By John Auers and John Mayes
Since Henry Ford first started the automotive revolution with his perfection of assembly line manufacturing methods, demand for transportation fuels has been the major driving force impacting investment in petroleum refining facilities. As gasoline demand grew throughout the 20th century, refiners had to respond by building new units in response. Crude capacity was expanded, fluidized catalytic cracking units (FCCU’s) were built to increase gasoline yields, and reformers, alkylation units, and isomerization units were added to meet growing octane requirements.
Over the last couple of decades, distillate fuels, primarily diesel, but also jet fuel, have begun to challenge gasoline as important drivers in refiners investment decisions. This has resulted in the construction of significant hydrocracking capacity around the world, targeted to increasing yields of middle distillates. Because of a recent development, a new source of transportation fuel demand, the shipping industry, will become one of the most important drivers of refinery construction activity over the next several years.
The decision by the International Maritime Organization (IMO) in October of 2016 to confirm 2020 as the implementation date for low sulfur bunker fuel rules will drastically increase the demand for marine diesel, while at the same time decrease demand for resid-based bunker fuel. This will in turn cause price reactions which will incentivize a variety of refinery projects, including resid destruction units such as delayed cokers, resid hydrotreating units, and facilities to further increase distillate yields. Of course several other factors will also continue to drive refinery investment activities, including other regulations, changes in the crude (and other feedstock) environment, and changing demand patterns for other refined products.
Turner, Mason & Company has been monitoring global refining projects for over a decade as part of our Crude and Refined Products Outlook (C&RPO). In this product, we analyze virtually all of the refinery projects currently being considered around the world, consider all of the factors mentioned above (regional product supply and demand, crude supply dynamics and capabilities, project sponsors, construction costs, etc.). Based on this analysis, we determine which projects we believe have the greatest probability of moving from dream to reality. We also forecast start-up dates, the ultimate cost of the project and its impact on product and crude S&D by product type and crude quality. In today’s blog, we highlight some of the methodology we employ and the outcomes of our soon to be released edition of the C&RPO, and highlight the second edition of our Worldwide Refinery Construction Outlook (WRCO), which focuses on refining projects being developed globally and their impacts on supply and demand for both crude and refined products.
The Global Picture
Between now and 2021, global hydrocarbon demand is expected to increase by about 5.4 million BPD. This represents an annual increase of just under1.1 million BPD, which is slightly less than our forecast last year. Global refiners have announced new refinery additions or expansions to existing refineries which would add 23.7 million BPD of capacity over the same time period (a bit higher than our forecast last year). This potential imbalance is made even worse by the reality that alternate fuels (ethanol, biodiesel, CNG, LNG, etc.) are expected to grow by over 600 MBPD through 2021. This means that if all announced refining additions were to be successfully completed, the potential supply for refined products would grow at a rate nearly five times as fast as global petroleum demand. Clearly, not all of these projects can be economically built and undoubtedly the majority will be cancelled or postponed.
Our current list of announced new refineries and expansions encompasses 223 projects (our Announced list). Not all of these projects include crude-processing additions, as many are involve the addition of downstream units, focused on either upgrading product slates or desulfurizing products to respond to increasingly stringent regulations. Just over one-third of these projects are new, grassroots refineries, while the remaining are expansions or modifications to existing sites.
Regional Developments
Asia Pacific has the largest number of new projects (64) and represents slightly more than a quarter of the total list. The U.S. and the Middle East are second at 32. The largest of the announced global additions are the new refineries in Al-Zour, Kuwait (615 MPBD) and Kitimat, Canada (550 MBPD) and Olokola, Nigeria (650 MBPD). If all of the projects were completed, the total cost would be slightly over $750 billion. This would equate to an annual construction expense of $150 billion.
While the U.S. has 32 announced projects, the crude capacity additions will only be slightly over one million BPD. Refinery construction in the U.S. has slowed in recent years. Up to about five years ago, large projects were being completed which were designed to process heavy Canadian grades. With the growth of lighter, shale grades, the expansion projects have been smaller in scope. The push toward lighter grades has even slowed in the last two years as a result of the declining U.S. output. A similar trend has also been seen in Canada and Latin America. Capital deficiencies have slowed refining growth in both regions but will likely resume as crude prices rise.
What Determines Project Success
Many projects are announced without sufficient financial backing, face significant regulatory obstacles or simply represent a concept rather than a well-defined construction venture. In many parts of the world, announcements of new projects are more of a political “want to” rather than an actual project with realistic economics.
At TM&C, we use multiple criteria to assess the likelihood of construction for each of these 252 projects. In order to sort out the winners and losers, we have established a Probability Index with a scale of one to five. A one would represent a project with the lowest likelihood of completion, while a five would be the highest. Projects with a five are generally those well into construction. The criteria which set the Probability Index for each project are the funding capabilities of the principals, the level of detail in the announcements, the historical track record of the principals in completion of other projects, regional crude and product balances, and perceived environmental and strategic obstacles. The amount of crude-capacity additions for each ranking is shown in Figure 1.
Projects with a ranking of three or higher (in our Probable list) are deemed likely to be constructed and are included in our biannual C&RPO, released in July. Only one-third of the crude-capacity additions are ranked as three or higher.
Summing Up the Current Forecast
Of the total of 223 projects on our Announced list, we have determined, based on the criteria outlined above, that 106 of these projects are likely to be completed by 2021 and are included in our Probable list. Of these, 19 are grassroots refineries, with the rest involving expansions or modifications to existing refineries. Total crude-capacity additions for these Probable projects total 6.9 million BPD. With a utilization rate of 90%, this would increase global crude runs by 6.2 million BPD or roughly equivalent to the global demand increase. The growth in alternate fuels will likely be absorbed by refinery closures or utilization rates of less than 90%.
As with the Announced list, the bulk of the Probable projects are to be constructed in Asia Pacific. The region has 30% of the new projects, but these comprise 56% of the additional global crude-processing capacity. The Middle East has fewer projects, but they are generally much larger in size. The average project in the Middle East will add nearly 148 MBPD of capacity, while the average Asia Pacific project will add 111 MPBD. The average project in the U.S. will add only 9 MBPD. Figure 2 is a regional comparison for the two construction lists.
Expected Future Drivers
So far, very few projects are included in either our Announced or Probable lists which are targeted to respond to the IMO LS Bunker Fuel regulations mentioned in our opening paragraph. This is because of the uncertainty of the timing of the implementation until the IMO issued its final verdict in October. Uncertainty related to where the investment will be made – shipboard or at the refinery level – will continue to slow project development; however, we can expect, because of the very strong economic drivers (higher diesel prices/lower fuel oil prices/larger heavy versus light discount) resulting from these regulations, that significant new projects incentivized by those drivers will eventually be conceived and announced over the coming years. Most of these projects will be focused on resid destruction, primarily in regions currently producing higher volumes of heavy fuels, such as Asia and Europe. In some cases, refinery rationalizations will result, leading to opportunities for competing facilities. Other developments, including those related to changes in the regulatory, economic, product demand and crude market environments will also result in new project announcements and refinery shutdowns.
Following our first edition issued in 2016, TM&C has just compiled and published an updated, comprehensive project list as part of our WRCO. This product provides the opportunity to see our complete refinery project listing, instead of just the most probable projects which we include in our semiannual C&RPO. As in our first edition of the WRCO, each project we track is listed by region and ranked based on its probability of success. In addition, a detailed discussion of the regional factors and trends that are affecting refinery construction projects is provided. If you would like more information on this or our other products, or for any specific consulting engagements we may be able to assist with, please go to our website, send us an email or give us a call.