DALIAN, China (Reuters) - On reclaimed land on the island of Changxin near the port of Dalian, workers are putting the finishing touches on a plant that is the future of China’s refining and petrochemical industry.

Hengli Petrochemical's new refining, petrochemical complex is seen at Changxing island in Dalian, Liaoning province, China July 16, 2018. Picture taken July 16, 2018. REUTERS/Chen Aizhu

Here, private chemical company Hengli Group will begin testing its $11 billion oil refinery and petrochemical complex in October.

The plant is a direct challenge to China National Petroleum Corp’s (CNPC) Dalian Petrochemical Corp facility, the country’s second-largest oil refinery. That 70-year-old plant has been a cash cow for state-owned CNPC but the aging refinery has come under scrutiny after several accidents.

Hengli's 600346.SS high-tech complex will not only produce the fuels China craves but also the plastics and other chemicals the country will need for the future.

China plans to add a dozen petrochemical mega-complexes along its east coast over the next five years, in the biggest wave of expansion in its history.

The plants will be backed by state majors Sinopec and Sinochem, private groups Shenghong Petrochemical and Wanhua Chemical, as well as Exxon Mobil and Germany’s BASF.

“Under a more liberalized policy, more independent and foreign companies will join the investment that will make China more self-sufficient in chemicals,” said William Chen, chemicals analyst at IHS Markit.

CNPC's listed arm PetroChina Co 601857.SS, which operates Dalian, has become one of the world's most valuable oil firms by providing the gasoline and diesel to power China's expanding private car fleet and the freight trucks underpinning its expanding commerce.

But Dalian may become a symbol of the past as competitors such as Hengli feed the demand of the world’s biggest petrochemical consumer.

China’s demand for diesel will likely peak by 2020 and gasoline by around 2035, according to IHS Markit.

However, the country’s demand for ethylene, a building block for plastics and polyesters, will rise to 26.8 million tonnes by 2020, from 18.7 million tonnes in 2015, according to consultancy Globaldata.

Hengli’s sprawling complex is geared to meet that demand and reduce imports.

It will be followed by a similar one in Zhejiang province by private polyester company Zhejiang Rongsheng Holding Group.

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The sites for these mega projects include Zhanjiang and Huizhou in south China’s Guangdong province, Zhangzhou and Quanzhou in east China’s Fujian province, and Lianyungang in Jiangsu, with plants to be situated on islands or peninsulas far away from residents to contain environmental risks.

Meantime, China may raise its oil refining capacity by about 16 percent to 20 million barrels per day (bpd) by around 2023, according to a Reuters tally of announced projects. This will result in a surplus of about 3 million bpd, equal to about one-fifth of Europe’s refining capacity, as fuel demand growth stagnates.

While China’s government has not stated a specific target for closing down the excess capacity, industry executives have raised concerns about the widening glut.

Ethylene capacity will rise by 14 million tonnes a year during the same period, up by 76 percent from the current total estimated production, according to a count of announced projects.

GRAPHIC: China's petrochemical demand is rising fast - tmsnrt.rs/2PB6aF6

FULL FLEXIBILITY

Hengli’s new facility, showcasing private participation in the sector, will be one of the world’s biggest.

It has a quota to import 20 million tonnes of crude oil a year, about 400,000 bpd and equal to its total refining capacity, the most of any independent refiner.

Hengli said it has signed agreements with state-owned Sinochem to import crude and export fuels, and signed Sinopec, CNPC’s biggest national rival, as a domestic fuel marketing agent.

In addition to its crude distillation capacity, the Hengli complex will have two 3.2-million-tonnes-per-year residue hydrocracking units, and three 3.2 million-tonnes-per-year reforming units.

For chemicals, it will have a 1.5-million-tonnes-per-year ethylene unit and two 2.25-million-tonnes-per-year paraxylene units.

“Integration gives us full flexibility to optimize output among oil, olefins and aromatics as and when that market is in favor,” said Hengli’s spokesman Li Feng, “It will be one of the industry’s most profitable plants.”

Beyond China, Hengli’s new facility will also challenge north Asian rivals and force them to cut output, said Steve Jenkins, a vice president at consultants Wood Mackenzie.

GRAPHIC: Map of China's refining & petrochemical facilities - tmsnrt.rs/2PzGcl9

OLD NEIGHBOR

PetroChina’s Dalian plant has the same crude refining capacity as the Hengli site but its fortunes have turned since a deadly pipeline blast at the oil receiving port in 2010 caused a large spill.

Other accidents followed, the latest a fire at the plant’s gasoline unit in August 2017, resulting in tighter regulatory scrutiny from local environmental authorities.

Dalian is located just hundreds of meters from residential housing and there have long been complaints about safety, foul smells and pollution.

“Being a plant manager, you live under constant stress as you risk losing your job when next accident occurs,” said a site manager at Dalian, who declined to be named as he was not authorized to talk to press.

Adding to the safety and environment concerns, Dalian’s profit margins have been squeezed by a slowdown in fuel demand and rising competition from independent refiners.

CNPC and PetroChina declined to comment when contacted by Reuters.

Eventually, the Dalian refinery as well as similar plants that mainly produce fuels will become redundant.

“We’re caught in a dilemma. There is little space for us to upgrade, while the cost of relocating will be too huge to bear,” said the Dalian plant manager.

GRAPHIC: Global planned and announced petrochemical capacity additions by region - reut.rs/2oIpVz6