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The dying Dinosaur

It is the best of times and the worst of times – such is the complexity of the global refining industry set in a state of transition as demand and supply shift from developed to developing economies.

Europe’s refining industry is shrinking dramatically, giving way to other, more agile players to claim a portion of its ample market share.
Europe’s refining industry is shrinking dramatically, giving way to other, more agile players to claim a portion of its ample market share.

By Mahin Siddiqui and Slavka Atanasova

It is the best of times and the worst of times – such is the complexity of the global refining industry set in a state of transition as demand and supply shift from developed to developing economies.

After a year of strong margins, Europe, the traditional refining behemoth, was swept by a wave of plant closures, consolidations and sell-offs of once viciously guarded stakes in lucrative refining ventures.

Europe had a rude awakening in January 2012 when Swiss refiner Petroplus filed for bankruptcy after an 85-year refining sprint. Two years later, shocked politicians and expectant industry professionals saw as many as 15 refineries shut down by December 2015.

Refineries, while necessary, are expensive to run offering little if any return on investment on upgrades. And Europe’s elderly refineries had already been squeezed due to rising crude prices combined with high taxation systems and outdated business models. Low crude oil prices have only served to put strain on refining budgets in Europe where the crippled industry can neither upgrade nor sell ailing refining dinosaurs.

“The closure of European refineries is well underway and it is a trend that is unlikely to reverse,” said Brij Mohan Bansal, director of Gulf Petrochem Group.

Bansal believes the two main factors that will continue to drive refinery closures in Europe are growing competition from new refineries in the Middle East, particularly China and India, followed by Europe’s near-zero economic growth.

A conscientious European population is choosing to be more environmentally friendly, contributing to declining fuel demand as hybrids and electrical cars enter the market.

At the same time, Europe’s more traditional refiners are feeling the disruptive force of a emerging but highly competitive biofuel industry.

The highest number of shutdowns are taking place in France, where since 2008 refining capacity has shrunk by 30% to 1.4mn bpd. At the start of last year, the country’s supermajor and Europe’s largest refiner, Total, unveiled plans to halve production at its 207,000 barrels-per-day Lindsey refinery in the UK, while its CEO and former refining head, Patrick Pouyanne, said Europe had to let go of 1.5mn bpd of its refining capacity by the end of the year.

Bankers and financial experts gave an even higher estimate of 2mn bpd, which is the equivalent of 10 plants, citing La Mede, another one of Total’s plants, as the most vulnerable, along with Eni’s Taranto and Livorno and Tamoil’s 55,000 bpd Collombey refinery in Switzerland. Following a similar trend to its French rival, BP announced it would sell around $5bn worth of assets, including in downstream, having shut down or sold 14 refineries since 2000.

For international oil companies, low refining margins such as those in Europe will mean weathering low Exploration & Production (E&P) profits and stale downstream deals. The likes of Shell and BP will prefer to rely on independent oil refiners to take the onus of supplying fuel to the market even as private markets risk a heavy debt cycle like Petroplus.

Undoubtedly, global refining trends have changed dramatically and no region is more impacted than Europe.

“Whereas before, brands were competing with other brands, Total was competing with Shell and Shell was competing with Total, now, within the same brand, production facilities are competing with each other,” said Alain Hermans, process automation solutions manager for Europe, Middle East and Africa at Rockwell Automation.

“That’s because of market economics but also because of globalisation. In France, Total used to have about three or four refineries. Now, it only has two left.” According to Hermans, refineries are increasingly being built closer to the source due to advantages such as proximity of feedstock and availability of resources, but also because of rising transportation costs.

“We are seeing a growing trend, especially in the Middle East, where companies want to build their own refineries because that makes them less vulnerable to oil price fluctuations. The time it takes to set up a refinery is also shrinking enormously,” Hermans added.

This growing trend is spurring increased downstream collaboration between European and Middle Eastern players outside the continent, a prime example being the 400,000 bpd refinery managed by the Total-Aramco joint venture — Satorp.

Northwest Europe is suffering from refining overcapacity, with stocks of gasoline and diesel near record high. However, the reality remains that demand for fuel while diminished, is here to stay.

