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Refinery, Petchem Construction Costs Hit New High - IHS
June 30, 2011

The costs for designing and constructing downstream refining and petrochemical projects rose 6 percent from Q3 2010 to Q1 2011, surpassing their prerecession peak and setting a new high, according to the latest edition of the IHS CERA Downstream Capital Costs Index (DCCI). The 6 percent increase was the sharpest rise since the previous peak during Q3 2008.

The IHS CERA DCCI is a proprietary measure of project cost inflation similar in concept to the Consumer Price Index (CPI). It provides a benchmark for comparing costs around the world and draws upon proprietary IHS and IHS CERA databases and analytical tools. The current DCCI rose from 180 to 192 over the past six months. The values are indexed to the year 2000, meaning that a project that cost $100 million in 2000 would cost $192 million today.

"What had been a slow and steady recovery has certainly picked up speed as a result of the global economy's recovery, rising commodity costs and a weakened U.S. dollar," said IHS CERA chairman and author of the Pulitzer Prize-winning book, The Prize, Daniel Yergin. "Costs have now returned to their prerecession trajectory."

A sharp rise in steel costs (12 percent increase) helped drive the latest surge. Costs for nearly all steel-making raw materials have risen since Q3 2010.

Equipment costs also experienced their largest six-month rise since Q3 2008 due to the rise in steel costs and increased activity in the Middle East and Asia. Lead times for most types of equipment have increased as a result of higher demand and equipment manufacturers are starting to pass along higher raw materials prices that they previously had absorbed due to lower capacity utilization.

Construction labor costs continued their rise (8 percent increase) due to the weaker U.S. dollar, higher inflation in emerging markets and rising demand for skilled tradesmen that is resulting in the reinstatement of benefits, overtime and bonuses. Gains were more pronounced in Asia and South America, while other regions such as North America and Western Europe continue to feel the aftereffects of the recession.

Engineering and project management costs, which rose 5 percent overall, followed a similar regional pattern with more pronounced gains in Asia and South America while North America and Western Europe lagged, with the diminished activity level in the U.S. Gulf of Mexico exacerbating the situation on that continent.

The downstream environment remains challenging for Organization for Economic Cooperation and Development (OECD) countries. Refining margins have improved, but are nowhere near their prerecession peaks even as capital costs reach record highs.

"We continue to see a flood of announcements related to divestments and closures in the United States and Europe, mostly from integrated oil and gas companies," said Farooq Sheikh, director, IHS CERA Costs and Technology Group. "The new emerging players in the refining realm for the Western Hemisphere are independents backed by private equity groups and national oil companies."

A different picture emerges in Asia, where downstream activity remains robust due to continued strong demand for transportation fuels and plastics. Middle East countries are also continuing a drive toward diversification and are investing in petrochemicals to spur growth in other industries.

Overall, the DCCI concludes that downstream capital costs will continue to face upward pressure over the next six months, driven by a dwindling resource pool of skilled labor and the continued volatility of commodity prices.

The IHS CERA DCCI tracks the costs of Costs of equipment, material, labor (skilled and unskilled), and engineering and project management used in the construction of a geographically diversified portfolio of more than thirty refining and petrochemical construction projects. It is similar to the consumer price index (CPI) in that it provides a clear, transparent benchmark tool for tracking and forecasting a complex and dynamic environment. The DCCI is a work product of IHS CERA's Capital Costs Analysis Forum for Downstream (CCAF-D).

Source: IHS CERA

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