RAND Study Finds Oil Refiners Expect Fuel Supplies Will Remain Volatile For Next Decade
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August 28, 2003
Oil refiners expect fuel supplies and prices will remain volatile around the United States in the next few years, as refineries work to churn out fuels at near capacity levels in response to rising demand for petroleum products, according to a RAND study issued today.
Most refiners expect demand for petroleum products to grow over the next two decades at the brisk rates seen in the 1990s and as projected by the federal government's Energy Information Administration, the RAND report says.
RAND also found that refiners question their industry's ability to keep up. To this end, many have called for greater regulatory flexibility. But "a few refiners are contemplating the potential for a significant easing of demand," the study says, perhaps as soon as 2010-2012.
Fuel consumption in the U.S. has been rising steadily over the past decade, stimulated in part by economic growth and the popularity of SUVs. But some refinery executives say this projection could change quickly if more high-mileage vehicles appear (such as the hybrid vehicles promised by automakers) or if the federal government takes steps to promote greater fuel efficiency or reduced reliance on imported oil. Some refiners are trying to figure out how they may have to cope with such a changed scenario.
These issues are among those discussed by RAND researchers D.J. Peterson and Sergej Mahnovski in their in-depth analysis of the U.S. oil refining industry, which is based upon wide-ranging discussions with 72 officials from 40 refining industry organizations.
The report was prepared for the U.S. Department of Energy's National Energy Technology Laboratory to help federal officials understand issues facing the domestic oil refining business over the next decade, and how federal programs and policies may impact the industry.
The RAND researchers found a generally optimistic business outlook among oil refining executives, a contrast to the generally pessimistic outlook during much of the 1990s when the industry underwent an unprecedented period of corporate restructuring and downsizing.
"After many years of turmoil within the industry, most refining executives appear to have a very upbeat attitude about their own operations," Peterson said. "Refineries today are leaner operations, and executives feel prepared to respond positively regardless of what direction the market goes in the future. They have a 'can-do' attitude."
Researchers found that refiners were generally optimistic about their ability to meet new environmental regulations, such as an upcoming ban on the use of the additive MTBE in California and elsewhere, and federal regulations calling for strict new limits on sulfur in diesel fuel.
While refiners are prepared to replace MTBE with ethanol, they expressed the view that it is not an economical move for them or for motorists in meeting environmental objectives. In addition, they worry that ethanol may prompt some of the same health and environmental concerns that led regulators to order a phase-out of MTBE.
Regarding new regulations that require the marketing of ultra-low sulfur diesel fuel beginning in 2006, no refiners said they planned to quit the diesel fuel business. However, some suggested that bumps in refineries' transition to the new products may cause temporary and localized supply problems.
Despite these regulatory challenges, refining executives say their industry has entered a period of greater stability and prosperity after a period of weak economic performance in the 1990s.
The industry shakeout has left just 58 companies operating refineries, a dramatic consolidation from the 189 refining firms 22 years ago. The remaining plants now operate at 92 percent of their capacity, up from 78 percent in 1985.
The decline in unused manufacturing capacity and other efficiencies allowed the industry in 2001 to report the highest profit margins seen by the Energy Information Administration since it started collecting the information in 1979.
The reduction of spare capacity has helped drive up prices at the pump and leaves the market vulnerable to shortages caused by a plant breakdown or other unpredictable events. Industry leaders appear to have accepted the situation, seeing no economic logic in straining for more capacity.
"I think the industry has learned that it's okay to fall short on product," said an industry observer. "There is no reward being long on product or production capacity."
Added another: "Every investment a refiner makes is stranded in his eyes…you win by doing nothing."
Price swings—if they come—are likely to be confined to regions, executives told RAND, with the Midwest and California most vulnerable. These areas, in oil industry parlance, are laced with "boutique" gasoline markets for special gasoline and diesel blends more vulnerable to vagaries in supply.
Boutique markets result in as many as 15 different fuel formulations being required across the United States in the summer months. Las Vegas, Phoenix, Houston, Denver, Chicago-Milwaukee, Atlanta, Miami-Ft. Lauderdale, parts of the eastern seaboard and most of California have unique fuel specifications that limit suppliers, drive up prices, and make them vulnerable to supply shocks, the report said.
Some refiners don't mind, notes the report, because boutique fuels often are quite profitable. For example, refiners in the RAND study noted that California is the most profitable state for specialized regional refiners in a market that outside refiners find hard to crack.
The report is titled New Forces at Work in Refining: Industry Views of Critical Business and Operations Trends. A printed copy (ISBN: 0-8330-3436-7) can be ordered online or call toll-free 877-584-8642).
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New Forces at Work in Refining: Industry Views of Critical Business and Operations Trends, 2003. Full Document