Chinese Green Fence helps UK paper mills

Via MRW I see that UK paper mills are finding it easier to acquire materials with fewer contaminants than previously, as a possible result of the introduction of China's green fence policy.

This is consistent with my views of the outlook for dry recyclabes markets overall. I think we are going to witness a combination of: lower primary commodity prices; higher consumer consumption in overseas markets (thereby reducing their demand for imports); and continuing upward supply of domestic recyclate supplies (driven by regulation and landfill tax). These will combine to put downward pressure on prices for secondary resources and to shift the bargaining power along the UK supply chain in favour of domestic reprocessors.

The MRF Code of Practice should soon be with us and I believe will ultimately be lauded as a great success in helping to drive up the quality of UK recyclate. But at the same time I suspect that wider market dynamics would have led to reduced contamination and more consistent material quality in any event.

Gate fee survey indicates lower commodity prices

Via Lets Recycle, I see that WRAP's latest gate fee survey suggests that Local Authorities (and others) are receiving lower income for recyclate (notwithstanding the misleading headline).

Regular readers will know my view that we're heading for a sustained period of lower prices for both primary and secondary commodities and that this will inevitably lead to higher charges for waste producers.

This tells me that the principal driver for the currently in vogue 'circular economy' will continue to be regulation and government intervention rather than market dynamics. And waste producers will just have to get used to higher bills for their waste.

ONS estimates waste sector growth of 9%

I see CIWM has spotted some positive government figures for output from the waste industry. The ONS estimates that in the 12 months to June, waste sector output rose by 9%.

CIWM then boldly claims that "the waste management industry fared especially well during the recession and continues to show strong signs of continued growth".

What CIWM has failed to appreciate is (i) this figure is a snapshot in time and (ii) the ONS estimates of waste sector output tend to be very volatile. It was only back in January that a 9% fall was published. If we turn the clock back to June 2012 (the starting point for this period), then output at that time had fallen 6% in the previous 12 months.

The ONS does indeed estimate that the waste sector's output has been "broadly flat since 2005" (i.e. zero growth during a period when landfill taxes have increased 300% driving up charges to customers). This however misses the trend of growth followed by recession and, hopefully now, recovery from recession. Far from faring "especially well", the waste industry has been hit in recent years by a double whammy of falling volumes and prices.

The ONS figures suggest to me that recyclate prices have recovered some of previously lost ground during the first half of the year. The industry is now much more exposed to these hugely volatile prices than ever before and these are driving large swings in ONS estimates. There is little doubt though that the recession has significantly impacted the waste industry, both in the UK (see the large amounts of landfill void space being written off by some of the large operators) and in Europe (opening up capacity for RDF exports).

I am amazed that the huge impacts of the recession seem to have completely passed by the sector's professional body.

Agency publishes guide for local authorities exporting waste

I see that the Environment Agency has published a guide for local authorities which may be the source of exported waste. It suggests that the export of poor quality materials is threatening UK suppliers' competitiveness in international commodity markets, and also states that the UK could become a more marginal supplier to China as its demand for commodities increases. A key point raised in the document is that 'quality is essential to maintain markets'.

Quality is of course important, but so is price and there is a trade-off between the two. Meeting the right specification at the right price is actually the key to maintaining the UK's competitiveness in international recyclate markets. Ignoring prices will only serve to miss a vital aspect of this dynamic.

My fear is that the ever increasing policy drive to improve quality at any price will only serve to drive up costs to waste producers across the economy. This will in turn reduce their ability to generate positive economic returns elsewhere and ultimately will make us all worse off.

Global outlook not great

I was at a conference on secondary commodity markets on Tuesday at which Ross Strachan from Capital Economics gave quite an interesting overview of their outlook for the global economy.

Essentially, things aren't looking particularly bright in their view. Europe is heading towards disaster and the ultimate break-up of the Euro, while China is slowing down too. There are some slightly better signs from the US (if policy makers there are able to agree a budget deal) but overall, it looks to them as though the global economy is at best heading sideways for a good while to come.

I tend to agree with their outlook (although I am not yet convinced that the Euro will break up). I would also add that forthcoming banking regulations are going to be an additional constraint on growth by restricting new investment.

What does this mean for the waste sector? Operators are already suffering extremely tough times, with waste volumes and recyclate prices down on previous highs. A faltering macroeconomic recovery will continue to squeeze the sector at both ends with operators potentially suffering lower gate fees at the front end as they chase lower volumes and lower offtake revenues for materials at the back.

In the medium term there may be some respite for integrated businesses as increasing moves into the waste-to-energy space coincide with policy designed to drive up energy prices, thereby helping to support offtake revenues in that area.

