Oil refining executives warned this past spring that conditions would remain tough for much of the year; however, they turned cautiously optimistic as demand for gasoline [image-nocss] and diesel, which fell sharply last year, started to tick higher.
This caused margins for selling petroleum products versus the cost of crude oil to widen ahead of the peak summer driving season. After posting a year's worth of quarterly losses, refiners including Valero Energy Corp., Sunoco Inc. and Frontier Oil Corp. are expected to swing to a profit when they report second-quarter results in a few weeks.
On Monday Chevron said its second-quarter results "are expected to benefit from stronger U.S. refining margins" after the downstream operations acted as a drag on results in recent quarters.
The sustainability of refiners' profits is highly uncertain, however. While demand for transportation fuels has started to eke higher, growth in gasoline consumption is subdued because so many people are out of work. Now, the recent spate of disappointing economic data releasessuch as the widening U.S. trade deficit, a drop in retail sales and weak unemployment numbersis raising concern about industrial demand for diesel and other fuels. Refiners have pinned their hopes on a recovery in industrial demand in the United States and abroad to drive profit growth at their companies. Fuel inventories also remain at unusually high levels.
"I don't see there being a real opportunity for upside here," although refinery outages for hurricanes and other supply disruptions may spark temporary price spikes, Michael Wojciechowski, senior refining analyst at consultancy Wood MacKenzie told Dow Jones.
Over the past year, refiners have been trying to fight weak demand by cutting costs aggressively, including trying cheaper crude blends. It is unclear how much further they can tweak operations to improve efficiency with an excess of U.S. refining capacity.
"In my mind, the optimism for the second half of the year is misplaced," Mark Gilman, oil and gas analyst at The Benchmark Co. told the news agency. "On balance we are looking for losses...given my expectation the margin environment will deteriorate significantly in the second half."
As market conditions worsen, the refiners will have to prove whether their cost-cutting efforts were effective. Valero, the U.S.'s largest refiner by capacity, still expects to be profitable in 2010 "even if we have a low-margin environment like we did last year," company spokesperson Bill Day told Dow Jones. "That's partly because of the slightly improved economy but it's also because we've undertaken a pretty significant cost-cutting structure."
Valero and Sunoco have shut and sold refineries in the last year to increase operations at other plants.
Margins vary widely across individual refining facilities, but a key benchmark for measuring the industry's profitability is through the crack spread, or the per-barrel price difference for refined products compared with crude oil.
With benchmark gasoline prices down 16% from their May 3 peak, the gasoline crack spread is down 39% since topping out this year at $17.88 a barrel on May 14. The benchmark price for distillates such as diesel has dropped 14% from early May, with that crack spread also dropping 39%. Meanwhile, the price of the crude oil refineries must buy to make their products fell only 12%.
U.S. refining margins typically tumble after the July 4 holiday, said Barclays Capital analyst Paul Cheng. "My expectation is that, absent an active hurricane season, margins will continue to turn over in the next two to three months and bottom in a September-October time frame," he told the news agency, adding the gasoline crack spread could drop as low as $5 a barrel.
Distillate crack spreads, which tend to rise toward the end of the year ahead of the winter heating season, could fall by $3-$4 a barrel, even assuming the economy doesn't suffer a feared "double dip" recession, Cheng said. Given lackluster outlook for demand to run through the huge distillate inventory, distillate margins could remain weak.
Meanwhile, the U.S. Energy Information Administration (EIA) said that influenced by both recent market developments and the market outlook, refinery capacity fell during 2009 for the first time since 2003.
In the mid-to-late1990s, demand for petroleum products grew to the point where refineries averaged more than 92% capacity utilization for several years, leading to capacity expansions at existing refineries; however, from late 2007 through the first half of 2009, petroleum demand declined, reflecting the combined effect of the economic downturn, increasing petroleum prices through mid-2008 and the increased use of ethanol blended into gasoline, resulting in excess refining capacity and a refinery utilization rate of only about 83% in 2009. Looking forward, the schedule of higher standards for new-vehicle fuel efficiency and the continuing phase-in of increased mandates for the use of renewable fuels limit the potential for growth in petroleum demand.
