“I’m goin’ down in Louisiana, Baby, behind the sun…Well, you know I just found out, my trouble just begun.” So sang US bluesman Muddy Waters in a song that could be an anthem (or a requiem?) for Sasol’s fumbling foray into the southern US state.
In recent years, a number of large South African companies have ventured overseas, in part to reduce exposure to domestic political and economic risk and in part to take advantage of new opportunities and markets. There have been notable successes: Sibanye-Stillwater’s acquisition of the palladium-rich Stillwater mine in the US state of Montana, which now accounts for about half of the company’s value, is one. Flops have included the Woolworths acquisition of David Jones in Australia, following a trail of other retail failures by South African firms down under.
Sasol’s ongoing saga in Louisiana is a classic case of a mega-project becoming a mega-flop. In fairness to Sasol, it is hardly alone in this regard. A 2015 study by McKinsey found that “98% of mega-projects suffer cost overruns of more than 30%; 77% are at least 40% late”. Sasol should have been aware of such risks. But perhaps it was, which would underscore how difficult it is to forecast the costs of such massive endeavours.
It is now estimated that Sasol’s Louisiana Lake Charles Chemicals Project will cost between $12.6-billion and $12.9-billion, 45% more than originally envisioned in 2014. The final product will be an ethane cracker and chemical plant that will triple the company’s chemical production capacity in the United States. The latest in a series of cost overrun announcements was made in May and last week the company delayed its annual results while it completes a review of the project’s problems. That’s the kind of thing investors associate – fairly or unfairly – with the likes of Steinhoff.
One of the most striking aspects of cost escalation in the initial stages was that much of it was related to labour – a risk often associated with South Africa, not the US South, where unions are hardly a force to be reckoned with. The company said in 2016, when it raised the estimated cost to $11-billion from $8.9-billion; higher-than-expected labour costs were among factors pushing the price tag north. It cited an “increase in contractor wage rates compared to what were assumed at FID [final investment decision], lower engineering productivity, and an increase in contractor engineering hours”. It also noted “an increase in labour costs as a result of higher quantities of material for installation (and) the decision to change to a higher-skilled and thus higher-cost crew mix to enable planned labour productivity improvements for the remainder of the project”.
Productivity is often an issue on mega-projects. The McKinsey report noted that construction productivity had been flat for decades, lagging far behind manufacturing and was a key reason for massive projects costing more than expected. US labour markets were also tightening then, as the economy pulled itself out of recession. Something the Sasol board may not have anticipated.
Labour costs in the bayou were buoyant because Sasol was not the only show in town. Japanese contractor Chiyoda lost more than $950-million in the six months to 30 September 2018 because of surging labour costs on a shale-gas plant it was building in Louisiana. The dearth of skilled labour in the North American Gulf region was partly due to a scramble to bring shale projects online.
Labour costs have become less of an issue as the project has neared completion. But it has been bedevilled on other fronts, such as unexpected delays due to weather. Who could have foreseen that in the place that was so churned up by Hurricane Katrina? Other stumbling blocks have included “defective carbon steel forgings”. A faulty product was pushed through the supply chain, ramping up the costs (including, presumably, lawyers’ fees). Corrosion affected some crucial components, and bolting materials may require replacement.
This is not an exhaustive list, but it paints a picture of various small maladies adding up to a big headache.
South Africans who have watched costs soar at new Eskom power plants such as Medupi may take solace in the fact that they are not alone when it comes to the costs of mega-projects rising by mega-sums. Perhaps Sasol should have just stuck to Sasolburg and Secunda. One thing is certain: shareholders in Sasol, whose share price has halved over the past year, are going to be singing the blues for a long time to come. DM
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