Bleak outlook for U.S. oil refiners

December 1, 2008

John Kemp Great Debate– John Kemp is a Reuters columnist. The views expressed are his own –

Even by the standards of a deep-cyclical industry, the “golden age” of oil refining has proved remarkably brief, lasting no more than three years, before giving way to a new dark age.

Particularly in the United States, refiners have returned to the state of chronic unprofitability that plagued the industry before 2005.

U.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable.

EVAPORATING PROFIT MARGINS

In May 2007, U.S. refiners paid an average of about $64 a barrel to acquire high quality West Texas Intermediate (WTI) crude (less for other grades) and sold gasoline for $97 per barrel – a margin of $33 per barrel or 52 percent.

By November 2008, U.S. refiners were paying $62 to acquire WTI but selling gasoline at a loss for just $52 – a negative margin of $10 or 16 percent.

Other outputs are still profitable (notably diesel and heating oil) and many refineries will have acquired lower-quality crudes for less than the WTI price. The overall gross margin was still (just) positive.

But the NYMEX benchmark 3-2-1 crude oil-gasoline-heating oil has shrunk from $30 per barrel to just $3. Once operating costs (including natural gas, electricity, water and catalysts) as well as capital expenditures (building, maintaining and upgrading refineries) are taken into account, the industry is making little or no profit.

DEMAND DESTRUCTION

Demand for gasoline and other refined products has been falling for more than a year, initially in response to high prices and now as a result of a weakening economy, leaving refiners with a huge overhang of unused capacity.

The total volume of refined products supplied to the domestic market averaged just 19.2 million barrels per day (bpd) in the four weeks ending Nov. 21, down 1.7 million bpd (8 percent) from 20.9 million bpd in the same period last year. The volume of motor gasoline supplied (9.0 million bpd) was down 300,000 bpd (3.3 percent) compared with last year (9.3 million bpd).

Refiners have responded with run cuts and record exports of both gasoline and distillates to avoid flooding the domestic market and collapsing prices further.

Operating rates have been below year-ago levels since the start of 2008 (https://customers.reuters.com/d/graphics/US_RFRT1208.gif).

Refineries processed 15.2 million bpd of crude and other inputs in the week ending Nov. 21 – using just 86.2 percent of their 17.6 million bpd maximum capacity, and leaving more than 2 million bpd of crude distillation capacity idle.

Refiners also sent increasing volumes of refined products abroad to avoid flooding the domestic market. Refiners and merchants ramped up gasoline exports from 38 million barrels in Jan-Sep 2007 to 50 million in Jan-Sep 2008 (+32 percent) and distillate exports from 52 million barrels to 146 million (a massive increase of +182 percent).

It has not been enough. By Nov. 21, reported gasoline inventories stood at 200 million barrels (22.3 days of supply) up from 197 million barrels (21.2 days cover) in 2007.

ETHANOL DISPLACEMENT

Refinery gasoline is increasingly squeezed out by ethanol. U.S. ethanol production has tripled from 260,000 bpd in Sep 2005 to 640,000 bpd in Sep 2008, with another 80,000 bpd of ethanol imported. As a result, ethanol is cutting almost 750,000 bpd of demand for fossil-fuel refinery-derived gasoline (https://customers.reuters.com/d/graphics/US_GSETH1208.gif).

In Sep 2005, some 8.9 million bpd of gasoline was supplied to the domestic market, of which 8.7 million bpd came from refineries and just 0.3 million bpd was sourced from ethanol distilleries.

Three years later, in Sep 2008, the volume of gasoline supplied had fallen 400,000 bpd to 8.5 million bpd. But while the volume of ethanol sourced from distilleries had risen by 0.5 million bpd to 0.7 million bpd, the volume of gasoline sourced from refineries was down by a massive 1 million bpd to 7.7 million bpd.

Roughly half the refinery demand lost over the last three years is due to increased ethanol (500,000 bpd), while the remainder is due to cyclical factors (400,000 bpd).