As of Jan. 1, 2010, EIA's Refinery Capacity Report showed there were 148 refineries in the United States with an operable capacity totaling 17,583,790 barrels per calendar day, down 87,760 barrels per day from Jan. 1, 2009. The decrease in capacity is mostly due to the shutdown of two refineries, Sunoco Inc.'s 145,000-barrel-per-day (bpd) Eagle Point refinery in Westville, N.J., and Valero Energy Corp.'s 182,200-bpd Delaware City, Del., refinery. These declines were offset, in part, by the expansion at Marathon Oil Corp.'s Garyville, La., refinery which showed an increase of 180,000 barrels per day.
Of the 148 U.S. refineries, 137 were operating and 11 were idle on Jan. 1, 2010. Several refineries reported idle capacity because of routine maintenance that happened to fall on January 1. Some smaller plants including the Flying J (Big West) refinery in Bakersfield, Calif., and the Western Refining facility in Bloomfield, N.M., have been completely idled; however, because they could be restarted within 30 days, they were not classified as shut down.
With the shutdown of Valero's Delaware City plant, Exxon Mobil Corp. replaced Valero as the industry leader in total refining capacity, a position Valero had held since Jan. 1, 2007. ConocoPhillips and BP PLC were ranked third and fourth, respectively, for the fourth year in a row. Marathon moved back into the fifth slot due to expansion of its Garyville refinery. These five companies hold 45.6% of total U.S. refining capacity.
On a PADD level, the rankings by corporate capacity are unchanged from last year. Sunoco continues to dominate PADD 1 (East Coast) with 37% of its capacity. Marathon leads PADD 2 (Midwest) with 18%. ExxonMobil has 16% of the capacity in PADD 3 (Gulf Coast). In PADD 4 (Rocky Mountain), Suncor Energy Inc. leads with 16% of capacity, while Chevron Corp. has the most capacity in PADD 5 (West Coast) with 18%.
Overall, during 2009, there was a slight decrease in capacity for units downstream from the ACDU. As with the decline in ACDU capacity, the downstream unit decline is mostly due to the shutdown of the Delaware City and Eagle Point refineries. The expansion at the Garyville refinery and smaller enhancements to units across the industry helped mitigate those reductions.
The EIA, in its most recent "This Week in Petroleum," said U.S. average gasoline and diesel prices continue to slide.
Dropping for the second week in a row, the U.S. average price for regular gasoline slipped a penny to $2.72 per gallon. The national average was $0.19 higher than last year. With the exception of the Midwest, average prices declined in all regions of the country. On the East Coast and Gulf Coast, the averages each dropped more than a penny and a half, to $2.66 per gallon and $2.56 per gallon, respectively. Despite an increase of less than a half cent, the average in the Midwest was essentially unchanged at $2.68 per gallon. The average in the Rocky Mountains slipped over a cent to $2.74 per gallon. The West Coast average fell about a cent to settle at $3.04 per gallon and the California price dipped less than a half cent to $3.11 per gallon.
The retail diesel fuel price decreased for the third consecutive week, falling two cents to $2.90 per gallon; however, the average remained 36 cents above the price a year ago. East Coast prices fell over two cents to $2.92 per gallon, while the Gulf Coast average slipped a penny to $2.86 per gallon. The largest decline took place in the Midwest, where the average fell two-and-a-half cents to $2.87 per gallon. The Rocky Mountain and West Coast averages each fell about two cents to $2.91 per gallon and $3.06 per gallon, respectively. In California, the average dipped a penny to $3.12 per gallon.
Members help make our journalism possible. Become a CSP member today and unlock exclusive benefits, including unlimited access to all of our content. Sign up here.