But in the meantime, its likely to remain tough going. MRF gate fees tend to be sticky relative to prices of secondary commodities and if some recyclers haven't properly managed their recyclate price risk then they could find themselves struggling in the near term.

Risk transfer - who benefits the most?

I was at the RWM exhibition last week, which apparently again attracted record visitor numbers. These large-scale events give the opportunity to hear some leading industry figures give their views on the big issues of the day, and while these are often banal you can find the occasional nugget of interesting information.

Wednesday's panel debate in the leaders' theatre was a case in point. Much of the discussion centred on concerns about access to finance coupled with falling material prices, both topics which I have covered before. What was interesting for me though was the disagreement between the participants regarding the exact nature of the risk transfer between the public and private sectors. Generally the operators/contractors felt (unsurprisingly) that the private sector had taken on too much risk in their municipal contracts, while an advisor was of the opposite view and suggested that local authorities had retained too much risk.

So, who is right?

In an ideal world different risks would be appropriately shared according to the principle of which party is better able to manage that risk. When discussing residual waste projects we might group the risks into: inputs; process; and outputs.

When it comes to input (feedstock/volume) risk we might think that authorities would be able to better manage that as they are the ones directing householders through collections. But contractors tend to take a view which they build into their assumptions. They then rely on being able to substitute commercial waste for municipal waste to be able to make up for any shortfall. (It is of course a shortfall we want as this would indicate that residual municipal waste has been minimised and is below expectations.)

Where there may be a potential antagonism is where authorities demand (rightly) priority access to a facility when volumes are high but do not give the contractor the freedom (perhaps through non-compete clauses for commercial waste) to be able to make up for a shortfall when volumes are low. In this way we may find that the contractor ends up being unable to manage their exposure to volume risk appropriately.

When it comes to process/technology risk, this is undoubtedly something which it seems to me should rest with the contractor. Some disagreement may however arise concerning the differing risk profiles of the construction and operational phases of a facility. The construction (and commissioning) phase is high risk and fraught with potential technical problems. The operational phase however tends to be relatively straightforward and lower risk.

Early PFI contracts saw some big gains to contractors who were able to refinance on favourable terms and make relatively large returns once projects were into the operational phase. This was seen by the public sector as unfair profiting at their expense. The contractors would probably argue that the rewards they gained were commensurate with the risks they took, but this is certainly a controversial area. It is also an area where the rules on refinancing were subsequently tightened so that any potential upside to the private sector is now effectively capped.

This has therefore now become another area where contractors feel that they are exposed to large potential downside losses while their upside is capped, i.e. the risk transfer has now swung in favour of the public sector.

The other area of risk is on outputs/offtake. This is again an area where the contractor is going to have to take a view and hope that they are able to manage resulting price volatility over the life of the contract. We may find increasingly that some contractors (perhaps more applicable for recycling contracts) have overestimated potential offtake revenues and run into trouble.

From the above, I find it difficult to conclude that local authorities are retaining too much risk and instead would agree with contractors who suggest that they offer good value for money to their local authority customers. This may not always have been the case and those who managed to secure favourable terms in the early days of PPP/PFI agreements may have done well out of them. But right now being a waste management contractor is a difficult place to be with both volumes and prices falling. These are conditions which could place severe pressure on some industry participants.

Policy wonks vs operators

The big annual waste shindig has been taking place at the NEC for the past couple of days. I intend to post  on some of the conference later, but my first initial observation is that there seems to be a growing divergence  in views expressed by policy wonks and those by waste operators facing reality on the ground.

In particular, via @Greendipped I see that Gavin Shuker expressed ongoing concerns about scarcity (something regular readers would know I don't see as a problem), while at the same time Steve Lee gave a presentation on the first day titled "understanding the potential impact of resource scarcity and escalating commodity prices".

I have pointed out before that in reality (non-food) commodity prices are falling, and it was concern about these falling prices that was the main message to come from waste operators at the conference (see also e.g. this story). It is these operators who are facing the actual conditions at the coal face and I would certainly trust their experience more than the hypotheticals coming from others with less direct day to day experience of reality.

The waste industry is going through a very difficult period of transition. Waste volumes are down and recycling prices are falling. Policy and regulation are designed to drive the waste industry away from the traditional stable landfill based model with low capital outlay towards high up-front capital investment and large exposure to cyclical global commodity markets. Managing this transition will be difficult and there will likely be some who don't do it well.

As long as policy makers don't understand the reality of cyclical markets they are unlikely to be able to come up with a policy framework that will help the industry navigate its way in the world.