Base oil projects are queuing up to flood the global market with large volumes of highly refined stocks over the next several years. With demand flat, discussion about these projects frequently turns to speculation about which existing plants are most likely to close. Predictions generally point to facilities that make Group I oils.
A U.S. consulting firm contends, however, that it is wrong to assume that only Group I producers will be closing. During an industry conference in Houston this month, Solomon Associates Jamie Brunk maintained that Group I plants can compete with more modern hydroprocessing facilities. And while allowing that more Group I plants are likely to close, he ventured that Group II or Group III plants could be shuttered, too.
I tend to agree that Group I plants are more likely to close, Brunk told Lube Report this week. But I think there tends to be a knee-jerk reaction that any Group I plant will be in jeopardy and that only Group I plants will shut down, and I dont think thats true. I would not be surprised to see a Group II plant close in the shuffle.
Brunk laid out his analysis in a Nov. 10 presentation at the National Petrochemical and Refiners Associations International Lubricants and Waxes Meeting.The basis was an economic comparison of base oil operations that Brunk described as hypothetical but realistic according to Solomons experience conducting its annual global benchmarking survey of base oil plant performance.
Brunk, a senior consultant with the Dallas-based firm, said a 15,000-barrel-per-day Group II plant performing in the industrys top quartile could typically earn gross margins of $25.67 per barrel of finished product. Operating expenses of $10.70 per barrel would yield a cash margin of $14.97 per barrel. Brunk said such a plant would have financial productivity – a Solomon term similar to return on investment – of $14.10 per unit of EDC. (EDC is a measure the firm uses to take into account the size and complexity of a plant.) Brunkderived these numbers by assuming that the plant used a hydrocracker, catalyst dewaxing and a hydrofinisher.
By comparison, Brunk said, a well-run Group I plant of equal capacity that does not refine its slack wax could expect gross margins of $20.97 per barrel – substantially lower than a Group II plant because Group I oils sell for less. Assuming that the plant uses solvent extraction and dewaxing and hydrofinishing, Brunk calculated operating expenses at $10.53 per barrel and a cash margin of $10.43 per barrel. The financial productivity of this hypothetical plant was $11 per EDC, more than $3 lower than the Group II facility.
Brunk went on, however, to say the per-unit profitability of the Group I plant could be improved by further processing the slack wax to produce finished wax. Under such conditions, gross margins could rise to $28.30 per barrel, more than offsetting the additional operating expense to generate a respectable cash margin of $13.96 per barrel and financial productivity of $12.30.
Furthermore, Brunk said, even better returns are possible for such a plant if it performs exceptionally well. A plant that achieved better-than-average results for all performance parameters could lower operating expenses to achieve a cash margin of $15.87 per barrel and financial productivity of $14 per EDC. This last case would be on par with the results for the hypothetical Group II plant.
It goes to show that in todays environment, a well-run solvent-based lube refinery can compete with hydroprocessing refineries, he said.
Of course, it goes without saying that not all plants achieve first-quartile performance, and Brunk contended that those with unfavorable economics are likely candidates to close. For example, he noted that the United States and Canada had 28 paraffinic base oil plants in 1989. Twelve of those facilities have since closed, and nine of them ranked in the bottom half of Solomons 1989 survey.
Brunk acknowledged that factors other than economics sometimes determine whether a base oil plant continues to operate. For example, a lubricant marketer with just one base oil plant may keep it open regardless of profitability if management feels compelled to guarantee an internal supply of base oil.
On the other hand, a company like Shell has several plants, he said, noting that the company also plans to open a gas-to-liquids base oil plant in 2009 and that its U.S. joint venture with Saudi Refining Inc., Motiva, is expanding its Port Arthur, Texas, plant early next year. Its more likely to look at its assets and decide to shut down an existing plant that has less-favorable economics.
Brunk said it is important to remember that a plant that has poor economics today coulddo better in the future if the operator takes steps to improve it – for example, adding equipment to finish slack wax.
Some [refiners] will grab the bull by the horns and become more competitive as we go forward, he predicted. Moreover, plant economics continually change with the marketplace.
If a couple Group I plants shut down, that changes the demand-supply balance of products that are made only by Group I plants, such as bright stock, he said, noting that bright stock prices have surged over the past two years. That pushes the economics of those remaining plants in the direction of staying open.
At the same time, if all of these Group II plants come into the market and flood the world with highly refined oils, the value of those products is going to become less. Again, that can change a plants economic fundamentals.