Refinery Investments and Future Market Incentives Joanne Shore John Hackworth U.S. Energy Information Administration September 29, 2008 Platts 2 nd Annual.

Refinery Investments Refinery Investments and Future Market and Future Market

IncentivesIncentives

Joanne ShoreJohn Hackworth

U.S. Energy Information Administration

September 29, 2008Platts 2nd Annual European Refining

Markets Conference

Overview: Factors Affecting Overview: Factors Affecting Investment DecisionsInvestment Decisions

• Demand: Growth and Mix Shift

• Feedstocks: Incentives to use lower quality feedstocks (Light-heavy differentials)

• Margins

Future Demand Growth and Product Future Demand Growth and Product Mix ShiftsMix Shifts

• Growth: Mainly outside the Atlantic Basin

• Product Mix Shifts & Investment:– U.S. – Different future– Europe – Continued

shift in from gasoline to distillate

– Asia – Less issue of shift than of growth

World Consumption Growing: Largest World Consumption Growing: Largest Growth Outside U.S. & EuropeGrowth Outside U.S. & Europe

0

10000

20000

30000

40000

50000

1967

1975

1983

1991

1999

2007

Other

Fuel Oil

MiddleDistillates

Gasoline/Naphtha

KB/D

0

10000

20000

30000

40000

50000

19

67

19

75

19

83

19

91

19

99

20

07

KB/D

U.S. & Europe Rest of World Excl FSU

Source: BP World Statistical Review of World Energy June 2008

Europe Major Driver of World Consumption Europe Major Driver of World Consumption Mix Shift Towards DistillatesMix Shift Towards Distillates

0.0

0.5

1.0

1.5

2.0

2.5

19

87

19

89

19

91

19

93

19

95

19

97

19

99

20

01

20

03

20

05

20

07

EuropeAsia

Rest of World Excl FSU

United States

Ratio of Middle Distillates/Gasoline & Naphtha

Source: BP World Statistical Review of World Energy June 2008

Atlantic Basin Price Incentives Shifting Atlantic Basin Price Incentives Shifting Toward DistillatesToward Distillates

-50

-30

-10

10

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70

90Ja

n-9

5

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Cen

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allo

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Spot Heating Oil Price - Gasoline Price Differences

NY Harbor

Northwest Europe

Source: Bloomberg New York Harbor Conventional Gasoline, No. 2 Heating Oil; NW Europe 0.2% Heating Oil and Premium Gasoline

U.S. – Steps to Increased Distillate U.S. – Steps to Increased Distillate

• Operating changes – Beginning to see U.S. system potential to shift from gasoline to distillate

• Planned hydrocracking investments (Marathon Garyville, Motiva Port Arthur, Valero)

U.S.: Distillate Focus This Summer U.S.: Distillate Focus This Summer Illustrated Operating Yield Shift PotentialIllustrated Operating Yield Shift Potential

-10

-5

0

5

10

15

-12 -10 -8 -6 -4 -2 0 2 4 6

Gasoline Yield Change (Percentage Points)

Dis

tilla

te Y

ield

Ch

ang

e (P

erce

nta

ge

Po

ints

)

PADD 2

PADD 3

Refinery Yield Shifts Apr-May 2007 to Apr-May 2008

Source: EIA Form 810

U.S. Petroleum-Based* Gasoline and Distillate U.S. Petroleum-Based* Gasoline and Distillate Fuel Needs ShiftFuel Needs Shift

Million Barrels Per

Day2007 2022

Growth to 2022

Petroleum Gasoline

8.85 8.24 -0.61

Petroleum Distillate

4.22 4.71 +0.49

* Petroleum-Based excludes ethanol, biodiesel, and distillate from coal-to-liquids and biomass-to-liquids. Source: AEO 2008 Reference Case

Future U.S. Investment to Produce Future U.S. Investment to Produce More DistillateMore Distillate

• Equipment changes: – Cut-point shifts

– Distillation efficiency

– Hydrotreating expansion

• Catalyst changes – FCC catalysts to produce more light cycle oil

• Planned hydrocracking investments coming on stream

• May not need more to satisfy U.S. demand shift and increase some exports of distillate

Increasing European Distillate Increasing European Distillate ProductionProduction

• Refineries are already operating at maximum distillate potential (unlike the U.S.)

• Historical investments resulted in making more distillate by destroying residual fuel rather than reducing gasoline production.

OECD Europe: Imbalance Between Refining OECD Europe: Imbalance Between Refining and Demand Met with Imports/Exportsand Demand Met with Imports/Exports

-1,500

-1,000

-500

0

500

1,000

1,500

19

97

19

99

20

01

20

03

20

05

20

07

Thousand Bbls/Day

Middle Distillates

Gasoline

European Refinery Yields Net Import/Export Balance

1997 2007

Distil-late

44.8% 48.0%

Gaso-line

26.6% 25.7%

Source: IEA August 2008 Data Base

Europe: What Next for Product Mix Europe: What Next for Product Mix Investment?Investment?

