The slowing demand for petro products globally and a glut in upcoming refining capacity in the country do not bode well for the refinery sector
DOMESTIC petroleum refiners, who have been enjoying rising refining margins over the past couple of years, reported record high refining margins during the quarter ended June ’08. However, there are definite signs that the industry may have hit a peak and the way forward is just downwards. The growth in demand for petroleum products is slowing down and with a number of refinery projects coming onstream, supply of these petroleum products is set to go up substantially.
The International Energy Agency (IEA) — the energy policy advisor to 27 developed countries — has downgraded the estimated growth in petroleum products demand to just 0.86 million barrels per day (mbpd) in ’09. compared to an increment growth of 0.89 mbpd in ’08. According to the latest estimates, the global demand for oil is expected to inch up 1% to 87.7 mbpd in ’09, compared to 86.9 mbpd in ’08.
High energy prices and economic slowdown are weighing down on the consumption of petroleum products. Today, the slowdown in product demand is so severe that the margins available on production of petrol, naphtha and fuel oil for refineries have turned negative. It is only the high price of diesel, thanks to an unusual spurt in global demand, which is helping refiners post gains in their refining operations. But the demand growth for diesel owes itself to a number of extraordinary events, such as nuclear power outages in Japan, China’s stocking up prior to the Olympics, power outages in India and South Africa, and natural gas outage in Australia. The scenario can worsen for the global refining industry, once these extraordinary factors vanish.
While the demand for refined products is slowing, the supply is actually going up. In fact, a number of refinery projects are scheduled to commission between now and ’12 — the first and the foremost being Reliance Petroleum’s 0.58-mbpd refinery, which will single-handedly “represent almost 50% of the estimated global oil demand growth in ’09,” as informed by chairman Mukesh Ambani. And this is not the only refinery coming up this year.
IEA, in its latest medium-term oil market report, estimates that an additional 1.49 million bpd of refining capacity will come up in ’08, followed by another 1.83 million bpd in ’09 and so on. Thus, the increase in supply of refined products is likely to outpace the estimated growth in demand, creating a glut-like situation. A number of regions, which are currently net importers of petroleum products, are expected to turn net exporters during this period. IEA’s (July ’07) medium-term oil market report mentions, “Out of the 10.6 mbpd refining capacity expected to come up by ’12, the Middle East and Asia account for 6.7 mbpd, with refining capacity growth in these regions exceeding regional product demand.” Similarly, the Chinese refinery expansions are forecast to reduce Chinese distillate imports over the course of ’08 and restore China’s net exporter status by the end of ’09.
Besides the new refinery projects, a number of refineries are investing in capacity expansion or upgradation projects. These projects will improve their product slate, thereby minimising the production of heavy distillates, such as fuel oil, and increasing the production of petrol and diesel. This, too, will add to the supply of these transport fuels. At the same time, increasing supplies of bio-fuels will keep the incremental demand for petroleum products under check. “Global gasoline supply potential will increase significantly in ’09, thanks to the increase in refining capacity in Asia and North America, and increasing supplies of ethanol. Against this, weak global demand growth is forecast in the major consuming regions,” noted IEA in its latest monthly oil market report. In the current scenario, the availability of sweet and light crude oil is reducing globally, even as the availability of heavy crude oil (or that with high sulphur content) is increasing. At the same time, the environmental norms are getting tighter. For example, the European diesel markets will move to 10 ppm (particles per million) sulphur limits from January ’09 under the Euro-V standard, from 50 ppm currently. Anticipating these changes, the new refineries are being built to not only process the worst quality of crude oil, but also to produce cleaner fuels. This will eventually increase the demand for high-sulphur heavy crude oil, which is currently trading at a huge discount to light and sweet crude oil.
As a result, the current price differential between the worst and best crude oils will narrow down. Thus, the refining operations of these new refineries will not be as profitable as is being estimated currently.
All these trends are likely to affect the profitability of domestic refiners negatively. Going forward, domestic refiners will witness a pressure on their gross refining margins (GRMs), which represent the differential between the prices of products and the cost of crude required to produce them.
The refineries may also face pressure on capacity utilisation levels. In short, the capital appreciation in refinery sector scrips is likely to stagnate over the next one year.
