses, where the growth potential is greater, Chowdry says.

In 2010, DuPont plans a slight increase in R&D spending. Right now, the firm is assessing its R&D portfolio for projects with the greatest potential. “The capital is there,” Chowdry points out. But especially when money is tight, DuPont research managers need to show their projects can be expected to make a tidy profit to continue to receive funding, she notes.

For Dow, the economic challenges for R&D were no less daunting in 2009 than for DuPont, but they were complicated by the addition of Rohm and Haas’s more than $300 million-per-year research organization to Dow’s. Combined, the R&D budgets of Rohm and Haas and Dow were $1.6 billion in 2008. Dow reported that the enlarged company spent $1.5 billion on R&D in 2009.

Banholzer points out that despite the economic downturn, “R&D was actually pretty well protected.” The 2009 budget took into account the elimination of redundant overhead and included some repositioning of the combined organization.

For instance, Dow moved electronics-related research from the U.S. to Asia to be closer to customers. The move led to some “temporary” spending reductions because R&D costs are lower in Asia, Banholzer says. Dow also consolidated Rohm and Haas researchers in Shanghai at a new Dow facility there and sold the nearby Rohm and Haas facility to Dow Corning.

The majority of Rohm and Haas scientists remained with Dow, Banholzer notes, adding that “there was no reduction of scientists or repositioning of labs that Rohm and Haas wasn’t doing anyway.” The combined R&D organization, he says, is down about 200 employees, mostly from attrition, and now has about 7,000 full-time scientists.

Dow’s planned $1.6 billion research budget this year is second only to that of BASF. But Banholzer emphasizes that he’s not in a spending race. “My objective is not to spend more money than anyone else but to make sure I’m more effective than anyone else,” he says.

The recession forced everyone to think differently about future-oriented spending. “If there ever was a year to be shortsighted—and we weren’t—2009 was it,” Banholzer says. The objective in 2010 and beyond, he says, is “to create value for ourselves and our customers.”