• Seeing more distillate production investment in Southern Europe. Hydrocracking expansions include:– Portugal 50 KB/D– Spain 180 KB/D– Italy 70 KB/D– Greece 30 KB/D– Total 330 KB/D

• Biodiesel

Feedstocks: Investing to Take Advantage of Feedstocks: Investing to Take Advantage of Widening Light-Heavy DifferentialsWidening Light-Heavy Differentials

• Drivers behind the widening price difference– Supply of light crude– Product market influences

on the price differentials

• Conversion capacity impacts on differentials

Supplies of Light Sweet Crude Supplies of Light Sweet Crude Increasing in Atlantic BasinIncreasing in Atlantic Basin

Million Barrels per Day EIA EIA EIA EIA EIA EIA

Wood Mac-kenzie

2005 2006 2010 2015 2020 2005-2015 2005-2015 OECD Europe 5.9 5.5 4.5 3.8 3.4 -1.7 -0.9 North Africa 3.8 3.9 4.7 5 5.1 1.1 0.4 West Africa 3.9 3.9 5.1 5.7 5.9 1.8 2.5 Caspian Area 2.1 2.3 3.5 4.2 4.5 1.9 2.4 Russia 9.5 9.7 10.2 11.4 12.1 1.7 1.5 Latin America 10.1 10.1 9.7 9.7 10.3 -0.4 0.4

Total 35.3 35.4 37.7 39.8 41.3 4.4 6.3

Atlantic Basin Crude Production Projections

Note: Most growth on this chart is in areas with higher quality crude oils. Latin America includes Venezuela and Mexico with their heavy crude oils, but these areas is not projected to grow much

Source: EIA International Energy Outlook 2008, Wood Mackenzie Presentation NPRA Annual Conference 2007

Light-Heavy Product Price Difference Light-Heavy Product Price Difference Increases with Crude Oil PriceIncreases with Crude Oil Price

$0$20$40$60$80

$100$120$140$160$180

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LLS Crude PriceGC No. 2GC 3% Resid

Crude Oil, Distillate, Residual Fuel Prices ($/Barrel)

Source: Bloomberg spot prices (LLS – Louisiana Light Sweet; GC – Gulf Coast)

Light-Heavy Product Price Differential Light-Heavy Product Price Differential & Crude Oil Price Move Together& Crude Oil Price Move Together

$0

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tial

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GC No.2 - 3% Resid

LLS Crude Price

Crude Price & Product Price Differential ($/Barrel)

Source: Bloomberg spot prices (LLS – Louisiana LIght Sweet; GC – Gulf Coast)

Light-Heavy Price DifferentialsLight-Heavy Price DifferentialsMove TogetherMove Together

$0

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GC No.2 - 3% Resid

LLS-Maya

Crude & Product Price Differentials($/Barrel)

Source: Bloomberg spot prices (LLS – Louisiana Light Sweet; GC – Gulf Coast)

Higher Light-Heavy Price Differences Go With Higher Light-Heavy Price Differences Go With Higher Price Levels – But Much “Scatter”Higher Price Levels – But Much “Scatter”

$0

$5

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$0 $50 $100 $150WTI ($/Barrel)

WT

I - M

aya

($/B

arre

l)

Crude Price vs. Light-Heavy Crude Difference

Source: Bloomberg spot prices

Refiners Continue to Process Crude Refiners Continue to Process Crude without Increasing Fuel Oil Yieldswithout Increasing Fuel Oil Yields

0%

5%

10%

15%

20%

25%

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OECD North America OECD Pacific OECD Europe

Residual Fuel Oil Yields (Residual Fuel Production/Crude Oil Inputs)

Source: IEA August 2008 Data Base

Future Coking Increases: Will Future Coking Increases: Will Expansions Affect Light-Heavy Spread?Expansions Affect Light-Heavy Spread?

2008 2013

Distilla-tion Capacity

Coking Capacity

Coking Percent Distillation

Distilla-tion Capacity

Coking Capacity

Coking Percent Distillation

U.S. 17,813 2,545 14.3% 18,863 3,135 16.6%

Europe 17,213 387 2.2% 17,527 512 2.9%

Asia 26,512 1,259 4.7% 29,704 1,781 6.0%

Rest of World

29,579 1,108 3.7% 31,938 1,584 5.0%

Total 91,116 5,298 5.8% 98,033 7,011 7.2%

Source: Purvin & Gertz, GPMO Service

Margins – Short Golden AgeMargins – Short Golden Age

• Margin Indicators• U.S. vs Europe• Future Implications

Refining Output Variations Impact Refining Output Variations Impact Profitability Profitability

49.029.9 31.7

33.7

43.5 43.2

3.814.1 12.3

0%

20%

40%

60%

80%

100%

U.S. Europe Asia

Other

ResidualFuel Oil

Distillates

Gasoline &Naphtha

2006 Refining Output Shares

Source: Purvin & Gertz, GPMO Service

U.S. Margin Indicator Higher Due to No U.S. Margin Indicator Higher Due to No Residual Fuel and More GasolineResidual Fuel and More Gasoline

-$5

$0

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$30

Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08

NY 3-2-1 Crack

NWE 6-2-3-1 Crack

U.S. and European Margin Indicators

Future ProfitabilityFuture Profitability

• Light-heavy price differentials– May decline some with growing conversion capacity

and slightly lower crude oil prices– But likely to remain relatively high

• Margins– U.S. gasoline margins under pressure from growing

European exports, ethanol use, and improved vehicle efficiencies, but U.S. refinery margins likely to remain higher than in the 1990’s

– Atlantic Basin distillate margins likely to be higher than gasoline more often in the future as regional distillate imbalance continues

– European margins buoyed by strength in distillate demand, but also depend on U.S. gasoline margins

SummarySummary

• Investment to produce more distillate– Future demand shifts imply attractive choice for some refiners

to increase distillate yields

• Bottoms upgrading investment – Light heavy differentials likely to stay elevated as crude price

stays high

– Amount of heavy upgrading may not impact light-heavy price differences greatly as total residual production not expected to change much and as residual fuel market demand is affected by environmental concerns.

• Margins – Short golden age, but still better than 1990s– Margin levels impact all types of refining investment, but

especially expansion

– Little need for expansion in Atlantic Basin – expansion could negatively impact margin

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