Big Oil Braces for Profit Pain as Refining Safety Net Slips

EghtesadOnline: The world’s biggest oil companies, supported during crude’s collapse by a buoyant refining business, have lost that buffer as brimming fuel stockpiles swamp demand.

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26 October 2016

Profits from turning oil into gasoline and diesel contracted 42 percent last quarter from a year earlier to an average $11.60 a barrel, the weakest for the time of year since 2010, industry data from BP Plc show. The impact of that will be apparent as earnings for the period roll in over the coming weeks, according to Bloomberg.

Refineries benefited from oil’s two-year slide that began in mid-2014 because the cost of feedstock fell while fuel demand rose. That led to over-production and huge stockpiles that now can’t be absorbed. For oil majors including Exxon Mobil Corp. and BP, that erodes a valuable source of income that bolstered earnings for much of the past year amid spending cuts, job losses and project cancellations.

The “best days are over” for refining, said Alan Gelder, vice president for refining, chemicals and oil-market research at consulting firm Wood Mackenzie Ltd. “Don’t expect 2015 to be repeated. We’re expecting some ‘average’ years.”

Every $1 decline in the refining margin cuts BP’s adjusted pretax earnings by $500 million a year, according to its website. The London-based company warned back in July that margins had dropped to their lowest in six years and would remain “under significant pressure.”

BP is expected to report $688.7 million in adjusted third-quarter profit on Nov. 1, 62 percent lower than a year earlier, according to the average of 12 analyst estimates compiled by Bloomberg. Exxon is likely to post a 38 percent decline in earnings on Oct. 28. Royal Dutch Shell Plc may report profit that’s little changed on Nov. 1 following its acquisition of BG Group Plc in February.

Summer in the U.S. and Europe typically boosts refining margins as the driving season increases demand for gasoline. Yet high fuel stockpiles around the world this year pushed third-quarter margins below second-quarter levels in Europe, according to Wood Mackenzie’s Gelder.

Texas-based refiner Valero Energy Corp. said Tuesday that quarterly net income dropped by more than 50 percent from a year earlier as it announced a cut in 2016 capital spending.

For European refiners, gasoline was on average $7.51 a barrel higher than benchmark Brent crude last quarter, about half its level a year earlier and 40 percent lower than the preceding quarter, according to PVM Oil Associates Ltd. For gasoil, or heating oil, the premium was $9.10 a barrel, 36 percent lower than a year earlier.

Refining margins are likely to stay “depressed” next year as inventories remain high, according to Ehsan Ul-Haq, senior oil-market analyst at KBC Energy Economics.

Making it worse for oil companies is crude’s continued weakness. Though prices have risen more than 80 percent from 12-year lows in January, they’re still half their level before the collapse. Dwindling revenue has forced the industry to cut billions of dollars of investment, boost drilling efficiency and reduce costs. European oil majors are likely to lower capital spending by a third this year from 2014, Barclays Plc analysts wrote in a note last week.

Brent averaged $46.99 a barrel last quarter, 8.4 percent lower than a year earlier and little changed from the prior three months. The global benchmark crude slipped 0.9 percent to $50.32 a barrel at 9:28 a.m. London time on Wednesday.

“Third-quarter earnings will likely again be nothing to write home about, given that oil prices were flat on the second quarter,” said Iain Reid, an analyst at Macquarie Capital Ltd. in London. “We estimate earnings per share will fall another 50 percent from a year ago, although this is now becoming more driven by weaker refining margins than oil prices.”