New Problems Require New Solutions In Chemical Manufacturing

Michael Laprocido

The US chemical industry is characterized by process-based manufacturing, high capital intensity, and long investment cycles. Over the longer term, capital is deployed for R&D or capacity expansion, while, over the shorter term, resources are targeted to increase productivity and reduce costs. The timing of these investments has typically been at the top of the business cycle (i.e., “when times are good!”).

This playbook has kept the industry stable and profitable across the cycle for about 100 years – primarily because (until recently) things outside of a chemical company’s control didn’t really change all that fast. The industry’s typically conservative response to change was sufficient.

Over the last several decades, however, the pace of change outside the firm’s sphere of control has been unprecedented. Changes in regulation, competition, supply, demand, and technology pose greater chances for disruption in ever shorter periods of time. As SAP CEO Bill McDermott said at this year’s SAPPHIRE NOW conference, “the pace of change has never been faster – and it will never be this slow again.”

At some point, a company’s inability to respond within an acceptable window to the pace of change of external factors will begin to exponentially add risk. Currently, there are several new quickening factors looming for the industry that can rapidly shake up the order. These include the acceleration of the downstream commoditization cycle, a growing skill gap for STEM and trade skills, and the blurring of industry lines – mostly initiated by the advancement and adoption of digital technologies in other industries.

The impact of commoditization

Commoditization is the process by which competitive advantage erodes as competitors – both direct and indirect – look to nullify it. The impact of commoditization results in lower margins and switching costs. Although the industry has struggled against the direct commoditization of chemicals products for decades (more a factor of oversupply), there has been a profound impact from commoditization and disruption in industries downstream from the chemical industry. This is causing product lifecycles in those industries to compress – much of that triggered by digital disruption. Commoditization and disruption downstream from the industry tend to weigh down the ROI of capacity investments as the probability rises that the assumptions made in the original investment thesis may no longer be valid when the assets come onstream – especially given the long investment cycles.

A prime example of this was the sharp decline in demand for polycarbonate about a decade ago due to the rapid rise of streaming services, like Spotify and Netflix, that replaced CDs and DVDs. The precipitous decline in demand had a major adverse impact on that market for the next several years. An investment decision in 2007 to expand polycarbonate capacity, backed by what may have appeared to be a solid business case at the time, would have likely ended the career of the executive who approved it.

As a more recent example, digital advances in agriculture have enabled the precise application of chemical inputs for crop protection that could significantly weigh on demand. Now you can begin to get a picture of the scale of the problem when pretty much all your target markets are being impacted by digital disruption. In fact, the commoditization cycle for most industries has been compressing exponentially over the last several decades as the pace of change quickens.

Unfortunately, the industry is currently not well prepared to address it, as internal cycles (such as strategic planning, product innovation and development, and demand forecasting) have not accelerated at nearly the same pace, while executive focus has largely remained quarter to quarter.

The impact of the skills gap

There has been much said about the growing skills gap and the impact it is expected to have for manufacturing. A Deloitte study, published in 2015 in conjunction with the Manufacturing Institute, projects that, of the 3.4 million new manufacturing jobs that will be needed in the United States between now and 2025, roughly 2 million of them will remain unfilled. What are the factors contributing to this projection? For starters, the Deloitte report highlights three causes: the impending retirement of baby boomers from the workforce, skill shortages among the up and coming generations, and a general lack of interest in the industry due to misperceptions.

With regard to the first point, the table below from the study shows that the chemical industry is skewed toward the baby boomer generation. Per the study, the average age of the chemical employee currently sits around 45.3 years old – older than all other industries except agriculture, transportation and utilities, and public administration. The industry is currently grappling with knowledge loss as sizable portions of this population begin to retire in the coming few years.

With regard to skill shortages among newer workers, much has been made of the declining rate of participation in STEM curriculum by younger generations. Deloitte’s survey of manufacturing underscores this in the chart below by highlighting fundamental skill shortages. This issue should worsen as the immigration policies of the current administration make it harder to find this talent abroad.

