In this issue...

• Chemical Industry News
  • Hydrogen Fuel Cells: The bio-based product ethanol is opening new areas for research in hydrogen fuel cell technology. Read more.
    
  • Energy Consumption: Business' domination in energy consumption, with everything it implies in terms of exposure, risk, responsibility and reputation, will continue as organizations plan for growth and further globalization. Read more.
    
• Chemical Industry Overview: As the chemical industry matures, how will it respond to trends and disruptions? Read more.
  
• Commodity Report: It is imperative that the chemical industry increase the sophistication of its procurement processes. Read more.
  
• Announcements: The ISM Chemical Group announces its Fall Strategic Sourcing Summit and Showcase. Read more.
  
• Additional Resources: Check out these links to additional resources on the ISM Web site. Read more.
  
• Contact Us about ISM eDigest: Chemicals
  

Chemical Industry News

Hydrogen Fuel Cells

Ethanol to Power the Future of Hydrogen Fuel Cells

Chemical organizations and supply managers working diligently to advance hydrogen fuel cell technology may have found an answer in ethanol. Although availability issues and storage expenses initially weakened hydrogen's potential, the bio-based product ethanol is opening new areas for research. With the potential of hydrogen fuel cells to power automobiles and reduce damaging effects on the environment, many industries could benefit from this technology.

Hydrogen fuel cells reduce pollution by emitting water vapor instead of hydrocarbons, nitrogen oxides and carbon monoxide. However, the prevalent method of producing hydrogen from hydrocarbons, though economical, creates pollutants at the manufacturing site. Al Hester, analyst for Technical Insights, says that biomass material-based fuel cells such as ethanol are a better solution to power fuel cells because hydrogen is expensive and dangerous to handle. "More research should be devoted to ethanol because it is environmentally friendly and based on renewable resources," he says.

Conversion of biomass materials such as ethanol into hydrogen is a cost-efficient method to power fuel cells. Researchers believe that inter-metallic compounds could be used beneficially in fuel cell electrodes to oxidize ethanol. These materials are not alloys but have ordered structures in which atoms are very specifically arranged.

The need for cheaper and more efficient means to power fuel cells has resulted in extensive research investment. For instance, the U.S. Department of Energy (DOE) has awarded Cornell University $2.25 million over three years to devote research efforts to cells based on fuels other than hydrocarbons, including ethanol. Research must also resolve technical problems in developing systems that can handle the explosive gas. While safety is a non-issue when considering ethanol in fuel cells, the challenge will be to reduce the cost of producing ethanol from corn and increase tax advantages so that ethanol can compete with fossil fuels.

For more information about biomass energy, visit the Yahoo Directory Web page for links on this subject.

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Energy Consumption

Business Use Accounts for More Than Half of U.S. Energy Consumption

U.S. organizations are the largest consumers of energy, according to a report released in April by the Conference Board. This could prove to be a Catch-22 during a severe energy crisis — when business may become both the victim and the scapegoat for rising prices and energy shortages.

Charles J. Bennett, senior research associate and co-author of the report with Meredith Whiting, senior research fellow for the Conference Board, says that business' domination in energy consumption, with everything it implies in terms of exposure, risk, responsibility and reputation, will continue as organizations plan for growth and further globalization. "The phrase 'fueling the nation's economy' is not just a metaphor," says Bennett. "While rarely acknowledged in the media, manufacturing and commercial activities use more energy than any other category of energy consumption, including transportation and residential heating and cooling appliances."

The report is based on a survey of 103 large U.S. organizations. When asked to rate the overall importance of energy to their business, more than 80 percent rated it either very or extremely important. Energy is an essential commodity for businesses and, in some ways, is much like other commodities, although energy has a higher public profile because of its relationship to key environmental and geopolitical issues.

Perhaps the most significant unknown aspect of the future of energy is the evolving public concern for and policies regarding climate change and environmental quality. Although variations in energy management depend somewhat on the type of business and its overall dependence on energy — measured as a percent of operating costs — they generally are not consistent along those lines, says the study. A variety of priorities and management approaches occur across sectors.

The Changing Energy Scene

Despite quite different circumstances in other parts of the world, energy in the United States has long been a relatively low-cost and generally abundant business commodity. But now, especially for U.S. businesses, traditional assumptions of abundant supplies and low costs are threatened by more frequent and more varied crises, ranging from prolonged regional blackouts to price spikes and potential supply shortages. These events are primarily due to an aging distribution infrastructure or actions by environmentalists and governments.

