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The South African chemicals industry faces numerous challenges. Whilst none of them are insurmountable, and many provide opportunities for development, they are worthy of note prior to starting business there. These challenges include:

A Water Shortage. South Africa has very limited water supplies, as Patrick Veldhuizen, Senior Manager Optimisation Modelling at Sasol notes, “South Africa is one of the 30 driest countries in the world, and the need to use water more efficiently has never been more urgent. The heavy reliance on water by several key industries, such as pulp and paper, is a cause for concern.”

Whilst the government has made strives to improve the situation, such as the 1998 Water Bill, which managed water consumption with a cumulative charging system. Currently the tariff stands at approximately $1.42 per kilolitre/cubic meter of water. This has resulted in many larger companies, such as Eskom and Sasol installing water recycling treatments.

Cultural Differences. If a chemicals trader is considering using South Africa as a gateway to the continent, then it is worth being aware of the large cultural differences from the 54 countries that make up the continent. As the KPMG report called, ‘African Chemical Industry: A hidden Opportunity?‘ advises, “Developing a continental strategy is difficult; infrastructure and education are a long way short of minimum global standards; legal, political and regulatory regimes remain complex and business practices in many instances are not transparent. It is therefore wise to take a country-by-country and segment-by-segment approach to understand the market opportunity.”

Skilled Labour Shortage. Like much of Africa, the education system is far below global standards. This has created a skills gap for the most technical positions. Furthermore, the rebalancing of society in post-apartheid South Africa and positive discrimination has driven many white South Africans abroad. Whilst the incredible growth of the chemicals industries in the Far and Middle East and South America have also acted as a draw for engineers looking for better salaries overseas in boom areas, rather than the stagnated condition of the South African economy.

As Hilton Lazarus, who works for global market analysts at IDC as Head of Chemicals and Allied Industries noted in a recent report, “One of the main challenges is certainly the skilled labour force shortage. This issue together with the presence of strong players on the market makes it hard for smaller companies to compete and ultimately slows down the development of the industry.”

This is a view supported by Prof. Thokozani Majozi of the University of Witwatersrand, Johannesburg who writes, “Alongside its successes and optimism, the South African chemicals industry faces many challenges. Foremost among these is the shortage of engineers in general and chemical engineers in particular. Currently, the South African population can claim only one engineer for every 2,114 citizens, with chemical engineers constituting no more than 10% of all registered professional engineers in the country. Compare this to the workforce in other developing countries, such as India, South Korea and China, which has one engineer for every 200 people in average, and South Africa’s staffing picture looks rather unfavourable.”

Raw Material Supply. Besides large quantities of coal, diamonds and gold, South Africa has limited chemical raw material sources, and is largely dependent on imports to meet production needs. Whilst this can provide business opportunities for traders, there are still many hurdles to pass for smooth input supply, as Dilshaad Booley, Chemicals Industry Research Specialist at Frost & Sullivan notes, “Delays at ports when importing chemicals, and strikes, add to the costs of chemicals, which are, in most cases, absorbed by the manufacturer to remain competitive, resulting in lower profit margins,”

Lazarus agrees stating that, “The chemical industry is a capital intensive one and it is highly affected by the costs of the raw materials, a particular problem in South Africa where local sources are few and logistics challenging.”

Currency Fluctuations and Growth. Business consultants BMI’s ‘South Africa Petrochemicals Report’ also highlights numerous challenges ahead, stating, “The low value of the rand, coupled with low oil prices, has not helped lift local petrochemicals output, which will track poor GDP growth figures in the near term. In 2015, construction is set to grow 3.5% while the automotive sector will rise just 1%, growth rates that represent a stand-still for a developing economy and will undermine consumption of polymers and rubbers.“

This lack of domestic demand is also mentioned by KPMG’s ‘African Chemical Industry: A Hidden Opportunity?‘ which reports that, “South African chemical producers are currently facing poor domestic demand and a volatile exchange rate that hampers exports. The country’s plastic and basic chemicals output declined throughout 2013. Chronic problems include ongoing uncertainty about the outcome of wage negotiations, potential electricity supply shortages and slower growth in consumer spending that is undermining confidence within the petrochemicals sector. Nevertheless, domestic producers have benefitted from both a weak rand, which has sustained competitiveness, and relatively cheaper costs when factoring in transportation of imports, which has helped maintain current production levels.”