The displacement of refinery gasoline is an explicit objective of federal policy to reduce U.S. oil imports. It has been accelerated by the surge in crude oil prices during 2007-2008, encouraging widespread voluntary blending of cheaper ethanol into the domestic fuel supply.

But increased blending volumes threaten to strand many U.S. oil refineries as white elephants with no long-term future. Refinery utilisation rates have been trending down since the start of the decade, but the loss of demand has accelerated notably since widespread ethanol blending commenced in 2005 (https://customers.reuters.com/d/graphics/US_RFRTA1208.gif).

As a result, there is an increasingly wide gap between system capacity and actual throughput. More than 2.0 million bpd of crude distillation capacity is sitting idle. The last time the refining system had more than 1 million bpd of spare capacity was in the early 1990s, when refiners responded by mothballing facilities and closing plants, cutting capacity by more than 500,000 bpd between 1992 and 1994 (https://customers.reuters.com/d/graphics/US_RFRTB1208.gif).

Even with refinery shutdowns, the long-term outlook is bleak. The Energy Information Administration (EIA) projects gasoline consumption will increase from around 142 billion gallons in 2006 to 151 billion gallons in 2030 (based on an increasing population and rising car use, partly offset by improved fuel efficiency).

But the fossil-fuel content of that gasoline is scheduled to drop from 136 billion gallons to just 125 billion gallons as the ethanol content rises from 5.5 billion gallons to 25.8 billion gallons to comply with Renewable Fuel Standard (RFS) targets.

GASOLINE-DIESEL MIX

As if falling demand and the increasing challenge for ethanol were not enough, U.S. refiners face a deeper structural problem.

Most of the world relies on diesel rather than gasoline for transportation fuel and heating demand. According to the International Energy Agency (IEA) the world consumed just 0.75 gallons of gasoline for every gallon of diesel in 2005, and the refinery system was configured to produce the two fuels in roughly the same proportion (https://customers.reuters.com/d/graphics/FL_CNSP1208.gif).

The U.S. petroleum economy is highly unusual in that it is tilted towards consumption and production of gasoline. The United States consumes almost two gallons of gasoline (1.97) for every gallon of diesel; the European Union consumes only 0.40 gallons and China consumes 0.48 gallons.

Until recently, that led to a mutually beneficial trade, with the United States exporting surplus diesel, while Europe and China exported surplus gasoline (https://customers.reuters.com/d/graphics/REFINEPRDS1208.htm).

But U.S. refiners now face the problem that in the fastest-growing parts of the petroleum economy (China, Asia, the Middle East and Africa) the marginal demand is for diesel, while their marginal supply is gasoline, for which demand is stagnating.

The global economy now faces a structural surplus of gasoline and a structural shortfall of diesel. By implication, the world has too much capacity for producing gasoline (much of it concentrated in the United States) and not enough capacity for producing diesel (especially in Asia).

As a result, U.S. refiners face increased competition in their domestic market from imported gasoline, while they struggle to produce enough diesel to sell abroad. This mismatch explains why U.S. diesel exports have risen much faster in the past year than gasoline, even though it is the domestic gasoline market which is most oversupplied.

The United States now has too many refineries for its increasingly ethanol-based economy, and they produce the wrong product mix for a dieselised global economy.

U.S. refiners have begun to reduce gasoline production (https://customers.reuters.com/d/graphics/EIA_REFGS1208.gif) and prioritise distillates (https://customers.reuters.com/d/graphics/EIA_REF1208.gif). But yield changes have been marginal (1-2 percentage points), reflecting the technical limitations of the existing refinery units.

In the short to medium term (12-24 months), it seems virtually certain U.S. refiners will have to cut total capacity sharply, perhaps as much as 0.5-1.0 million bpd, 4-8 average refineries. In the longer term, they have no choice but to undertake substantial capital expenditures to shift the system towards more diesel.

