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Rules, Small Returns Block New Refineries
Investor's Business Daily ^ | Wednesday June 9, 7:00 pm ET | Mike Angell

Posted on 06/10/2004 8:18:31 AM PDT by ckilmer

Rules, Small Returns Block New Refineries Wednesday June 9, 7:00 pm ET Mike Angell

Sure, oil refiners are making a lot of money now. But there's no rush to build any more. Long term, oil refiners get a 5% return on investments, less than half that of a typical S&P 500 firm.

Add to that changing government policy, myriad environmental laws and public opposition and you can see why no refineries have been built in the U.S. since 1976.

Rising demand has sent gasoline prices soaring as crude prices hit new highs and refineries run all out to meet American drivers' thirst for fuel.

But experts don't expect new supply unless expanding or building refineries becomes more profitable and easier.

"The economics would never justify (building a new refinery)," said Bill Greehey, chief executive of Valero, the No. 1 U.S. refiner.

Some industry players, including OPEC giant Saudi Arabia, have said limited refining capacity has had a bigger impact on gasoline prices than crude oil supplies.

U.S. refineries can make 16.7 million barrels a day of gasoline and other refined products. In recent weeks, they've run nearly full out -- near 96% capacity.

They finally may be catching up with demand. The Energy Department said gasoline stockpiles rose 2.1 million barrels last week. The American Petroleum Institute said they jumped 4.7 million.

Recent inventory builds have helped cool gasoline futures and retail prices. But supply and demand will remain tight.

Back in 1981, refiners could make 18.6 million barrels a day, but used just two-thirds of that capacity. And spare foreign capacity meant cheap imports.

"Canada, Europe all had spare capacity," Greehey said.

Refiners then had little incentive to build refineries. Recent high prices have boosted returns to 6%. But the industry still makes plans that projects may only return 5%.

"This is a very capital intensive industry that requires long-term investments," said Bob Slaughter, president of the National Petrochemical and Refiners Association.

Before the '70s oil shocks, crude oil was cheap. So refiners planned to add capacity that eventually came on stream a decade later.

Government policy also brought on spare capacity. In the '70s, the U.S. subsidized small refiners' oil buys. But once the program ended, many refineries closed.

Another blow was the 1970 Clean Air Act. Last amended in 1990, the Act required refiners to upgrade plants to cut emissions and make cleaner burning gasoline. Greehey says 30 refineries shut since '90 because they could not afford to comply with the Act.

The U.S. now has 144 refineries compared to 315 in 1981.

Some investment went into making a low-pollution gasoline additive called MTBE. But states banned MTBE because it's a carcinogen and it seeps into the water supply. So refiners are stuck with useless MTBE facilities. That effectively took 500,000 barrels a day of gasoline off the market, Greehey says.

The Act also makes it harder to build new refineries. Building a refinery or even expanding a current refinery requires permits from federal, state and local agencies.

Refiners are most upset over one part of the Act called the New Source Review (NSR). It requires state approval on any upgrades or major maintenance to refineries.

During the late '90s, the U.S. interpreted the NSR much more strictly. Slaughter also says the NSR became retroactive. Older, already completed projects had to be reviewed by government agencies.

"It had a tremendous chilling effect on expansions," Slaughter said.

Any refinery expansion also faces local scrutiny. Not surprisingly, few locales want new industrial plants, especially refineries.

"There's an ever-increasing hostility to industry," said John Felmy, economist for the American Petroleum Institute. "You've got NIMBYs (not in my backyard), but also BANANAs (build absolutely nothing anywhere near anything), NOPEs (Not on planet earth), and NITMOs (not in my term of office.)"

The Bush administration is pushing NSR reforms to ease refinery expansions. But the courts are blocking the effort.

Greehey says what refiners really need are better returns.

Even if returns improved, it would be years before a refinery came on line. With today's regulations, it could cost $100 million and two to four years of engineering, regulatory review and approval before anything gets done.

"In that time, I haven't even poured any concrete or laid a yard of pipe," said Joel Maness, senior vice president of refining for Sunoco. A completely new refinery would take a decade or so to build.

Maness says supply is tight, but we don't face a crisis. Refineries get more efficient and are able to do smaller, less costly expansions. Along with imports, that'll ensure adequate gasoline supply, he says.

A new refinery would have some calming effect on prices, Maness believes. If nothing else, gasoline traders would have the perception that more supply was coming.

But Greehey notes crude makes up 45% of the price of gas. Taxes make up 20%, the same as refining costs. The way to cut gasoline costs, he says, is reducing crude prices and taxes on gas and ethanol.

TOPICS: Business/Economy
KEYWORDS: energy; environment; oil; peakoil; refineries
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To: thackney
. . . I think (without any backup) that the many different "recipes" prevent the free market from working efficiently.

You are exactly right. What we need is standardization to prevent the "localized" fuel options. That plus fuel tax reductions and some regulatory relief would reduce pump prices fairly quickly.

21 posted on 06/10/2004 11:53:51 AM PDT by toddst
[ Post Reply | Private Reply | To 19 | View Replies]

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