There are indeed, numerous challenges ahead of the industry in South Africa that have drawn many investors to the boom regions of the Far and Middle East. So why are others still investing in South African chemicals? Are there opportunities for growth given the underdeveloped condition of much of the country?

Strangely, one of the key potential advantages of the South African chemicals industry arises from one of its disadvantages. For it is often thought that by having such much undeveloped land and neighbours whose economies are largely agricultural, means that the market for chemical products is small. However it also means that there is significant room for growth and development. This is especially true in the agrochemicals sector, as a recent KPMG report entitled ‘African Chemical Industry: A Hidden Opportunity?’ makes clear. “Demand for chemicals in the agriculture subsector will continue to grow based on several factors. Africa has 25 percent of the world’s arable land and 60 percent of the world’s uncultivated arable land. Africa’s current low crop yields per hectare represent significant growth opportunities and even with existing cultivated land, a doubling of cereal yields would turn Africa into a major food surplus region. In addition, the agribusiness value chain including packaging and processing will add more opportunities for chemical traders.”

Whilst recent years have been difficult for the South African economy, which has resulted in stuttering growth for the chemicals industry, many experts believe the future is generally bright, and predict growth in most areas. As Patrick Veldhuizen, Senior Manager Optimisation Modelling at South African chemicals giant Sasol notes, “The chemicals and petrochemicals industry in South Africa is expected to grow by about 2-4% per year during the coming decade, and the commodities and specialty sectors are expected to grow as well. While most of this growth will stem from innovation and operational efficiency improvements, the growth in petrochemicals, in particular, is likely to be driven by the demand from end-user industries, such as paints and coatings, automotive, mining, and construction, which procure large amounts of chemicals from domestic refineries and manufacturing plants.”

Veldhuzien also believes that government legislation is helping the chemicals industry, although in a different way and for a different purpose. He notes how the recent Clean Fuels II regulations will aid demand for fuel additives. The legislation, which is due to take effect in 2017, “mandates fuels with reduced sulphur content of 10 ppm”. Additionally, the government’s ‘White Paper on Renewable Energy’ is due to become law within the next two years. It will require all diesel fuels to have 5% biodiesel content, and ethanol to have between 2% and 10% bioethanol.

Imposing such laws on a large country that is heavily dependent on automobiles for transport is certain to have repercussions. Many industry analysts believe that whilst it may drive up delivery and energy costs, the benefits of encouraging demand for fuel additives and biofuel production outweigh the disadvantages.

Others believe that focusing on biofuels may draw research funding away from oil based technologies. As stated in a report by international consultants BMI’s entitled ‘South Africa Petrochemicals Report’ which warns that, “The drive toward alternative fuels production risks neglecting the much-needed expansion of crude refining capacity that is essential for raising local naptha feedstock output for use in the petrochemicals industry.”

Whilst the laws were primarily enacted to assist the development of the farming industry, it is hoped that it will also provide support for the chemicals market.

The government is also providing further legislative support in the chemicals industry stronghold of ZwaZulu-Natal. Here it has helped to develop the public-private partnership of the Durban Chemicals Cluster, with the aim of coordinating industry development and establishing mutual competitive advantages between local businesses, as well as helping overcome generic problems.

Veldhuizen also notes that the government is promoting the development of domestic pharmaceuticals, “in part to bolster the domestic companies that provide raw materials to this sector.”

Whilst these initiatives are far from unique to South Africa, it is an acknowledgment of the importance of the chemicals industry to the country’s well-being and an indication that efforts must be made to get growth in this vital sector. Although the question remains: will it be enough?

One key advantage that South Africa does have, although it has yet to start actual extraction, is shale gas.

Successful taping of this resource could be the ignition spark that the region requires, possibly turning around their fortunes, much as the American chemicals industry has done in the last decade. As Prof. Thokozani Majozi of the University of Witwatersrand, Johannesburg states, “The recent discovery of shale gas deposits in the country’s southern Karoo basin [is] likely to be a game changer for the economy. South Africa is in the top ten countries with the largest technically recoverable shale gas resources.”

The resources are significant, with the United States Energy Information Administration’s June 2013 report ‘World Shale Gas Resources: An Initial Assessment’ estimating that there are 390 trillion cubic feet to be extracted. The Petroleum Agency of South Africa is proceeding with processing Exploration Licences, and work is expected to begin as soon as early 2016.

