Russia slowly punctures German industry
BASF and other companies can get by with less gas, but may move production abroad
The German industrial sector has a problem. Russia’s latest threat to cut gas supplies through its Nord Stream 1 pipeline means big companies like €39bn BASF are frantically scrutinizing how to limit energy use. The chemical giant’s results on Wednesday show flexibility, but Berlin may not like the long-term implications.
In 2020, the energy costs of BASF and the German groups Evonik, of 9,000 million, Wacker Chemie, of 7,000 million, and Covestro, of 6,000 million, represented an average of 5% of their production costs, according to UBS. This year, they will exceed 40%.
Had Nord Stream 1 flows remained at 40% of normal, German industry would only have had to cut its 2022 gas demand by 20% year-on-year, says UBS. Vladimir Putin’s decision to reduce the flows of Nord Stream 1 to 20% creates a bigger problem. If Russian imports drop to zero, German industrial gas use at places like BASF’s giant Ludwigshafen plant may have to be cut in half.
BASF has options. His boss, Martin Brudermüller, reckons that Ludwigshafen could continue to function even if it halved the 48 terawatt-hours of European gas it needed last year, albeit at reduced capacity. The company could pass on some higher costs to clients, and its 73% stake in oil producer Wintershall Dea should be a lucrative hedge. Finally, it can replace ammonia and synthetic natural gas production in Germany with products made outside Europe, using cheaper gas.
However, if Russian gas were to disappear, it could subtract $1.5bn from the group’s $7bn operating profit this year, Berenberg calculates. According to one analyst, the indirect effects of a weaker European economy, which would cause lower demand for chemicals, could double the hit, up to 3,000 million. This figure would be in line with the 40% drop in BASF’s share price since February. The fact that Wintershall has operations in Russia means its treasures cannot be trusted.
The German government, given that it has just spent 15bn to bail out gas importer Uniper, may see the profitability of the chemicals sector as a lower priority. But less ammonia will mean less fertilizer for agriculture and fewer inputs for food industries. And the cost of buying very expensive liquefied natural gas to replace Putin’s flows means that energy costs will remain high.
In the long term, it may be to the pride of German industry to relocate production somewhere with cheaper energy. That makes sense for BASF, which sells three-fifths of its products to non-European customers. For Germany, where the industrial sector accounts for a quarter of its $4 trillion GDP and drives exports, it’s a problem.
