“Blues” is a soulful word for unhappiness typically caused by life’s trials and tribulations. More so, “blues” is an American musical genre that is rich in themes of loss and longing. Both interpretations might aptly be applied to Bahrain's Arabian Sugar Company (ASC).
This large stand-alone sugar refinery came on stream in February 2014. Its owners saw big potential to fill a yawning supply gap in the Middle East and North Africa (MENA), with Bahrain’s local consumption only around 50,000 tonnes a year. Destinations including Saudi Arabia, Kuwait and Qatar were targeted. However, the refinery stopped production in October 2017 due to a lack of working capital to continue operations. The refinery was widely reported to have struggled to recoup start-up costs and had clocked-up large debts, including energy expenses. All the while, the primarily Gulf-based lenders which financed the refinery were hoping for it to boost throughput and capture more market share in the region.
In May this year there were reports that a Saudi investment company and another partner were looking to buy the refinery. However, this buyer interest seemingly has not yet resulted in a deal and a restart to refinery operations. The Bahrain Sugar Refinery “Blues” seemingly still plays strong. At least for the financiers the blues will continue until a buyer is found, but how likely is that in today’s world sugar market environment?
Transitioning from the Blues to Rock ‘N’ Roll?
Is there a real possibility of transitioning from the “Blues” to “Rock N Roll”, where the refinery is sold to new investors and operates at a profit? Several key stumbling blocks are evident. Prudence is required in any decision to invest and restart operations. A potential investor would need to be fully aware of and be fully briefed on the key factors determining potential refined sugar sales and the level of remuneration from the refinery both locally and regionally.
1. Key Competitors and Market Competition
There is significant competition in prospect for the Bahrain sugar refinery. In addition to the presently inactive Bahrain sugar refinery with an estimated 600,000 tonne capacity, there are three other large sugar refineries in the surrounding region. These are: the large Al Khaleej Refinery, Dubai, UAE (2 mln tonnes) and the Savola refinery – United Sugar Company, Jeddah, Saudi Arabia. (1.5 mln tonnes). We also note significant sugar refining capacity in other countries in the broader MENA region – in Algeria, Egypt, Morocco, Tunisia and Yemen. There is also the Etihad refinery in Iraq which has a capacity of around 1 mln tonnes annually.
There are large standalone refineries in countries with low energy costs, located near port facilities, capable of trading and storing large volumes of raw sugar, mainly of the VHP form, and ultimately supplying refined sugar to their own fast growing domestic markets, and, at times, re-exporting to neighbouring countries.
The reliance of each refinery on re-exports to neighbouring countries varies, depending on the size of their domestic market and the margins earned from local market sales. Those destination refineries best placed to compete with other refineries within the region (and with EU exports) are those that sell most of their white sugar in protected local and regional markets; benefit from tariff escalation (i.e. a higher tariff on whites over raws); and have access to cheap energy for refinery operation.
There has also been considerable investment in new refining capacity. Closest to Bahrain is the new refining facility in Saudi Arabia’s Yanbu. Morocco’s Cosumar will start production at that refinery before the end of 2019. The refinery will have a capacity of 850,000 tonnes of refined sugar to be commercialised in the Saudi and regional markets. There is also a large refinery being constructed in Oman. In September 2018 it was reported that after a roughly five-year-long hiatus, construction work on the Sultanate’s first sugar refinery project was set to commence at Sohar Port and Freezone. Total investment in the venture is estimated at USD250 million. Project plans, as revealed by the promoters back in 2013, envisage a capacity of 700,000 tonnes per annum of refined sugar in the first phase, ramping up to 1 mln tonnes per annum within three years. Qatar was also reported to be building a sugar refinery in a bid to avoid supply disruptions after neighboring Gulf Arab states severed economic and political ties with Doha in 2017. In normal trading conditions, building a refinery in Qatar would make little commercial sense because of depressed sugar prices, surplus world stocks and the presence of regional refineries that could provide supplies.
Not only will potential investors in Bahrain Sugar Refinery need to understand the possible competition from other regional refiners, there is also the more recent threat of EU white sugar exports. This was revealed with the abolition of production quotas from October 2017, which saw a surge in production (more recently moderated), a ramp-up in export volumes, and some displacement from MENA markets of re-exported sugar from regional refineries.