The study found:

• Oil is the backbone of the transportation economy and remains abundant but very unevenly distributed. Bob Ebel, energy director for the Center for Strategic and International Studies, says that much of the United States' future petroleum supply will come from politically unstable regions and countries. Recent unrest and conflict in key oil-producing countries such as Venezuela, Nigeria and Iraq have contributed to record high oil prices in the United States and elsewhere. At the same time, developments in oil exploration and recovery technology continually push back the date on which shortages are anticipated. The situation is further complicated by the rapid increase in demand as developing countries become more energy-intensive.
  
  
• Natural gas prices in the United States have increased dramatically, with little immediate relief in sight. The decline in U.S. manufacturing jobs and competitiveness in some industrial sectors is increasingly attributed to this price rise. Global supplies are abundant and will become more readily available. Many of the major consuming nations (e.g., the United States), however, do not have sufficient supplies to meet demand growth (gas use is expect to double globally by 2030). Improved liquefied natural gas (LNG) transportation and storage technology will undoubtedly ensure availability, but prices are expected to remain high. Many of the leading sources of LNG are located in the same politically troubled regions where oil is abundant, and proposed developments of some LNG facilities in the United States have encountered "not in my backyard" resistance.

A relatively small number of survey participants (just under 12 percent) categorize energy management as primarily a strategic business issue, while more than 37 percent consider it to be an operational one, and 50 percent consider it to be both. "This perhaps reflects the idea that present use of energy is largely an operational matter, whereas future energy use may be more of a strategic matter that will require significant planning and investment decisions," concludes Whiting. For more information from this study, visit The Conference Board Web site.

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Chemical Industry Overview

Growing Out of Maturity: The Chemical Industry's Struggle to Compete

The chemical industry is undergoing a long-term fundamental change in how it does business. Disruptions such as mergers, acquisitions, globalization, higher operating costs and new technology and products have become a way of life, and industry players should plan for them to continue. While the chemical industry usually can't control all the factors that cause disruptions, it should learn to plan for them. By building adaptive business processes that transform the way the industry operates, the industry can achieve increased performance using current assets and increased growth through new product introductions.

The Move Toward Mergers and Acquisitions

Chemical companies grew throughout most of the 20th century by inventing new products and services their customers wanted. Sometimes these products created entirely new markets, like plastics. However, when growth slowed as certain segments matured, companies turned to other growth strategies.

In the 1960s, the largest chemical companies in the United States were DuPont, Union Carbide, Allied Chemical, Monsanto, Dow and Hercules. In the 1980s, mergers and acquisitions became a favored strategy for growth. This trend continued during the 1990s and up to today. Indeed, only Dow and DuPont survive today as large, U.S.-based chemical companies. Mergers and acquisitions, shutdowns and relocations have taken their toll. In addition to Dow and DuPont, the 15 largest chemical companies include those based in Europe, the petrochemical divisions of the major integrated oil companies (ExxonMobil, BP, Shell and TotalFinaElf), three Japanese companies and Huntsman.

Has the merger and acquisition activity been a successful strategy? Overall, the results have been disappointing. Business magazines like Fortune and BusinessWeek have demonstrated that 70 percent of mergers and acquisitions failed to meet the stated financial objectives, and 50 percent of them failed outright. Entering the 21st century, chemical executives face new growth challenges. With the trends of mergers and acquisitions and globalization having run their course, many are asking, what's next? Over the past 50 years, chemical growth rates have fallen significantly, from nearly double the gross domestic product (GDP). Over the same period, chemical company stock values dropped from price-to-earnings ratios (P/Es) of 15 to P/Es of 7 to 8 as investors asked where innovation was to be found.

The Chemical Industry Reaches Maturation

These developments have not been unexpected. In the early 1980s, Dow chairman Earle Barnes was giving speeches about how the chemical industry was maturing much as the railroad industry had, and he noted the similarities to the Russian economist Nikolai Kondratieff's Long-Wave Cycle theory. That theory details how leading industries reach maturity and what usually occurs once they do. Kondratieff's central thesis predicted capacity rationalization and industry consolidations. His thesis has proven true in the U.S. chemical industry, as the commoditized chemical business has moved overseas to areas where feedstocks and operating costs are cheaper. In fact, the American Chemistry Council recently announced that last year, the U.S. chemical industry's eight-decade run as a major exporter ended in 2003 when a $19 billion trade surplus in 1997 became a $9.6 billion deficit. And as mentioned above, one in every 10 U.S. chemical-related jobs has disappeared over the last five years.

The Future Lies With Science and Technology

Unfortunately, these developments are not unusual for a maturing industry. But all is not lost. The foundation for a new transformation of the chemicals industry is in place, and many see major changes occurring even today through science and technology.