Once the true amount and quality of the gas is known, the full impact of this discovery will be felt, not only in the region, but with significant repercussions on prices worldwide.

Today, the South African chemicals industry is still heavily dependent on coal for both energy and raw material supplies. It has few major raw material deposits or access to ores and rare earth minerals, except for its huge gold and diamond deposit

This general lack of supply makes the industry reliant on imports for production, whilst its coal reserves have also developed the industry in a specific way. A fact noted by Thokozani Majozi of the University of Witwatersrand, Johannesburg, who says, “The abundance of coal in South Africa – 92% of the coal consumed on the African continent is produced in South Africa – has fostered an economy largely dependent on this fossil fuel. The petrochemicals sector in South Africa is built on coal gasification. Additionally, more than 95% of South Africa’s electricity is generated by burning coal.”

He continues by noting the importance of petrochemicals in the industry, stating, “In South Africa, petrochemicals comprise about 55% of all chemicals produced.”

Such a reliance on one source of material for energy and chemical material may be a cause for concern, but perhaps more worryingly, in the modern world, is its distance from major markets. South Africa is a long way from America, Europe and the Far East, whilst its neighbours are poor, with largely underdeveloped economies. Whilst this does mean that the country is in a position of production leader in Africa, currently its producers are reliant on domestic demand to maintain growth.

Recently, this has caused negative expansion, as home markets have stuttered. As a report by industry research specialists, BMI Research states, “The South African petrochemicals industry is in recession and it could take at least two years before returning to growth. Key petrochemicals sectors are flat lining in a difficult operating environment. The sector is the worst affected area of an economy that is enduring sub-2% growth and falling competitiveness.” The report continues to outline the severity of the decline, which has hit rubber and plastic production particularly hard. “In the January-May period of 2015, basic chemicals declined by 1.8% year-on-year, while plastic fell 3.8% and rubber declined 7.1%. The decline in plastic and rubber output came after a poor 2014 when the rubber index fell 6.9% and plastic fell 3.1%. The factors causing the decline include poor domestic market performance, lower international petrochemicals prices and rising costs of inputs, including raw materials and labour”.

Despite these problems, there is still a thriving industry with a diverse range of production, as this chart produced by South Africa’s Small Enterprise Development Agency showing percentage share of chemicals production by sector in 2011 shows.

These statistics are supported by South Africa’s own Ministry of Trade and Industry, which noted in a recent report that, “The synthetic coal and natural gas-based liquid fuels and petrochemicals industry is prominent, with South Africa being the world leader in coal-based synthesis and gas-to-liquids technologies.” The report then goes on to highlight a problem facing the industry as a whole, as it states that, “The South African chemicals sector has two noticeable characteristics. Firstly, while its upstream sector is concentrated and well developed, the downstream sector – although diverse – remains underdeveloped.”

Much of this underdevelopment is caused by limited funding for research. The government has many social problems to overcome to develop the country as a whole. Years of racial segregation placed many on the poverty line, with slum dwelling and poor education and health care. Whilst the nations limited financial resources focus on returning a balance to everyday standards, there is little money left to fund advanced product development. Instead, it is left to multinational corporations to establish the nation’s intellectual competitive advantage.

However, as Dilshaad Booley, Chemicals Industry Research Specialist at Frost & Sullivan notes, foreign companies are not always willing to develop products for a country’s benefit. She writes, “Currently, there are limited research and development activities in the local [South African] chemicals industry. [Instead] technological advances are primarily driven by multinational corporations that want to maintain their global brand image and standards, which results in these corporations adopting foreign technologies, thereby advancing the local chemicals manufacturing sector.”

Worse still, Booley continues by noting the sluggish growth in the South African economy and the knock on effect this is having on chemicals industry expansion. “The South African chemicals industry offers major input materials, such as solvents and polymers, to the manufacturing sector. But as there has been slow growth over the past two years, the sector is expected to continue being a slow-growth market for the chemicals industry.”

Whether the South African chemicals industry can recover without a dramatic increase in domestic demand is hard to tell. But if local demand does not recover, then the industry must surely look to export, if it is to survive. But what competitive international advantages does the industry have to expand its export market?