26 comments

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see http://blogs.reuters.com/fulldisclosure/2010/09/27/toward-a-more-thoughtful-conversation-on-stories/

It is just my oppion that if the average american had the choice (ethanol or gasoline)they would chose gasoline. I have had a bad experience with ethanol using it in my motorcycle. There was to much of the ethanol and it ate the paint and crome rite off my bike and as it hit the black top it was bubbling. To this day I try not to use any ethanol. But the government is entinent on making us use it. Just my oppion.

Posted by Jim | Report as abusive

Cry me a river. I’m so depressed with the news from the oil mongrels. Does this indicate they may have less corporate jets to fly around in and not having so many salary perks and weekend stay overs at their private little islands hide-aways? No doubt they are now planning anew how to screw all of us with higher prices. Most likey the politicians will do all they can to bail oil barons out, and stick the tax payers with the cost of it. Certainly the liberal messiah Obama will create a miracle of some nature to provide relief for the poor oil companies. Boo hoo hoo, how terribly sad to learn of all this.

Try telling that to the members of the house and senate who so gleefully attacked the representatives of the oil industry not so very long ago for its unconscionable profiteering.

It appears having a “choice” in fuels, creates competition; increasing supply, lowering the cost/price to consumers. Perhaps not good for those that had a competitive advantage previously. Not unlike any industry, as inevitable change in a technology and/or marketplace takes hold, those who previously had “control” and a competitive advantage, will fight to maintain such, instead of diversifying/growing with the change in demand.

Posted by Kevin | Report as abusive

Nice to hear that supply and demand are working.

How is the cost of Jet fuel impacted?

aint that a same, last year at 4.15 a gallon, all I could do was pay for high priced gasoline, high priced food, due to gasoline prices,high priced clothing due to gasoline prices,but guess what I couldnt pay due high gasoline prices,because I had no money left, thanks to gasoline prices, I couldnt pay my mortgage because of gasoline prices at 4.15 a gallon. drown in it exon

Vegetables are the most inefficient resource for ethanol considering Ford and Diesel intended ethanol to be made of hemp seed oils, which grow faster than a forest, and have 4 times the cellulose of trees.
Also consider that 60% of the price of oil is speculative trading on wall street and London and one can see that affordable fuel can be wrought from these price gougers, thus making food affordable to the 50 to 75% of the world population that is currently goes hungry every day; then again, proven alt energy sources like water, salt water, and hydro gas can all be used too.
Just admit that oil is not finite, it is abiotic and self replenishing, and open all the refilled wells in California, Colorado, and Pennsylvania.
Did the sub-committees really attack the oil reps, or generally give them a slight “talking-to”. I couldn’t tell.

Posted by Larry | Report as abusive

Isn’t the solution to this problem exactly what we are trying to achieve? Cut down on imports!! We are 60% dependent on foreign oil. Let’s import less foreign oil, and continue to develop our own mutually supportive ethanol and gasoline industries. Fill up our own refinieries to produce the gasoline that we use rather than import it. This is a win-win as it develops jobs at home and stops us from sending so much money overseas.

Posted by Casey | Report as abusive

Certainly as we discuss the potential collapse of the auto industry, it seems counterintuitive to expect high growth in the gasoline supply industry. If we spent a bit more time reasoning out why things happen rather than just blaming everything on cycles, we would be a bit further ahead.

Posted by Don | Report as abusive

Most people do not know that the heat content of ethanol is significantly less than that of gasoline. Thus, a car burning ethanol will get fewer miles per gallon; making the cost of higher per gallon than its stated price. This conversion factor should be taken into account when comparing the costs of the two fuels.

Posted by Jim | Report as abusive

In 2005 refineries where going for 10 to 13,000 dollars per barrel of Capacity in the USA. I would be interested in what you think their value is now?

Posted by bob Sitttmann | Report as abusive

That’s not all folks ! I don’t see any mention or factoring of the electric – battery car which is coming. This new technology which is on the horizon may put gas & diesel into horse & buggy status very quickly once batteries tech. is improved.

The average cost of electric power right now is two cents per mile, which is about the equivalent of $1.25 per gal of gasoline @ 60 miles to the gallon! That’s not factoring in the cost of the electric car, just the price per mile.

