Authors: John Auers, Elizabeth Hilbourn and Wei Li
We continue our focus on China this week as we further delve into the subject of China’s curiously named teapot refining industry. In Part 1, we explained what a teapot refinery is, gave some background on how they developed and began the discussion of their current status in the overall Chinese refining industry. Just to recap, eastern China’s Shandong Province is the center of the teapot world, with 80% of those refineries located in that region. Compared to Chinese state-owned refineries, teapots are much smaller, with capacities ranging between 20,000 b/d and 100,000 b/d (vs. 200,000 b/d plus for many of the Sinopec and CNPC plants). They are also less complex and generally less efficient than the larger refineries. Because they currently do not have the right to import crude, they have to process domestic crudes. The total capacity of the sector in this province is just over 4 million b/d, and the utilization usually averages below 40%. For years, teapots have been a gauge for the overall health of the domestic oil market in China. They have served a valuable function with their excess capacity called on (in times of tight markets) to act as the supplier of marginal product requirements, but what is their future? Will they be phased out as the industry modernizes? Or, as China’s demand for refined products continues to increase, can some of the teapots with underutilized capacity be effectively used to meet demand? How will new regulations impact their status and prospects? We will attempt to address these questions in today’s blog as we try to “read the tea leaves” on what the future holds for the teapots.
Guidelines Issued by the NDRC
In early 2015, the Chinese National Development and Reform Commission (NDRC), which is the top economic planner of China, set out a policy allowing teapot refiners to process imported crude, but without the authority to import the volumes directly.
Under guidelines issued by the NDRC in February 2015, a refiner must have crude distillation capacity of 2 million metric ton per year (mt/year) (around 40,000 b/d) or above in order to qualify for a crude import quota from the government. The NDRC also mentioned that refiners that want to apply for the quotas have to get rid of all crude distillation units (CDUs) with less than 2 million mt/year of capacity. The quota allotted to the refiners is linked to the crude processing capacity that it shuts down, but cannot exceed its existing processing capacity; however, there are no restrictions on the minimum quota a refinery can use for the year. The ministry will, instead, review all the refineries’ import reports at the end of the year before they apply for import quotas for the following year. Furthermore, independent refineries will need to sustain crude imports for three consecutive years after receiving import rights; failing which, the ministry will revoke their crude import licenses. Finally, refineries need to meet certain environmental requirements, as well as have at least five years of trading experience in the international oil business, and strong bank credit.
The NDRC also mentioned that refiners can get additional quotas if they build LNG, CNG, or underground storage tanks. Refiners have the freedom to acquire and shut down smaller refiners to get the quota they desire.
The NDRC has designated China Petroleum and Chemical Industry Federation (CPCIF), which started in the middle of May to review import quota applications submitted by independent teapot refineries in March, to handle the reviews and carry out side inspections. The NDRC will still be in charge of final approvals for the import quotas, including the volume allotted. According to the how-to-guide, CPCIF will carry out a field check on each qualified refinery that has applied for quotas, after reviewing all the documents submitted. After all the paper and field work is completed, CPCIF will release the names of all the qualified refineries on its website, which will remain for 10 days. If no issues are raised by the refiners, CPCIF will submit the results to NDRC.
Import Quota Requests
China grants crude import quotas under two categories: state trade quotas and nonstate trade quotas. The state trade quotas are allotted to a handful of state-owned companies for use by their own refineries and do not have a cap on volume. These companies are China National Petroleum Corp., Sinopec, China National Offshore Oil Corp., Sinochem and Zhuhai Zhenrong. The nonstate trade quotas are granted to privately owned or state-owned trading companies. This category has a cap on volumes, and the barrels imported must be sold to state-owned refiners for processing, though some companies have been granted permission to process the crude at their own plants. The award of new quotas has been widely anticipated by teapot refiners, as it gives them the option to diversify their feedstock and improve profitability.
The Chinese government already grants Dongming Petrochemical and Beifang Asphalt crude oil import quotas. According to CPCIF, the Chinese government is likely to grant Sinochem Hongrun, Kenli Petrochemical, and Lihuayi Petrochemical crude oil import quotas.
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- Dongming Petrochemical
Currently, PetroChina supplied Venezuelan Merey Crude to Dongming through a strategic alliance, which is around 80% of Dongming’s feedstock. Dongming also regularly runs some Middle Eastern crude, Russian ESPO, and Angolan grades. The Dongming Petrochemical utilization has averaged 51% this year, which is based on total capacity of 11 million mt/year.
