Sunday, September 15, 2013

Bulk Industrial Gases

This industry is interesting due to its natural barriers to entry.  Because gas is expensive to transport relative to its value - basically they are selling air! - operations are regional.  Once a region is served by an incumbent, it is not economical for a newcomer to make the investment required to enter.  In addition, there are only a handful of global players.

Most of this comes from a Morningstar article, and Air Liquide's 2012 Annual report.

Industry Segments

Because bulk gases are more expensive to deliver than to produce, we segment the industry  by both delivery mechanism and end usage.

For the Large Industries segment: The company builds a plant next to its anchor customers and supplies them through a pipeline.  A plant usually has a regional monopoly within a 250km area.  Anchor customers sign a 15 year take-or-pay contract, indexed to energy costs.  The end users are metal industries (Oxygen), Chemicals (Oxygen, Hydrogen, CO), and refiners (Hydrogen).

For Air-gases (Oxygen, Nitrogen) the anchor customer takes up only about 70% of the output; the remaining 30% can be cross sold to smaller industries (e.g.: glass, automotive) in the area and distributed by truck (liquid) or cylinder (gas) (Industrial Merchant segment).  This includes product  delivered in liquid form (by truck) or gas (cylinder).

Hydrogen has less cross-selling opportunities, as only oil refiners use it.

Another segment is the Electronics segment, which is divided into:
  • Bulk Carrier Gases: Similar to the Large Industries segment, delivering a steady supply of these gases (hydrogen, nitrogen, oxygen) requires building production nearby the customer. We also have long term steady contracts: 10 years, indexed to energy, take-or-pay.
  • Electronics Specialty Gases are sold in small amounts, so distribution activity is worldwide, not localized. Demand varies with the electronics goods consumption and production cycle. These gases are high purity products requiring high tech expertise.
Lastly, the Healthcare segment involves delivering gases (usually Oxygen) by truck or cylinder to Hospitals and Homes.  This is usually also within a 250km radius, and the keys are coverage density (many customers in same area), quality of support services and efficiency.

Air Liquide illustrates this nicely their 2012 AR:


For Large Industries: Worldwide, most bulk gas (80% of hydrogen production and 65% of oxygen production) is produced in-house.  The remainder is produced by suppliers.  It is a concentrated market: the 4 largest suppliers (Air Liquide, Linde Group, Air Products and Praxair) had 60-80% of the U$74 billion global market.

In advanced economies: most oxygen production is already outsourced, while the supply of hydrogen is largely in-house.

In developing economies, outsourcing is relatively new, but accelerating.   In China, there are 3 local Chinese player: Yingde Gases (listed), Hangzhou Oxygen Plant Group Co (private), and Hang Yang Group.

The Industrial Merchant segment is also localised, but highly fragmented with many players.  So by itself, it offers lower returns.

Healthcare is also localized and fragmented.  Air Liquide expects growth through acquisitions in this sector.

In Electronics, three companies play a major role: Air Liquide, Air Products and Taiyo Nippon Sanso.



Bulk Industrial Gases is an attractive industry because:
  • An established supplier has a sustainable competitive advantage.  After an anchor plant is built, all Large Scale and Merchant Gas customers are served from this plant.  It would not be feasible for a competitor to build another plant in the vicinity. This applies to all segments except Electronics Specialty Gases (which are not bulk).
  • The industry is mostly non-cyclical due to long term contracts.  Electronics Specialty Gases and the Industrial Merchant segment are cyclical.
  • There are only a handful of large global players for Large Scale and Electronics.  Industrial Merchant and Healthcare are fragmented, with many local smaller players.

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