CERAWeek ’14: US refiners shift focus to proximity of cheaper crude oil

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HOUSTON -- The decision for BP to divest two US refineries on the US Gulf Coast and West Coast (Texas City, Carson) was made due to a company strategy to prioritize very close proximity to crude feedstocks, a downstream company executive said on Tuesday.

J. Douglas Sparkman, president of BP America’s fuels value chain business for the East of the Rockies region, said the divestments were made because BP believes being close to feedstocks is a competitive advantage over the long-term.

“It’s not enough for us just to have assets in a country,” said Sparkman, who spoke in the Geography and Refining panel session at the IHS CERAWeek 2014 conference. “They need to be in the right location within that country.”

Sparkman and other panelists referred to a chart showing sour coking margins in the US Midwest running well ahead of sour coking margins on the US Gulf and West Coast and sweet cracking margins along the US Gulf. While sour coking in the Midwest has given refiners a net margin of near $25/bbl, all other margins have only netted an average of $5/bbl profit in recent months.

“This is a play that BP has made,” said Sparkman. “We feel there is a long-term persistent advantage that being close to crude source gives you an opportunity to get your returns above the competition.”

To that point, BP recently completed a multi-year, multi-billion dollar modernization project at its Whiting refinery in Northwest Indiana, located in relatively close proximity to those Midwest crudes as well as to the Alberta oil sands in Canada. The Whiting project concluded with the start-up of BP's new 102,000 bpd coker in November 2013.

Looking ahead, Sparkman said BP believes the “transportation differential” is expected to last. That refers to the difference in crude cost between the location where they are produced and after they clear the market.

“In the Midwest, that differential on heavy crudes ends up being 20-to-25 dollars [per barrel],” he said. “We expect this to last.”

Panelists also referred to another chart showing an average 8% return on investment for US refiners over a recent 20-year period from 1990 to 2009. That rate lagged the comparative number from international refiners, both US and international exploration and production (E&P) businesses, and the total petroleum industry as a whole.

For diversified energy majors such as BP, that number was simply not enough, Sparkman explained.

“We all realize that an 8% return is not sustainable, especially with upstream returns that have much more,” said Sparkman. “BP still believes that downstream is an important cash contributor, and we are expected to continue playing that role into the future, so we had to adjust.”

Meanwhile, smaller and independent firms are stepping in to fill some of the void. Bruce Fleming, vice president of mergers and acquisitions for Tesoro, also spoke on the panel. He noted that with the majority of US refining capacity now in the hands of independents rather than oil majors, different strategies are to be expected.

“If you’re a global player and you have other operating divisions like upstream and chemicals and their returns are more attractive, the strategy is going to be to shift that capital to more attractive areas,” Fleming said. “That trend has been underway with global majors for quite some time. Specialty operators like Tesoro and emerging refining players are coming in to pick up the refining assets.”

Tesoro, in fact, was the company that actually bought BP’s Carson refinery, located just outside of Los Angeles. Fleming said he completely understood why BP made the decision to divest the refinery, given their broad interests, and why it also made sense under Tesoro’s more narrow strategy to acquire it.

Outside of Carson, Fleming also pointed to his company’s Anacortes refinery in Washington as a potential template.

“It’s a West Coast refinery, but it’s not running West Coast crudes anymore,” said Fleming. “It’s running a mix of pipeline crudes from Canada and rail crudes from Midwest. That was a choice that we made at that facility on how we would play the competition.”

With regards to the price spread between WTI and Bakken crudes, Fleming said that the way the industry responds will be key. Tesoro is betting on the differential to remain in place for some time, and is hopeful that logistics can be arranged to extract those advantaged Bakken crudes to refineries in different parts of the country.

“There will be winners and losers among competitors,” said Fleming. “It’ll be interesting to see who has the smart path forward, and right now it’s not clear who that’s going to be.”

The IHS CERAWeek 2014 conference continues through Friday at the Hilton Americas in downtown Houston.

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