Sciences. The new chemical industry era will be based on new technology, focused on the life sciences. In 2001, the U.S. government reported that the chemical industry spent about $31.5 billion in research and product development, with the largest share in life sciences. In fact, job layoffs over the past years would have been worse if not for jobs gained in the U.S. pharmaceutical industry. But R&D dollars are competing with costs for environmental compliance and higher-payoff, market-oriented projects. Not too long ago, DuPont Chairman Chad Holliday spoke about DuPont's 200-year history. He described the three eras of DuPont since 1802 — explosives, chemicals and biology — confirming the fact that biotechnology has come to the fore as a viable foundation for the chemical industry. The past distinctions between chemical companies, pharmaceutical companies, agricultural chemical companies and life sciences companies are blurring significantly.

Technology. Chemical industry players have pursued two major themes for the past decade — cost reduction and globalization. Though both themes have been crucial for companies operating in the slow economic environment of the early 2000s, they seem to have run their course as central strategy elements. The hope for the chemical industry continues to be the benefits of information technology. Transforming business processes and systems to employ information technology to its fullest extent is the most challenging — and most promising — development for the industry in the last 15 years. U.S. government studies of the chemical industry's increasing dependence on IT and Internet-based e-commerce report that industry spending on IT reached $9.8 billion in 2001, a 67 percent increase since 1990. Chemical sales on the Internet in 2001 totaled $14.8 billion, more than double the amount from 2000. The government projects e-commerce sales to reach $150 billion by 2006, approximately

As the government figures indicate, technology's potential to link technology and business processes is offering great hope to the chemical industry, offering shareholders improved performance, companies the adaptability to deal with disruptions and chemical executives the opportunity to return to their historical strength — internal development of new products. Chemical company CEOs and CFOs often talk about their companies' "Vitality Index," the percentage of future revenue that will come from totally new products. In five years, most executives want 20 percent to 40 percent of their revenue to be coming from new products. Achieving this goal requires a much higher batting average than the industry has demonstrated in the past.

Following the Lead of Other Industries

This goal is not unrealistic. It is possible for chemical companies to engineer real-time, integrated operations with existing and emerging technology. While this occurs, chemical companies must follow the lead of other industries, such as the airline and financial services industries, which have been profiting despite commoditized prices for basic services. Chemical companies will find there's no substitute for transforming people, processes and technology to address competitive business realities. And as in other industries, chemical companies will come to realize that their customers are their lifeblood. An extremely important part of the product development cycle, customers — as well as sales/marketing people — can contribute as many good ideas on product mixes as scientists and engineers. Combining the skills and experience of these groups can result in innovative products.

Thus, the chemical industry has reason to be optimistic, despite trends and disruptions that are inevitable in maturing industries. The question is whether the industry is ready to accept the new reality.

By Calvin Cobb, Ph.D., vice president and general manager for the Global Hydrocarbons Consulting practice for Invensys, Houston. To contact the author or sources mentioned in this article, please send an e-mail to author@ism.ws.

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Commodity Report

Price of Natural Gas Requires Sophisticated Procurement Plans

It is bad enough that natural gas — a major feedstock for polymers and other chemicals — is second only to electricity in price volatility. But this volatility coupled with recent price increases (average prices have roughly doubled over the past five years) can add up to calamity — and arguably it has. For the chemical industry, the price of natural gas is particularly critical. Many other industries use natural gas specifically for heating and process load and often have energy alternatives, but the chemical industry has few or no viable alternatives to gas as an ingredient in fertilizers, plastics, resins and more. As a result of natural gas price volatility and increases, one in 10 chemical-related jobs has been eliminated over the past five years.

What Is Behind the High Prices?

The heart of the answer to high natural gas prices is a lesson taught in any Economics 101 course — supply and demand. Consider this: The average daily consumption of natural gas in the United States has increased by 12.6 percent from 1976 through 2002, for a myriad of reasons. One is the economy's growth and its impact on all consumption. But consumption growth has exceeded that which can be attributed solely to the economy. A shift toward more environmentally friendly fuels has added a "green premium" to the price of natural gas. This is particularly true in the electric generation industry, where penalties have been placed on excessive emissions. (Ironically, with gas prices so high, some of the newer gas-fired plants are less economical than coal-fired units with emissions "scrubbers" attached.)

And while demand has risen significantly, neither supply nor the ability to deliver it has kept up. Natural gas production is highly correlated to the volume of "proven reserves" (i.e., those volumes of natural gas that are highly likely to be produced), and proven reserves have net declined from 1976 through 2002. The simplest explanation for this trend is that most of the "easy to produce" gas has been discovered, forcing companies to go farther offshore and to drill deeper. But even if reserves and production were not a concern, the amount of gas that can be moved through the network of pipelines (pipeline capacity) would be.