1. White Sugar Premium
The white sugar premium is one of the main determinants of immediate profitability of refining at destination. The ISO nominal white sugar premium - a widely accepted indicator - shows the 3-year monthly average standing at USD80/tonne. Values have significantly varied about the average, reaching as much as USD105/tonne early in 2010 but touching less than USD60/tonne in mid-2017 and sub USD50/tonne since June this year. The premium averaged much higher in previous years, such as during January 2010-August 2013 when it ranged between USD90/tonne and USD160/tonne. Ascertaining the outlook for the white sugar premium remains an essential component of any investment decision to acquire and operate Bahrain’s sugar refinery.
2. Raw Sugar Procurement
Raw sugar for refining in the immediate region is typically sourced from Brazil. For instance, both Saudi Arabia and the UAE sourced over past years almost all of their raw sugar imports from Brazil: Saudi Arabia - 99 % from a volume of 780,000 tonnes (2015-17) and UAE - 96% from an average volume of 880,000 tonnes (2015-17). Both nations also import considerable volumes of white sugar from Brazil, India and the UAE amongst others.
In this regard the prospects of Brazil remaining the global dominant exporter of VHP raw sugar is crucial. This will in part depend on the extent to which a growing cane supply could be diverted away from sugar toward ethanol production. The RenovaBio is a new National Biofuels Policy which aims to expand the production and use of biofuels in Brazil in order to reduce greenhouse gas emissions from the transport fuel sector. It is being hailed as the most significant biofuel policy change in the history of the sector since the Próalcool programme was implemented in the 1970s. Some analysts expect a higher allocation of sugarcane to ethanol next decade, suggesting a reduction in Brazil’s world market share for sugar exports. Even so, any easing in the exportable surplus of raw sugar from Brazil could well be met with boosted production from Thailand.
In terms of procurement costs, the cif price of sugar procured from Brazil and Thailand will directly reflect world market prices which today vary substantially according to global-supply demand fundamentals as expressed in the two relevant futures contracts ICE #11 New York for raw sugar and the ICE London white sugar futures contract.
World market prospects for both price and supply over the coming 3 to 5 years are paramount. Other key factors at play include exchange rates and also ocean freight rates for both inbound and outbound cargo.
3. Sugar Consumption Prospects
The accurate forecasting of sugar consumption growth can be a valuable tool for long-term investment decisions on the supply side. Forecasting sugar consumption growth can be a complex task that involves the measurement of the relationship between sugar consumption and several macro and microeconomic variables such as income growth, population growth, prices, social indicators such age structure of the population, level of urbanization and consumption preferences, as well as availability and prices of substitutes and import dependence, among others. Even so, at the global level the two key forces for rising consumption have been rising world population and income growth: people consume more sugar as their income rises. This also means people’s sugar consumption habits change with different income levels.
Any investor in Bahrain’s sugar refinery would need to ascertain the extent to which consumption growth may be slowing in the region due to the asserted links between sugar and health issues and the increasing incidence of governments moving to constrain sugar production though public policy such as sugar taxes. To the extent possible investors would also look to understand industrial vs tabletop consumption levels and trends, and the potential for alternative sweeteners – intensive sweeteners in particular – to cannibalise sugar consumption; particularly in the carbonated soft drinks sector.
As is evident in the above graphs, sugar consumption has grown strongly in the two sample countries – Saudi Arabia and the UAE – with annual average growth of 3.2% and 7% respectively. Projected population growth and per capita income are projected by the IMF to rise substantially out to 2024, implying significant additional consumption over coming years, in the absence of any substantial loss to anti-sugar sentiment and legislation.
5. Geopolitics
Overlaying the above stumbling blocks is the crossing-cutting issue of geopolitics. Most important are trade embargos on Qatar and Iran, which significantly constrain potential markets. Alternatives like shipping refined sugar out of the Gulf to the Red sea is already very competitive. Furthermore, prospective ocean freight rates are inflated by a “war” risk premium.
In short, any potential investor needs to think long and hard about the marketing strategy it adopts.