Factor in solar panel tech. and it’ll be totally green to recharge an electric. Once this revolution gets to where it’s affordable the cost of transportation (and everything associated oil) will never be the same.

Posted by R Poirier | Report as abusive

With the billions in profits recently reaped in the industry the oil refiners are not in need of cash. They already have it all! It appears the oil refiners followed the Big 3 to the edge of the cliff. Now all they need is a little push! I have no good things to say about oil refiners or the oil industry. If I had an affordable choice for my personal transportation that didn’t use a drop of oil, I’d make that decision in a second. No sympathy here – none.

Posted by david | Report as abusive

What has the Dept. of Energy done to justify its cost/budget? Our energy costs are killing us while the big boys in oil are cleaning up. Whats with all the gas stations being sold to foreigners ? John D

Posted by ginsengjohn | Report as abusive

I would not count refiners out yet. Ethanol will replace only about 15% of a gallon of gas in the next 5 years. How many refineries have been built in the U.S. in the last 20 years?—Anwser=ZERO. Do a web search of an E-85 gas station near you? If you live in the midwest you might get 20 hits, if you live on the west coast you might get one within 50 miles. The electric car?, the 85% ethanol car? A dream for fools. The cost to rebuild the economy for new fuel sources, or a pump or plug in near you. 900 billion dollars. We gave that away last month, chump change I guess when you are two trillion dollars in debt.

Posted by peterpan | Report as abusive

It amazes me of how many people see somebody making the right decision as a “class war” issue. If you wanted to price of gas 6 months ago to be lower, you should have invested in the production of gas. Some people did. They made money. Good for them.

They may lose money now that the price of gas is lower. Fine. That’s how the market works. You make money when you’re right. You lose money when you’re wrong.

Of course the leftists (including Republican leftists, like Bush and McCain) want to reverse that, and make it “you lose money when you’re right, you make money when you’re wrong — but only if you’re ‘too big to fail’”. This new Socialist economy will result in a huge fall in standard of living, and eventually, if carried to it’s logical conclusion, famine.

Will those who think that success is bad and failure good finally be happy when starvation is widespread? Nope. They’ll blame it on “greedy profiteers” and “excessive freedom”, and continue their destruction of freedom and prosperity.

Socialists never learn.

Why not increase the availability of diesel passenger vehicles in N America to bring the gasoline/diesel usage ratio to one approaching the output capacity and forget export and import?

Posted by MINIME | Report as abusive

If a battery cannot power a car’s air-conditioner for a few hours during the summer or its heater during the winter, call me spoiled but I wouldn’t want to be in an electric vehicle. Cities are optimized for automotive traffic. Profit margins are too low to pay indirectly through taxes for the high cost of infrastructure. Driving an automobile is getting quite expensive if we look at the disposable pay of a person after all taxes including property and sales taxes. So to me the U.S. markets are destined to collapse – in much the same way the automotive industry originally propelled its growth. The capital markets exist only to support growth. In the absence of growth, the markets have no value. Anyways as far as refineries go, I guess these operations occupy an efficient and mature sector destined for shrinking margins.

Posted by Don | Report as abusive

Ethanol is a terrible idea! The article doesn’t mention the fact that it takes more energy to produce 1 gallon of ethanol then 1 gal of ethanol provides. What makes up the difference? Diesel! It is used in nearly all farm machinery and in all transport trucks. Not only is it a horribly inefficient fuel but it takes up valuable farm land that could be used for growing FOOD! Only a “brilliant” politician like Bush could come up with such a crackpot plan!

Posted by Dave | Report as abusive

in japan they’ve invented a car that runs on water. using fossil fuels or ethanol to power our vehicles is primitive, polluting technology, time to say good-bye to the gas station.

Posted by wizard five | Report as abusive

You people are so wrong. Do have any idea how many thousands of people will lose their jobs if oil companies don’t make good profit. No profit, no new projects, no research for new alternative fuels. Instead of looking at the big picture, your just worried about your 5 to 10 dollars/tank of gas.

