Secret Rebates send European Plastics Benchmark above True Cost

Companies do not have to pass the rebates on to their customers further down the supply chain, who are contractually obliged to pay prices based on the higher benchmark.

By Libby George and Karolin Schaps

FILE PHOTO: Pressed plastic bottles are seen at a dumping ground in Uholicky village, near Prague April 10, 2013. REUTERS/Petr Josek

LONDON (Reuters) - An unregulated benchmark used to set the price of plastics in Europe has veered above the true cost in recent years, because of secret rebates chemical companies give each other that disguise the price of the main precursor, four sources familiar with the industry say.

Ethylene, a flammable gas, is the main feedstock used to synthesize the most commonly used plastics, found in the vast majority of all manufactured goods. It is produced in refineries from natural gas or crude oil, as one of the main products of the $400 billion global petrochemicals industry.

When manufacturers buy and sell plastic, a benchmark of the ethylene price is often written into their purchase contracts, to reflect the raw material cost.

But the European index is unregulated and, the sources said, has overstated the actual price for the past four years because it does not take into account the now common practice of firms negotiating rebates.

The sources include one person at a petrochemical company and three people who research the industry.

The actual price companies charge each other for the chemical is secret, and companies tend to offer big clients discounts from the benchmark to reflect economies of scale, local market conditions, or other factors. But those discounts have grown, making the benchmark a less accurate reflection of the real costs.

Companies do not have to pass the rebates on to their customers further down the supply chain, who are contractually obliged to pay prices based on the higher benchmark.

Reuters was unable to assess the degree to which the practice has hurt manufacturers of goods made from plastics. More than 10 companies that buy or sell Ethylene, contacted by Reuters, declined to discuss their pricing, including any rebates they offer or receive.

Most of the sources that spoke to Reuters said they did not believe rebates had made the market unfair. But they say the lack of transparency, and the divergence between the published benchmark and the true price, could create the potential for suppliers to overcharge customers who may be unaware of the practice.

"There's an understanding that this is not a perfect process," said Matthew Thoelke, senior director of olefins and derivatives at analysis firm IHS.

The sources said the petrochemical companies that participate in setting the ethylene contract price while giving or receiving rebates include Europe's biggest, such as BASF, Royal Dutch Shell, Total, and LyondellBasell. BASF, Shell, and Total declined to comment on their pricing. LyondellBasell did not respond to Reuters request for comment.

LEVEL PLAYING FIELD

The benchmark for the price of ethylene used in nearly all European contracts is produced by the Independent Chemical Information Service, or ICIS, which has published its "ethylene contract price" since 1980.

ICIS is now a unit of Reed Business Information. Thomson Reuters, the parent company of Reuters, competes with Reed as a supplier of benchmark prices for other commodities but does not publish a rival index price for ethylene.

ICIS senior editor Nel Weddle said the benchmark, published after confirming agreements with at least four companies who buy and sell ethylene, allows everyone to start on a "level playing field" with knowledge of prices.

However, the figures it uses to compile the index do not include rebates off the benchmark price. ICIS said it is not responsible for collecting information about such rebates, which it called "a common part of any supply or purchase contract".

Although ICIS is the most widely used benchmark in Europe, it is not the only one. A competitor, Argus, publishes a rival index, which also does not take rebates into account. It declined to comment.

Another competitor, Platts, has launched a new rival index which it says will better reflect the true market price by taking into account the rebates.

The sources familiar with the practice said refineries began offering substantial rebates in 2013 to clear their stocks during a period of oversupply of ethylene. But instead of being a temporary measure to deal with local market conditions, the rebates grew after oil and gas prices tumbled in 2014, and have continued to widen since.

The contract price of ethylene has hovered around 850-1,050 euros per ton over the past year, down from a range of 1,200-1,300 euros before oil and gas prices fell in 2014. Rebates now run at more than 100 euros a ton, the sources said.

One of the sources, at a major research consultancy, said his firm's staff use their own contacts at chemical companies to get a sense of the secret rebates. The rebates are now a key to understanding the profitability of businesses in the sector, which is, therefore, harder to forecast solely from public data.

Weddle of ICIS said the company was not aware of complaints from users of its benchmark about its omission of the rebates.

However, last year ICIS conducted a review of its methodology and posted feedback online from some users of the index. One of three respondents whose views ICIS posted wrote that the published prices should begin to reflect rebates.

"Otherwise, the reported contract prices do not reflect the real market situation and especially smaller suppliers and consumers are left in the dark," the respondent wrote. ICIS confirmed that the response was genuine but declined to identify who had written it.

Some in the industry who spoke to Reuters sought to play down the significance of the disparity between the index and the price after rebates, saying the market is competitive enough to prevent customers who rely on the benchmark being overcharged.

While Europe's benchmarks have their problems, "the situation, in general, is fair", said Jose Manuel Martinez, the chief executive of the Spanish oil company Cepsa's petrochemicals business.

NO REGULATION

Unlike benchmarks for crude oil or the major refined fuel products like diesel and gasoline, the ICIS benchmark for ethylene is not formally scrutinized by regulators, as ethylene contracts are not typically traded on securities exchanges.

In the marketing materials for the rival Platts benchmark intended to address the problem by adjusting for rebates, Platts includes a graph comparing the contract price to what it says is its own assessment of the true price, based on the cost of raw materials, economic conditions, and other fundamentals.

The graph shows the ICIS contract price consistently higher than Platts' estimate from 2013 on, with the gap growing wider last year, when Platts estimates the true cost of ethylene bottomed out as low as 650 euros a ton.

Platts says the early indications from its new index have shown large buyers typically receiving rebates of 14-18 percent.

The issue appears mostly confined to Europe, rather than the United States or Asia, which have more liquid markets with higher volumes of spot trade of ethylene, making prices relatively transparent.

"As long as a market is liquid, the players know how to behave," said Cepsa's Martinez.

(Editing by Peter Graff)

(c) 2017 Thomson Reuters