Refining loses its lustre

Wide profit margins for oil refiners are coming to an end just as the UAE is set to double refining capacity.

Deep in the Saudi desert, 28,000 workers are building an oil processing complex but a glut of capacity is worrying for petrochemical companies.

Wide profit margins for oil refiners are coming to an end along with the world's appetite for oil, experts say, marking the end to a long boom in the downstream oil industry. The downturn comes just as the UAE is set to double its refining capacity and could slow the country's efforts to diversify its oil and gas industry away from simple crude oil exports. Moody's Investors Service, the global credit rating firm, changed its outlook for the world's refining sector from "stable" to "negative" on Friday, citing slowing world demand for oil products and a forecasted glut of spare refining capacity.

"While cyclicality is built into our refining outlooks, the move to a negative outlook stems from demand changes that appear to be structural and enduring," said Andrew Oram, a senior credit officer for Moody's. That is bad news for the UAE, which is in the midst of expanding its refinery at Ruwais and studying the feasibility of building a refinery in Fujairah. Together, the two export-orientated projects would add 617,000 barrels per day (bpd) to the country's current refining capacity of 628,000 bpd.

Moody's predicted refiners would now on average earn US$10 (Dh36.76) for every barrel of crude oil they converted into usable products like diesel and jet fuel, compared with an average of close to $20 earlier this year. The downturn marks the end of a long boom period for refiners that began in 2003 as world demand for diesel and other products took off, said Raja Kiwan, an analyst for PFC Energy who is based in Dubai.

As demand for transportation fuels began to increase in Asia in line with the economic boom, existing refining capacity was strained, and refinery margins - determined by the difference between crude prices and the prices of consumer products like petrol and diesel - widened markedly. "All of a sudden, everyone jumped on the bandwagon," Mr Kiwan said. "Everyone wanted to build a refinery." Chief among those projects was Reliance Petroleum's 580,000 bpd facility in India, which is expected to come online in December. Together with an existing facility, it will form the largest refinery complex in the world.

During this year and the next, 2.5 million bpd of refining capacity will be added around the world, according to Goldman Sachs. But those projects, which have taken years to move from the conceptual phase to construction, are now threatening to flood the market with a glut of extra capacity just as growth in demand for all oil products slows in line with a weakening global economy. Mr Kiwan said it was impossible to predict how long the downwards cycle would last, but Gulf refiners may be insulated from the downturn to some degree because domestic demand for refined products is booming and refining units are part of larger state oil firms.

According to PFC's estimates, the UAE's demand for oil products will increase by five per cent next year, to 307,000 bpd. Saudi Arabia, long the world's top oil exporter, became the fastest growing oil consumer this year, and will see oil product demand increase by seven per cent next year, to 1.79 million bpd. "Margins are going to be tighter across the board, but the Middle East is a little bit different," said Mr Kiwan.

Large facilities in the works in the region include two export-orientated refineries in Saudi Arabia, a refinery in Kuwait and the Abu Dhabi National Oil Company's (Adnoc) refinery expansion at Ruwais, which is scheduled to be completed by 2014 and will add 417,000 bpd to Adnoc's refining capacity. The bad news for refiners comes just as petrochemical companies are steeling themselves for a tough downwards cycle also caused by a glut of capacity in the medium term.

Huge new plastics complexes are under construction in the region that will outstrip growth in world demand. Ahmed Albassam, the director of business development for Tasnee, a Saudi petrochemicals firm, told a conference in Dubai last week that petrochemical companies should brace for a tough period of lower product prices and consolidation in the industry. "Supply will outstrip demand significantly," he said. "There will be a lot of competition in this area."

Abu Dhabi is also investing billions into expanding a plastics facility at Ruwais, and studying building a third plant by 2014 that would double production capacity. Roy Vardheim, the chief operating officer for Borouge, Adnoc's petrochemical arm, said the new plant would have access to low-cost feedstock and achieve enough economy of scale to keep costs low and survive the downturn. [e-mail]