DOMESTIC petroleum refiners, who have been enjoying rising refining margins over the past couple of years, reported record high refining margins during the quarter ended June ’08. However, there are definite signs that the industry may have hit a peak and the way forward is just downwards. The growth in demand for petroleum products is slowing down and with a number of refinery projects coming onstream, supply of these petroleum products is set to go up substantially.
The International Energy Agency (IEA) — the energy policy advisor to 27 developed countries — has downgraded the estimated growth in petroleum products demand to just 0.86 million barrels per day (mbpd) in ’09. compared to an increment growth of 0.89 mbpd in ’08. According to the latest estimates, the global demand for oil is expected to inch up 1% to 87.7 mbpd in ’09, compared to 86.9 mbpd in ’08.
High energy prices and economic slowdown are weighing down on the consumption of petroleum products. Today, the slowdown in product demand is so severe that the margins available on production of petrol, naphtha and fuel oil for refineries have turned negative. It is only the high price of diesel, thanks to an unusual spurt in global demand, which is helping refiners post gains in their refining operations. But the demand growth for diesel owes itself to a number of extraordinary events, such as nuclear power outages in Japan, China’s stocking up prior to the Olympics, power outages in India and South Africa, and natural gas outage in Australia. The scenario can worsen for the global refining industry, once these extraordinary factors vanish.
While the demand for refined products is slowing, the supply is actually going up. In fact, a number of refinery projects are scheduled to commission between now and ’12 — the first and the foremost being Reliance Petroleum’s 0.58-mbpd refinery, which will single-handedly “represent almost 50% of the estimated global oil demand growth in ’09,” as informed by chairman Mukesh Ambani. And this is not the only refinery coming up this year.
IEA, in its latest medium-term oil market report, estimates that an additional 1.49 million bpd of refining capacity will come up in ’08, followed by another 1.83 million bpd in ’09 and so on. Thus, the increase in supply of refined products is likely to outpace the estimated growth in demand, creating a glut-like situation. A number of regions, which are currently net importers of petroleum products, are expected to turn net exporters during this period. IEA’s (July ’07) medium-term oil market report mentions, “Out of the 10.6 mbpd refining capacity expected to come up by ’12, the Middle East and Asia account for 6.7 mbpd, with refining capacity growth in these regions exceeding regional product demand.” Similarly, the Chinese refinery expansions are forecast to reduce Chinese distillate imports over the course of ’08 and restore China’s net exporter status by the end of ’09.
Besides the new refinery projects, a number of refineries are investing in capacity expansion or upgradation projects. These projects will improve their product slate, thereby minimising the production of heavy distillates, such as fuel oil, and increasing the production of petrol and diesel. This, too, will add to the supply of these transport fuels. At the same time, increasing supplies of bio-fuels will keep the incremental demand for petroleum products under check. “Global gasoline supply potential will increase significantly in ’09, thanks to the increase in refining capacity in Asia and North America, and increasing supplies of ethanol. Against this, weak global demand growth is forecast in the major consuming regions,” noted IEA in its latest monthly oil market report. In the current scenario, the availability of sweet and light crude oil is reducing globally, even as the availability of heavy crude oil (or that with high sulphur content) is increasing. At the same time, the environmental norms are getting tighter. For example, the European diesel markets will move to 10 ppm (particles per million) sulphur limits from January ’09 under the Euro-V standard, from 50 ppm currently. Anticipating these changes, the new refineries are being built to not only process the worst quality of crude oil, but also to produce cleaner fuels. This will eventually increase the demand for high-sulphur heavy crude oil, which is currently trading at a huge discount to light and sweet crude oil.
As a result, the current price differential between the worst and best crude oils will narrow down. Thus, the refining operations of these new refineries will not be as profitable as is being estimated currently.
All these trends are likely to affect the profitability of domestic refiners negatively. Going forward, domestic refiners will witness a pressure on their gross refining margins (GRMs), which represent the differential between the prices of products and the cost of crude required to produce them.
The refineries may also face pressure on capacity utilisation levels. In short, the capital appreciation in refinery sector scrips is likely to stagnate over the next one year.
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