To apply for the quota, Dongming planned to continue to run two existing CDUs with capacities of 5 million mt/year and 2.5 million mt/year and dismantle three CDUs totaling 3.5 million mt/year of capacity. Furthermore, to qualify for a higher quota, Dongming Petrochemical not only has proposed to build LNG storage infrastructure, but also to acquire another refinery with a capacity of 2.5 million mt/year, with the sole purpose of shutting down more processing capacity.
After getting the import quota in mid-July, Dongming Petrochemical has imported two VLCC cargoes of Oman crude, one VLCC cargo of Venezuelan Merey crude, and some small parcels of heavy crude, which is a total of 800,000 mt to 900,000 mt of crude.
- Beifang Asphalt
PetroChina Fuel Oil, a subsidiary of PetroChina, currently supplies Venezuelan Merey Heavy crudes to Beifang Asphalt under a supply contract signed a few years ago. It currently processes around 3.5-4 million mt/year of crudes, 80% of which are supplied by PetroChina Fuel Oil. Furthermore, the refinery has a quota to process around 400,000 mt from PetroChina’s Daqing oil field and 200,000 mt from PetroChina’s Liaohe oil field, according to Platts.
To apply for the quota, Beifang Asphalt Fuel planned to keep running two existing CDUs with capacities of 3.5 million mt/year each and dismantle its aging 2 million mt/year and 1.5 million mt/year CDUs. It will acquire one CDU with capacity of 1.5 million mt/year and two CDUs with 500,000 mt/year capacity, with the sole purpose of shutting them down in order to qualify for a higher import quota. Because Beifang Asphalt Fuel produces the National Phase 5 emissions standard gasoil and gasoline, it will qualify for some additional quota volumes.
In less than 10 days, the refinery should get an approval from the Ministry of Commerce. Once the refinery gets the approval, it can import crude from international markets via state-owned trading companies.
- Sinochem Hongrun
To apply for the quota, Sinochem Hongrun decided to keep two existing CDUs with capacities of 3.5 million mt/year and 2.2 million mt/year and has planned to dismantle its third 1 million mt/year CDU. This refinery also acquires one CDU with 600,000 mt/year, one CDU with 500,000 mt/year, and four CDUs with 300,000 mt/year capacities, with the sole purpose of shutting them down in order to get the import quota. Furthermore, in order to get a higher quota, the refinery not only proposed to build LNG storage infrastructure with capacity of 56 million cubic meters, but also agreed to produce National Phase 5 emission-standard gasoline and gasoil, which caps sulfur content at 10 ppm, by upgrading its units at the end of 2015.
- Kenli Petrochemical
China National Offshore Oil Corporation (CNOOC) supplied domestic crude from its offshore fields to Kanli Petrtochemical. Kenli PetroChemical also runs some imported bitumen blend. Most of its oil products go to the local market.
To apply for the quota, Kenli Petrochemical decided to remove two crude distillation units (capacities 1.45 and 0.65 million mt/year), which will give it a base import quota of 2.1 million mt/year. After getting rid of the two old units, Kenli Petrochemical’s primary capacity will reduce to 3 million mt/year. The refinery promised to produce National Phase 5 emission-standard gasoline and gasoil, which caps sulfur content at 10 ppm, by upgrading its units at the end of this year; therefore, it will be awarded another 420,000 mt/year.
- Lihuayi Petrochemical
Lihuayi Petrochemical currently processes Shengli and Tahe domestic crude. It has a quota to purchase Shengli crude 80,000 mt/year from Sinopec, and it can procure more at a slightly higher rate when supplies are available.
To apply for the quota, Lihuayi Petrochemical decided to get rid of the smaller CDU, giving it a base quota of 50,000 b/d. The CDU, that it selected to get rid of, is bigger than 40,000 b/d; therefore, the refinery will also be awarded another 10,000 b/d. Furthermore, this refinery will build a new 1.8 million mt/year fluid catalytic cracker (FCC) to produce low sulfur gasoil and gasoline by the end of this year, so it qualifies for an additional 10,000 b/d quota.
Lihuayi Petrochemical is interested in medium crudes with an API of around 28 degrees, and it can process crude with over 2% sulfur anode coke markets, (anode coke supply and demand outlook to 2025), a sector in which China is a particularly important player. Due to be released very soon is an analysis of the changing dynamics in world crude oil markets, The Evolving New World Order, which we have partnered with Schlumberger Business Consultants to develop. To download the The Evolving New World Order prospectus click here. For more details about any of our publications, studies or other TM&C services, please visit our website, send us an email or give us a call.