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Wednesday, December 22, 2004

Oil Refinery Shortage

Back in July, the Columbia, Missouri Daily Tribune reported here on the need for new oil refineries. However:
There hasn’t been a major new refinery in the United States since 1976, and experts say none is on the horizon. Refineries are expensive, and nobody likes having a big, smelly refinery near his or her back yard. But another reason you won’t see any refineries springing up soon is that oil companies like things the way they are: Their refineries are operating near capacity, so they sell practically every drop of fuel they make. Refining makes up roughly 14 percent of the cost of a gallon of gasoline, and in recent weeks gas prices reached record highs. Because demand for gasoline is greater than what the refineries can produce in many cases, refineries can charge more for gasoline...[note by Eagle1 - I'm sure most businesses prefer to make a profit. If not spending lots of money on an investment where the potential return on investment would actually be lowered by adding capacity, I don't see how any business would make the decision to spend the money - the refining companies are businesses, not welfare agencies.]

The soaring gas costs are bringing more attention to the limited-refining capacity in the United States. The number of domestic refineries is declining. In 1980, there were more than 300 U.S. refineries. At the end of 2003, there were 149, roughly a 50 percent decrease. Through early June, those refineries cranked out 8.5 million barrels of gasoline a day, up 4 percent from last year. Some are running at close to 100 percent of their capacity just to keep pace with demand, so it’s tough to further boost production. [note by Eagle1- if the refining companies were really trying to jack up prices wouldn't they reduce production at existing plants? The fact is that refineries operate most efficiently at near capacity or capacity levels and that helps keep the price to the public down]

The chance of new ones being built is slim. The last major U.S. oil refinery was built in 1976, and stringent pollution controls and the overall public distaste for refineries make it nearly impossible for oil companies to build more, oil experts say. "No one wants one," said Anthony Sabino, associate business professor at St. John’s University in New York. "Building a refinery is very expensive. It’s a multibillion-dollar proposition." [Eagle1 note: Poor reporting - companies can live with stringent pollution controls and even public distaste, but they can't live with losing money in their operations. The cost of building a refinery requires a sufficient return on investment projection to justify spending the money. If higher rates of return are available elsewhere, why would you invest in a lower rate of return?]

Even a smaller-scale refinery could cost at least $1 billion to build, said James Nelson, a division manager at Marathon Ashland Petroleum LLC’s Detroit refinery, the only refinery left in Michigan. And because of changing clean-air rules for refineries, it costs millions to maintain the operations, experts say...Experts also say fewer refineries give the oil companies a huge advantage: They stand to make a lot more money when supplies are limited, so, even if people wanted more refineries, companies don’t have a lot of incentive to build more. [Note by Eagle1- "Experts say?" "Even if people wanted more refineries?" If "people" want more refineries, let them invest their money in building them. If the profits are so high then "people" will get their money back -right? Well, apparently investors-I mean "people"- aren't clamoring to get into the refining business. Experts say.]

In the first quarter, industry giant ExxonMobil saw its profits from refining operations jump 38.8 percent. Refining profits at ConocoPhillips grew 19.2 percent in the first quarter. Marathon Ashland, which isn’t publicly traded, wouldn’t release information on profits.[Note by Eagle1: More poor reporting. Increase in profits by percentage means nothing unless we know what the original number was. If refining profits were $.01 last year and increased 38%, then they are $.0138 this year, which is not much. The reporter seems to have a small bias and apparently has read How to Lie with Statistics.]
In contrast, the American Petroleum Institute points out that the increase in gasoline prices has fallen well behind other products. See here for a link to a pdf that contains a nice graph staking out that position.

For information about refinery profit margins, California has information here. Although when you think about it, mixing "refinery costs" and "profit" will always yield a positive number even if profits are a negative. It may not mean much at all. According to Business Week Asia
After years of skimpy investment, refineries are chronically overtaxed, running at better than 90% of capacity on average. And differing environmental regulations can make it impossible for refiners in one region to relieve shortages in neighboring areas. Even oil industry honchos say something is wrong. Notes Exxon Mobil Corp. (XOM ) Chairman and CEO Lee R. Raymond: "There are fewer and fewer degrees of flexibility in the system."


Like many other faciltiites, the economies of scale favor larger, more efficient refineries. As smaller, less efficient plants have closed, refinery capacity has decreased:
Refinery capacity today is about 16.8 million barrels a day, compared with 18.6 million barrels a day in 1981, according to the National Petrochemical and Refiners Association.

But industry leaders say there are many reasons that refineries haven't been built beyond problems with permitting and environmental requirements. Refineries, for example, have had a history of meager profit margins, making it difficult to attract capital.

Refinery profits have soared along with high gasoline prices this year, but there's no assurance of stable profits in the future to attract the estimated $3 billion needed to build a new, large refinery, industry experts said.
And that's why "people" won't spend their money on them.

Update: Adjusted a poorly phrased sentence.

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