According to some estimates, a combined 667.3mn bpd could go offline between Germany, Belgium, France and Switzerland, putting supply at stake as independent refineries shut down or employ unsustainable business models. In France, for instance, domestic demand is outstripping supply, as current capacity stands at 1.4mn bpd, and to meet the local market’s needs it requires an extra million a day.

Against the backdrop of Europe’s downstream blues, refineries in the Middle East have been running at full speed. According to the BP’s Statistical Review of World Energy, the region’s refining capacity expanded by a record 740,000 bpd in 2014, leading many to believe it is best placed to bridge the gap between supply and demand in Europe.

“The rapid growth of the Gulf’s refining sector in recent years has largely been in response to Europe’s dying downstream industry and the Gulf’s rising domestic and Asian oil demand,” said Mohan.

“Saudi Arabia’s latest 400,000 bpd Jazan refinery is expected to start in 2017, while the UAE’s $10bn Ruwais expansion project has nearly doubled capacity from 400,000 bpd. After a decade of delays, Kuwait is hoping to finish the $15bn Al Zour refining project by 2019. The 615,000 bpd project will be the region’s largest single refining infrastructure project.

“The complexity and integrated nature of the new refineries in the Middle East distinguish their longevity from Europe’s dying sector. Many of the new refineries emerging in the Middle East also have petrochemical and liquefied natural gas (LNG) capabilities, tacking on additional revenue streams that were out of reach for Europe’s refineries,” he added, noting the Middle East’s diversified offerings and Europe’s outdated produce.

Furthermore, in the east, the Middle East is rallying as the refining hub even while Asia builds its own production centres, closing down export markets for Europe. Savvy refiners have been quick to grasp gaping opportunities by offering new business models to tap into fresh emerging Asian markets. Around 2.5 million barrels of refined product is expected to fill gasoline tanks in India, China and Pakistan from the Middle East’s aggressive expansion plans in Oman, Saudi Arabia, Kuwait and the UAE’s Fujairah.

Most of these yet to come online projects will have modern infrastructure, and a sustainable joint venture business model. At the start of the year, King Salman announced the Yasref refinery – a partnership between Saudi’s Aramco and China’s Sinopec holding 62.5% and 37.5% respectively with a capacity to refine 400,000 bpd using state of the art refining facilities including an impressive distillate hydrocracker and hydro-treater.

Looking east, Asia faces an upward demand for fuel products due to strengthening economies, and an emerging urban population will soon need to satisfy thirst for fast cars with cheap petrol.

Despite widespread panic, China continues to grow at a healthy 6.3% according to the International Monetary Fund (IMF), while Moody’s Investors Service places India’s economic growth between 6.5% and 7.5% in 2016.

However, as Bansal points out, refining capacity in China has grown exponentially in recent years, with India also aiming to become a refining superpower by 2025.

“While the Gulf looks to lock in the market share that Europe has been forced to abandon, it must also keep an eye on emerging refining giants in Asia,” he said.

The great refining transition from traditional Europe to Middle East and Asian region has put Europe’s fuel supply, and its pioneer position in jeopardy. As the Middle East ramps up its refining capacity by employing new technologies and innovative business models, the current under confident investment climate is proving risky for any new outlets in Europe – leaving the region to import not only crude in the future, but also fuel from traditional oil producers as global population becomes youth heavy and global living standards improve around.

However, it is dangerous to envision a future fuel monopoly of such magnitude over Europe as independent players bow out. Should current trends continue, very soon, Europe will be left unrefined and forced to buy petrol, aviation fuel and gasoline at price benchmarks set by determined emerging crude oil producers. While Europe becomes ghost of the Christmas past, a triumphant US is a great beneficiary as the spectacular crude glut continues.

The crude in their possession is priced comparatively lower than what goes in European refineries, while diesel and petrol demand has surged due to low oil prices and an emerging US economy.

According to analysts at Morgan Stanley, 2016 will be another strong year for the United States where consumption will exceed fuel production.

“The US and Middle Eastern suppliers are both eyeing European market share,” said Bansal, giving Kuwait Petroleum International’s European investments as good example of a ‘state-owned’ entity from the region that is well placed to corner more market share.

“There are no guarantees in the year ahead, but there is little doubt that the Gulf is well placed to take on a large portion of Europe’s market share and support Europe and Asia,” Bansal concluded.

Where Europe’s own refined crude will come from, remains another story.

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