Market Topics

Base Oils Break-even Puzzle


Demand is climbing for higher-quality automotive and industrial lubricants that offer less degradation, lower sulfur, lower volatility and better fuel economy. But the push for quality is not the only thing that drives decisions about where and how much to invest in base oil manufacturing. Refining economics play a key role as well, says the market research firm Purvin & Gertz.

Variables such as plant size, location, feedstock availability and flexibility, the potential yield of base oil on feed, and the value of byproducts such as wax and diesel fuel, all can tip a refinery from the break-even point to the breaking point.

The Houston-headquartered consultancy analyzed base oil production costs of existing refineries located around the globe, and presented the results at the WRA 5th Base Oils and Lubricants in Russia and the CIS Conference earlier this year.

Included in the firms survey were refining economics – the break-even costs – for the following regions and base oil plant types:

In Europe, both small and large API Group I solvent dewaxing base oil plants.

Group II hydrocracking and hydro-isomerization base oil plants in North America, Asia and the Middle East.

Group III base oil plants, also with hydrocrackers and hydro-isomerization units, in Asia and the Middle East.

The plants were also sorted into two baskets, labeled dedicated and opportunistic, Purvin & Gertzs John Leavens told the WRA meeting, which was held in Moscow in March. A dedicated operation is one where the base oil is a primary reason why the plant has been built, while the other products that plant produces are byproducts sold on the local market, said Leavens, who is based in London.

The latter, or opportunistic type of plant, is a plant with a [wax] isomerization unit installed along the hydrocracker in the main fuel refinery. It has originally been built to distill gasoline, diesel, jet kerosene and other fuels. The unconverted oil in this plant is used as a feed-stock for producing base oil, and the isomerization and dewaxing units have been built in the tail of the hydrocracker to convert this unconverted oil into Group III base oil.

Besides the main marketing rationale for a base oil plant to be built (as dedicated or opportunistic), a plants size (economy of scale) and its feedstock flexibility play very big roles, the consultancy found. Group I solvent refined base oil plants have limited feedstock availability; the crude that is chosen for making base oil is limited. In a Group I base oil plant, one cannot make base oil from many types of crudes, but only certain ones, Leavens noted.

Hydrocracking Group II and Group III plants, by contrast, have greater feed-stock flexibility because they employ vacuum gas oil (VGO) as feedstock, and a suitable VGO feed can be processed from many types of crude.

Another factor weighing on base oil economics is the yield of base oil from a given feedstock. As a reference, the study pointed to the use of VGO as feed. The Group I base oil yield could reach 33 to 50 percent depending on the crude of which the VGO is made, Leavens said. For dedicated Group II plants the base oil yield could reach 38 to 41 percent, while dedicated Group III plants, which look like Group II except that the cracking is harder, have lower base oil yield at about 29 percent. In this case the base oil yield is smaller because the feed is cracked much harder to achieve higher viscosity index, but it leads to more material being used, so the yield becomes lower.

An opportunistic Group III plant may see even lower base oil yield on feed, around 17 percent. This is because the original purpose of that plant is not to produce base oils but different crude oil distillates. The base oil coming from such types of plants is only a byprod-uct, Leavens stated.

Each refinerys cost picture will also be affected by the value of byproducts, if any. For a Group I base oil plant, these may include low-value extracts, heavy fuel oil, bitumen and wax, as well as VGO that hasnt been used in the process, Leavens said. Group II and Group III base oil plants have high-value naphtha, kerosene and diesel byproducts, which help bring down the plants base oil production costs.

In a nutshell, all these economic factors mean that the break-even costs for a small Group I solvent base oil refiner in Europe are much higher on average than for the dedicated Group II base oil plants situated on the U.S. Gulf Coast, the Middle East or Asia. Dedicated Group III plants in these regions also have lower manufacturing costs compared to the small Group I units in Europe.

As well, the opportunistic Group III refineries in the Middle East and Asia – which create base oil as a byproduct and have many of their costs covered by their parent fuel refinery – will always have the advantage of lower production costs compared to the Group I refiners, Leavens asserted.

However, that is not the case for Asias dedicated Group III producers, he went on. Currently these face high production costs, higher even than Europes Group I producers, because this is an energy intensive region with high energy costs, Leavens pointed out.

From plant to plant, there are factors that can shift the economic tide. For example, large Group I solvent base oil plants in Europe have lower costs because of their economies of scale. And unlike those in Asia, opportunistic Group III plants in the Middle East enjoy much lower feedstock and energy costs. So a plant in that location is likely to be more successful than the same scale plant in another location.

When looking at the combination of operating costs and prices that base oil marketers are getting for their product, said Leavens, it becomes clear that the most competitive combinations are either dedicated Group II plants or opportunistic Group III plants, because they have lower operating costs and the products they produce have higher value.

Whats ahead for all these plants?

First, because they have highest costs and lowest product value, the Group I base oil solvent plants are expected to come under increased pressure to close. Those Group I plants who sur-vive will be efficient, larger plants with bright stock and wax production, Leavens stated.

Second, their lower production cost allows Group II base oil to displace Group I even when it is not technically required. We have seen this in North America. When more Group II plants came on stream, they started to eat the once-prevalent Group I base oil market, Leavens said. The one excep-tion is bright stock, which cannot be produced in a hydrocracking refinery. Therefore, bright stock prices are expected to remain higher, he added. Third, Purvin & Gertz expects Group III base oil prices to remain higher than Group II in the long term, while the price of Group II will stay slightly higher than Group I. Bright stock, however, is predicted to cost more than other solvent neutral Group I grades.

This study dealt with existing plants in different world regions, reminded Leavens, but every plant situation is unique with local economic factors. In a generic aspect, the most profitable plants are likely to be dedicated Group II and opportunistic Group III hydro -cracking and hydro-isomerization base oil plants, he concluded.

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