Kline: More Base Oil Upheaval Likely


Large portions of the worlds base oil market are, according to William R. Downey Jr., ripe for change. And it is a safe bet, he maintains, that petroleum industry mergers will continue causing upheaval in those markets.

There are certainly going to be more changes that affect base oils, the Kline and Co. vice president told Lube Report this week. But its difficult to predict how they will affect base oils because at least some of them will be driven by upstream interests. They may or may not be rational for the lubricants business.

Downey elaborated on a recent presentation that he made to the UEIL (European Union of Independent Lubricants Manufacturers) World Congress in Strasbourg, France. He analyzed base oil markets in North America, Western Europe and Asia and contended that the first two are not rational. That is, they are not stable and providing reasonable returns for principal players.

North America, he said, has been somewhat rationalized by mergers and by the closing of a few base oil refineries, such as Sunoco’s facility in Yabucoa, Puerto Rico. But the continent has “more performance” than required, with oversupply of Group II and Group III stocks and surplus capability for Group II-plus.

If the markets players were primarily motivated by good return on capital employed in base oil plants, the current situation would spur moves to rationalize the middle of the pack.” Under such a scenario, he said, several mid-tier players, such as Conoco, ChevronTexaco and Pennzoil-Quaker State, would have reasons to pursue deals.

Western Europe has been the most performance-driven base oil market, with a long history of refining Group III and IV stocks. It is also a major exporter, sending nearly 27 percent of its total production abroad.

According to Downey, however, the region is now in a state of angst. One of its traditional export destinations, Asia Pacific, has developed its own capacity. In addition, Western European producers face increasing competition in North and South America.

Moreover, Downey argued, premium base oil refineries in Europe suffer disadvantages because they generally employ older technologies to make Group III than new North American facilities that use wax isomerization. Consequently, the market is ripe for further rationalization. Among the moves that would make sense, Downey said, would be acquisitions, expansions or alliances by Royal Dutch/Shell Group, BP and ChevronTexaco.

Asia is in balance for overall volume but has more high-performance base oil capacity than is needed, Downey said. Nearly 23 percent of the regions capacity, excluding Japan, is now devoted to Group II and III. Still, the region has less need for rationalization because its demand for high-performance base oils, as well as total base oil consumption, is growing.

Asia is clearly the most dynamic market, he said.

Downey emphasized that the lubricants industry should not necessarily expect base oil markets everywhere to become more rational. The biggest reason, he said, is that major oil companies are primarily concerned with oil and gas exploration and production, not their base oil assets.

In addition, oil companies often encounter difficulty integrating downstream operations. For example, Downey said, the Exxon-Mobil merger married companies with strong but different cultures.

Although not yet cost-effective, gas-to-liquids technologies is expected to come into high demand in approximately 10 years due to requirements for cleaner fuels. He predicted that several mid-tier majors will make moves soon to compete in the gas business.

In the long term, GTL base oils are going to take a significant portion of the market, Downey said. But even before then, base oil suppliers are going to make moves that are driven by GTL, so watching those moves has a lot of predictive value.

Even if the lubricants industry may not be able to rely on base oil markets behaving rationally, Downey said it can at least rest assured that supply will not become overly concentrated.

Judging from the handling of recent mergers, I think its clear that government regulators are going to make sure that things remain competitive, he said.

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