Refining Industry: Woes Are Not Over Yet

HIGH crude oil prices, low demand and burgeoning inventory levels continue to haunt the global refining industry, which is witnessing a steep fall in margins, forcing production cuts. The industry is going through a transformation, as new refineries in India and China are ramping up production, while their counterparts in the West are curtailing it. As the International Energy Agency — an energy advisory to the 28 industrialised OECD nations puts it — ‘the refining industry is grappling with the outlook of persistently weak profitability’.
The seasonal demand of fuel oil, which usually peaks in the winter months, is pretty low this year. The US department of energy expects the country’s fourth-quarter fuel demand to dip 7% against the year-ago period due to recession. High inventory, too, is a problem. The fuel oil stocks in the US typically peak close to 135 million barrels in November or December before being drawn down through the remaining winter months. However, by end-September ‘09, the stocks had crossed 170 million barrels — more than 25% higher than the typical peak. This spurt in crude oil prices, without a commensurate increase in refined products, has resulted in severe erosion in refining margins. According to the global indicative margins computed by British Petroleum (BP), the refining margins for the September-December 2009 quarter are likely to be the lowest-ever since 1990 when the computing began. Till date, the fourth quarter indicative margin stands at $1.12 per barrel against an average of $4.87 in the January to September 2009 period, or $5.19 for the fourth quarter of 2008.
No wonder that the refiners are now cutting down production as much as is economically feasible. According to the Organization of Petroleum Exporting Countries (OPEC), the refining capacity utilisation for October 2009 was 81.9% in the US, 81.2% in the Europe and 81.3% in Japan. Although the current low utilisation level could improve, the inventory pile-up will prevent any sharp spurt in the next few months. The current situation is turning out to be a good opportunity for growth-oriented Asian companies to expand their presence in target regions through acquisition of assets. Reliance Industries is currently negotiating with LyondellBasell in Europe, while Essar Oil is negotiating with Shell for its three European refineries. At the same time, companies such as Cals Refinery and Nagarjuna Oil are in the process of dismantling and relocating refinery units from Europe to India. The refining industry is currently going through a painful, though necessary, process of transformation. Although domestic refiners are operating at over 100% of their rated capacities, their refining margins are set to suffer. Unless crude prices ease, the next few months appear difficult for petroleum refiners.