In terms of a general lack of millennial interest, available graduates from STEM careers just don’t view manufacturing jobs, particularly in the chemical industry, as appealing. Jobs in this sector are viewed as “dirty,” dangerous, and inflexible. The table below from the Deloitte study shows how this perception is most dramatic for Gen Y.

The skills gap is particularly unsettling for the industry as it raises concerns about who will build, run, and maintain the infrastructure needed to produce and distribute products in the near future.

Blurring of industry lines

Digital technology has reached a tipping point, causing industry lines to blur and boundaries between participants to shift or break down. When this happens, constraints that once defined the value chain are removed, creating new possibilities and opportunities for innovation. New entrants are, almost by definition, seeking to disrupt. However, incumbents that are not able to benefit from the new opportunities this creates will be increasingly at threat of being disrupted, as the old rules no longer apply.

In “Blurring Boundaries, Uncharted Frontiers,” an article published in a 2015 Deloitte Insights, author Eamon Kelly points out that “historically, when boundaries have moved – geographic, scientific, technological, institutional, or cultural – the results have been momentous. When multiple boundaries shift simultaneously – as happened during the Enlightenment and the Industrial Revolution – truly extraordinary breakthroughs and great strides in human progress occur, through the creation of new connections, possibilities, and ideas.” He goes on to speak of the current impact of technology on the human-machine, producer-consumer, and physical-digital boundaries in both society and for business.

This is what is happening now in the manufacturing space, as digitization, hyperconnectivity, and the accelerated growth of several technologies like Big Data processing, advanced analytics, machine learning, artificial intelligence, and blockchain are leading to the blurring of industry lines in almost every industry, precipitating the emergence of new business models and disruption of existing ones.

Examples include manufacturing companies trying to reach customers directly using web-based digital channels (P&G), while distributors and retailers are trying to move from two-day to two-hour deliveries (Alibaba). Some are shifting from physical inventory to digital inventory where they store detailed design specifications for critical parts that are 3D printed on demand (UPS). Traditional business models of selling products are shifting to consumption-based services like equipment uptime that will directly impact the top line and bottom line of customers (Kaeser Compressor).

IT emerges as the key enabler for meeting new challenges

In light of these pressing challenges, executives in the chemical industry have come to terms with the new realities and now understand that better use of information across the value chain is the key enabler. They seek answers to questions like: How can we stay ahead of the commoditization curve? How can we derive higher returns from our assets and resources? How can we proactively meet emerging demand? How can we transform our business to better meet our customers’ (and their customers’) needs? How can we better attract and retain talent while curating and sharing specialized knowledge and skills to enable us to execute on our plans? And finally, how can we disrupt our current business model before someone else does?

The adoption of digital technologies is now viewed as the means forward. At the SAPPHIRE NOW event in Orlando in June, Accenture underscored this fact while revealing its research indicating that roughly 83% of current IT projects in the industry are business- as opposed to IT-driven. This is a major turn from even a year ago when projects were mostly IT led. Its research also revealed that the majority of mid to large chemical companies (>$1B in revenue) in the United States are presently along the continuum of planning and deploying a digital platform as the first step to gaining these capabilities – giving credence to the notion that the “dawn of digital” has finally arrived for the chemical industry.

Learn more about “Innovation In The Chemical Industry: Real-World Examples.”

This article originally appeared on Manufacturing.net.


Michael Laprocido

About Michael Laprocido

Mike Laprocido serves as a Strategic Industry Advisor for SAP. He is responsible for developing thought leadership and driving SAP solution adoption in the chemical and oil and gas industries. With over three decades in various executive roles at BP Oil, BP Chemicals, Kuraray America, Panda Energy and IBM prior to joining SAP, Mike has gained a broad and deep industry knowledge base that he leverages to help his clients to innovate and transform their business through the application of digital technology.