Tough times ahead for US refiners
Slumping global oil consumption, tightening margins and throttled-back throughput pile on the pressure
The US refining industry has been on an upward trajectory over the past decade. Global oil consumption growth has been solid, while trapped Western Canadian and sometimes US crude has contributed towards significant price discounts and a strong competitive advantage among US refiners compared with their global competitors.
But the ride came to a sudden end in the last third of March, when the sector suffered massive demand destruction as Covid-19 closed down economies and enforced global lockdowns.
66.2mn bl/d – global crude throughput in May
US refining margins initially looked as if they might hold up, despite a large drop off in crude runs, because of the short-lived oil price war. Since then, the spectre of negative oil prices has led to a significant contraction in global and North American oil supply and substantially lower discounts—if not rare price premiums—for inland US crude.
Fortunately, the US oil refining industry was resilient in the first quarter and posted solid profits, ignoring charges for special non-cash items. But the refining companies appear to be preparing for a rough ride over the rest of this year, if not for substantially longer.
The decline in global oil consumption has been of historic proportions. Global lockdowns caused demand to collapse by 25mn bl/d, or around 25pc, year-on-year in April, according to the IEA’s most-recent monthly Oil Market Report.
Data from the US Energy Information Administration (EIA) appears to support the IEA numbers (see Figure 1). Since the week ending 20 March, petroleum products supplied by US refining companies—a proxy for oil consumption—have declined by 23pc compared with the same period in 2019, to 15.45mn bl/d.
Gasoline has declined by a substantial 36pc, distillates by a relatively modest 13pc and jet fuel by an enormous 61pc. US refinery throughputs averaged just below 13.6mn bl/d between the week ending 20 March and the week ending 8 May—18pc less than for the same period in 2019.
Battle to the bottom
The IEA is forecasting a modest rebound in global refinery activity in June, but it has warned that this could be slowed somewhat by crude prices rising faster than petroleum products, further squeezing refinery margins. The agency forecasts global crude refining throughput at 66.2mn bl/d in May, the same as for April and down more than 14mn bl/d year-on-year.
Opec+ agreed to reduce crude production by 9.7mn bl/d as of 1 May, while several cartel members have since said they will cut output more than originally pledged. Opec kingpin Saudi Arabia has indicated it will slash production by 5mn bl/d in June—1mn bl/d more than its original commitment. In North America, Canadian oil production may already be down by 1mn bl/d and US output by twice that amount, with the Bakken accounting for almost a quarter the US total.
As a result, WTI crude for near-month delivery has surged above $30/bl in recent days after falling to minus $38/bl on delivery day last month—a wake-up call for producers concerned about lack of storage capacity.
Bakken crude at the Clearbrook, Minnesota hub has been trading $2/bl above WTI, its highest level since late 2017. Western Canadian Select (WCS) has recently been trading at around a $5/bl discount to WTI futures, compared with a more normal $10-12/bl, as US refiners suddenly find themselves scrambling to source oil despite highly diminished activity. The US refinery utilisation rate has down to 68pc in recent weeks, near an all-time low.
The major independent US refining companies have announced substantial cuts to refinery throughputs for the second quarter
According to researcher JBC Energy, recent crude market strength has caused its global weighted average refining margin to fall into the red for the first time since the second quarter of 2014. Diesel margins in the US are currently less than $11/bl, the lowest on a seasonal basis in the past decade.
Solid first quarter
On the whole, the five largest independent oil refiners in the US by crude capacity—Marathon Petroleum, Valero Energy, Phillips 66, PBF Energy and HollyFrontier—had relatively robust financial results in the first quarter, discounting non-cash charges for goodwill and the value of crude and product inventories (see Table 1). The five companies in total had an operating profit of $3.71bn, with only PBF showing a small loss. Total refinery throughput was just shy of 9mn bl/d, the same as the first quarter of 2019 despite volumes dropping off over the last third of March.
But the companies took a massive $18.66bn in non-cash charges for special items in the first quarter. Most of the charges for individual firms were to account for changed inventory values, with Marathon the major exception. The company took almost $12.4bn in charges, and while roughly $3.3bn was for the revaluation of its inventories, most of the rest was a goodwill impairment charge.
The major independent US refiners have announced substantial cuts to refinery throughputs for the second quarter to prepare for a more difficult future—with the exception of Phillips 66, which has not released this information. The companies will also reduce capital spending plans for 2020 and, in many cases, scale back share repurchase programmes or quarterly dividends.
$12.39bn – Marathon Q1 charges
Four of the independents have announced plans to reduce refinery throughputs by 25pc in the second quarter, which would be roughly the volume of oil demand decline in the US since the week ending 20 March. Marathon and HollyFrontier are both planning to reduce refinery runs by around 30pc compared with first-quarter levels, and Valero and PBF by about 20pc.
The refiners have reduced their original capital spending plans by an average of 22pc, to $9.05bn. PBF has cut spending in half, to $350mn, whereas Phillips 66 has lowered spending by only 9pc, to $3.03bn.
Marathon, Valero and Phillips 66 suspended their share buyback programmes in late March. PBF, which did not have a programme in place when the pandemic hit, suspended its quarterly dividend on 30 March.