Three years on, the six vertically integrated global majors are
still holding onto their often loss-making plants, seen as a drag by
They cut oil processing rates, sell individual plants, shift
exposure from region to region, but have yet to follow Conoco's
lead, hanging on instead to returns that are a shadow of the boom
years of 2004-2007 but still worth having.
Conoco's downstream spinoff was part of a trend in the U.S. industry
where a handful of mid-level companies split their upstream and
downstream operations, including Hess <HES.N> and Marathon <MRO.N>.
Europe's oil refining guru, Marcel van Poecke, believes the move
will be repeated one day.
"Investors say: 'We don't need you to be an integrated company'
...They say: 'We can buy BP <BP.L> for upstream and Valero <VLO.N>
for downstream. And we will create our own oil company'," Van Poecke,
who runs a fund at private equity giant Carlyle <CG.O>, said this
The head of the world's largest trading house Vitol, Ian Taylor also
sees majors drastically reducing exposure to refining.
However, majors themselves say not many people realize how much
scaling down has been already done in the past years.
BP, once considered to be a monster of refining, has sold 13
refineries in as many years, effectively halving the number of
plants in which it participates or operates.
BP's chairman Carl-Henric Svanberg says he believes majors will be
actively shifting refining centers rather than selling off entire
"It is a different story if you look at developed and developing
markets. We are decreasing our position in western markets...
Whereas if you go to developing markets like Russia or China, then
you still have the integrated chain," Svanberg said this month.
Ivan Glasenberg, the head of commodities giant Glencore <GLEN.L>,
which is currently leading a drive among miners to reduce costs and
increase payouts, says oil majors embracing the same strategy should
learn one lesson from mining.
"Don't overproduce," Glasenberg said this month.
His message is more applicable to downstream at oil majors rather
than to upstream, where oil cartel the Organization of the Petroleum
Exporting Countries can perform a balancing act to smooth out sharp
In downstream, overproduction effectively happened over the past
decade when a refining peak in the early 2000s saw too many
refineries built around the world.
"If you look at the energy outlook you will see that fuel
consumption in the developed market is flat or even coming down.
With the increased share of biofuels you are actually seeing a
slightly decreasing consumption of fossil fuels," said Svanberg.
"Because of that the market is actually oversupplied. And very
competitive... The only reason to be in refining in the Western
world is actually if you have a distinct advantage as we have in
Whiting," he said referring to BP's modern U.S. plant.
JBC Energy analysts estimate global crude distillation capacity will
rise 9 percent to 92.6 million barrels per day in 2014, from 85.1
million bpd in 2004.
"Six years ago (in June 2008) we expected 2014 capacity to come in
at 98.2 million bpd. This is a nice illustration of the post-crisis
slowdown of demand as well as the reaction to overcapacity in terms
of both shutdowns of existing plants and delays and cancellation of
planned additions," said David Wech from JBC.
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Even as global refining capacity grew, albeit at a slower pace than
expected, majors took a different approach.
Total refining capacity at six global majors — ExxonMobil <XOM.N>,
BP, Royal Dutch Shell <RDSa.L>, Total <TOTF.PA>, Chevron <CVX.N> and
Eni <ENI.MI> — fell by over 16 percent over the past decade to
around 15 million bpd, according to Reuters calculations.
Except for Eni, all majors reduced their capacity, especially in
Europe, where 1.5 million bpd of capacity has closed since 2008 amid
weak demand and competition with new, modern plants in Asia, the
Arab Gulf and the United States.
As Russian refineries upgrade too, another 2 million bpd are likely
to close in Europe before 2018, according to JBC.
But as refining operations at majors become slimmer and more modern,
the peak of the low returns pain might have passed.
According to BMO Financial, part of Bank of Montreal, majors such as
Chevron, Exxon, BP and Total will probably see returns on average
capital employed (ROACE) — a key metric for investors — in the area
of 9-12 percent in downstream by 2017. Shell will see its ROACE at 7
percent and Eni at around 1 percent.
That is course a pale reflection of returns of 17-18 percent during
the boom years of 2004-2007 but still not enough to fully divest
downstream, especially as ROACE in upstream is also expected to fall
to 11-15 percent from the peaks of 30 percent.
For BP free cash flows from downstream are expected to more than
double to $9.6 billion by 2017, while free cash flow from upstream
will only rise by 20 percent to $28.7 billion, according to BMO.
"The proportion of free cash flows that the downstream creates from
its operating cash is much higher than the upstream," Iain Conn, who
runs BP's downstream, told Reuters.
There are other reasons that will also help majors retain their
downstream, including access to new regions.
"Quite often (emerging market) governments like a company that has
got the downstream and helps them with their market evolution as
well as developing their resources," says Conn.
Finally, downstream can play an important role in bringing refining
and extraction technologies together with research into how car
engines interact with lubricants helping shed light on upstream
fracking operations where oil is separated from rocks.
"It is exactly the same chemistry. We have put those teams
together," said Conn.
(Additional reporting by Peg Mackey and Alex Lawler; editing by
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