Now we have to listen to the Arabs; bring back the price to US75 otherwise the whole industry will collapse.The next alternative will be to use water which the Japanese have done.Alternate energy use should have been planned well otherwise they themselves will cause problems; shortage of corn and soya.Barack Obama’s economic advisers must look into this immediately before the whole world collapses.

Posted by isahbiazhar | Report as abusive

Maybe owners of oil refineries need to buy renewable fuel facilities – “ethanol plants” – to help offset their loses from plain ‘ole market competition. Change is tough but really the industry has not had any competition until now. Is Ford and GM better off with competition from Honda and Toyota? No. But the American public has benefited with better cars because of competition. The idea of one source of energy to power automobiles is over. The American public must have a diverse source of energy options: electricity, gasoline, diesel, propane, ethanol, biodiesel, natural gas, etc. A passenger vehicle that can use either 2 or 3 choices of energy given the price of the day will cause enough market competition to give the American Consumer free choice at the fuel station – better for the economy, better for national security, and better for the planet. Lets give competition a chance. What would life be if we only ate bread and bread alone. Think of walking into a grocery store and all you have is bread to choose from – pretty boring. I’m ready for an exciting future of the energy industry. All those involved just need to take a breath and diversify their energy services to the public. the public always wants choice and car companies better know this.

Posted by mm | Report as abusive

oil companies hah hah, its all about one thing billions in profit. thats with a B not with an M. They dont care about the working man, its politicans and money, money, money, there is no dangerous combination than that!

well in this situation both demand and supply should be balanced that poor consumer would not effect badly like what happen in past when the prices was very high and people don’t have money to save. So both demand and supply should be balance equally that in future we all wont face the supply shortage and again it gonna jump to above $100.

Posted by Muttaqi | Report as abusive

2008
5:56 am GMT

– well in this situation both demand and supply should be
– balanced that poor consumer would not effect badly like
– what happen in past when the prices was very high and
– people don’t have money to save. So both demand and
– supply should be balance equally that in future we all
– wont face the supply shortage and again it gonna jump
– to above $100.
– – Posted by Muttaqi

The futures market is the machine which does this balancing. The problem is that nobody knows what future conditions will be. We guess. We do the best we can. Anyone who is willing to put their money where their mouth is can participate, through the commodities and commodity futures market in this great feat of prognostication. People who have made good predictions in the past can use their profits to continue to predict. People who have made bad predictions lost money, and so are less able to move the market in the future. It ain’t perfect, but it’s the best *possible* system.

The problem with the Socialist ideal — the government should make these decisions for everybody — is that it presumes that anybody who works for the government is omnipotent and omniscent. Having lived under George Bush’s sad, pathetic reign should have eliminated that superstition, but the socialists now think that Obama has some magic ability to know the future. He doesn’t. Nobody does.

We are imperfect human beings, ignorant of our future, and we have two choices: we can accept our humanity, and live under a capitalist system where we are free to benifit when we’re right and take responsibility when we’re wrong, or we can switch to a socialist system where when the dictator is right everyone benifits and when he’s wrong everyone suffers — except for his henchmen, who still live well at our expense.

I’d rather suffer for my own mistakes than suffer for somebody elses. I’ll take capitalism any day.

[...] <>Bleak outlook for U.S. oil refinersU.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable. [...]

[...] <>Bleak outlook for U.S. oil refinersU.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable. [...]

[...] <>Bleak outlook for U.S. oil refinersU.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable. [...]

[...] <>Bleak outlook for U.S. oil refinersU.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable. [...]

[...] <>Bleak outlook for U.S. oil refinersU.S. refiners now have too much capacity and produce the wrong products (gasoline) in a fuel economy increasingly dominated by ethanol and diesel. Capacity cuts of as much as 0.5-1.0 million bpd (equivalent to 4-8 average refineries) and expensive investment to reconfigure the system to increase the diesel yield seem inevitable. [...]

Exede

You can unquestionably see your skills inside the perform you create. The world hopes for much more passionate writers like you that are not afraid to mention how they believe. On a regular basis observe your heart.