Today approximately 278,000 miles of natural gas transmission pipeline serve the U.S. market, a number that has not increased anywhere close to demand because pipelines are very cost intensive and usually face extraordinary environmental, regulatory and right-of-way issues. Thus, whether a result of insufficient production, pipeline capacity or both, many U.S. markets suffer from an insufficient supply of natural gas to dampen price volatility and reverse the upward trend.

What Steps Can the Chemical Industry Take?

Where natural gas is being used as a fuel for heating and equipment, fuel diversification has provided significant relief. For example, companies with equipment that can switch to burn heating oil instead of gas may install tanks of oil for use when natural gas becomes too expensive. This allows a company the option to sell gas back to their supplier at a profit while switching to the less expensive alternative fuel.

But, as stated before, chemical companies largely demand natural gas as a feedstock rather than a fuel, and alternative sources may not exist. When this is the case, it is imperative that the chemical industry increase the sophistication of its procurement processes. Recent downsizing in the energy trading industry has made this possible. The pool of unemployed natural gas marketers can bring skill sets that were previously too expensive for chemical companies to tap. As a result, companies are developing procurement plans that can stabilize natural gas costs for longer periods of time, facilitating the management of budgets and working capital requirements.

Chemical companies are also aligning product costs more closely to revenues. For example, some companies' product prices are not closely linked to the current cost of production, thus a sudden spike in natural gas prices can reduce or even erase profit margins. When sales prices track changes in feedstock costs more closely, risk is transferred to the customer and margins are preserved. And of course, a savvy marketing department could offer fixed-price chemicals to any customer who will commit to a longer-term contract, and the supply manager will "hedge" that fixed price by locking in the cost of natural gas for the same period.

By Dunham L. Cobb, president of the risk management consulting firm Dunham Cobb & Associates, Inc., Stuart, Florida. To contact the author or sources mentioned in this article, please send an e-mail to author@ism.ws.

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Announcements

2004 Chemcial Group Officers

The Chemical Group for the Institute for Supply Management™ announces the following officers for 2004:

Scott Herrington, Chair, Nufarm Specialty Products
Joseph Branson, 1st Vice Chair, BP Chemical
Patrick Hurd, 2nd Vice Chair, Georgia Pacific
Vaughn McCoy, Secretary, Eastman Chemical Company
Roland Harris, Treasurer, Texas Molecular

Upcoming Event

Strategic Sourcing Summit and Showcase
Meadowlands Sheraton Hotel, East Rutherford, New Jersey
October 6 & 7, 2004

An event presented through a partnership between the Pharmaceutical Forum and the Chemical Group of the Institute for Supply Management™, and the Drug, Chemical & Associated Technologies Association (DCAT).

Looking for an event with in depth analysis from Wall Street on the chemicals and pharmaceuticals markets, sourcing perspectives from major chemical producers and market outlooks from chief purchasing officers? The Strategic Sourcing Summit and Showcase provides a variety of topics to inform supply managers in the chemical field about the latest economic and sourcing trends.

This joint ISM/DCAT program is administered through the DCAT organization. For additional information on these programs, registration, e-brochure and hotel information, call 1-800-640-DCAT or visit the DCAT Web site.

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Additional Resources

A Wealth of Information on www.ism.ws

Visit ISM's Web site, http://www.ism.ws, for more supply management resources. Several published articles, conference presentations and reference materials pertain to supply managers in all industries. Here are some items that might be of interest:

• Has your organization purchased chemicals through a consortium? Learn about group buying models, critical success factors, typical supply categories and an initial strategy for consortium buying. Find out more in the 2003 Conference Proceedings (PDF) article Consortia, Buying Groups and Trends in Demand Aggregation, by Keven Gray.
  
  
• Interested in becoming a member of the ISM Chemical Group? Scott Herrington, the group's national chair, invites you to browse the Chemical Group's home page for information about membership and industry resources.
  
  
• With forecast data never 100 percent accurate, how can chemical buyers achieve a balance between the demand and supply needs of the organization? Learn how in the article Demand Management: Creating Balance Through Collaboration.
  
  
• Recycling can benefit both the environment and the bottomline. Authors Jan Canterbury and Pamela Mathis describe a free tool that includes a user's guide, an input sheet, a greenhouse gases (GHG) output sheet, an energy output sheet and a unit converter. Learn more about recycling and the ReCon tool in the article The Bottomline on Buying Recycled.

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Contact Us

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