Analysis: European refiners could face another decade of pain

By Emma Farge

LONDON (Reuters) - European refiners are poised for another decade of pain from low profits and run rates as a string of plant sales to emerging market investors only postpone inevitable closures .

Chevron Corp <CVX.N> has completed the sale of its UK Pembroke plant to U.S. refiner Valero <VLO.N> while Shell <RDSa.L> has sold the UK Stanlow complex to India's Essar as part of a pattern among major oil firms to spin off downstream assets and instead spend revenues from $100 oil on upstream projects.

Total <TOTF.PA> has also sold a near 50 percent stake in Spanish refiner Cepsa to an Abu Dhabi government fund.

But these transactions are no guarantee of future deals, analysts and traders said, with cash-rich investors likely to cherry-pick only the most sophisticated coastal refineries in what is seen as a buyers' market.

For those inland refineries with limited complexity, the all-too familiar problems of slow demand growth due to competition from cheaper gas and tough new environmental restrictions are unlikely to make them attractive buys.

Strong Brent prices near record premiums of $22 a barrel to U.S. crude have only made matters worse by crushing margins, making Europe the least attractive region to process oil. Gross margins for converting Brent crude into gasoline were regularly negative in the first six months of 2011 and the worst on record, according to energy consultant Wood Mackenzie.

This year has been particularly painful for plants that rely on light, sweet grades since the loss of Libyan volumes has pushed up the Brent spread to heavier Dubai grades to an unusually high $6 a barrel this summer.

Many refiners will try to delay closure for as long as possible in the hope that competitors will fall victim first and this procrastination process could stall an eventual recovery in margins.

"It's like running away from a bear. You just have to be better or faster than the next guy. European utilization rates are low and margins are poor but if one refiner shuts down they bear all the costs, which provides a "windfall" to their neighbor," said Alan Gelder, Principal Analyst for downstream research at energy consultant Wood Mackenzie.


And ready buyers for refining assets are scarce, said Robert Beaman, oil and gas analyst at Business Monitor International.

"Once you have discounted Valero and Essar, you have to wonder who else would want to take them up. There's a limited number of buyers and most seem to have got what they wanted now," said Beaman

"Unless we have more closures, the sector looks to stagnate," he said.

Some assets such as those that have recently changed hands do have their appeal. Essar's purchase of the UK's second largest refinery Stanlow makes sense as it is seen as a way of getting a foothold in the retail market -- a potential market for high-quality fuels from its Indian Vadinar refinery now undergoing a major upgrade.

Fuel demand in Europe is thought to have peaked, but it is still a net importer of distillates like diesel and jet fuel.

Valero's decision to buy the 220,000 barrel-per-day Pembroke plant on the Welsh coast is also seen as a natural fit with its U.S. retail business since nearly half of its daily output is gasoline.

"Valero is a mogas <motor gasoline> monster and Valero are decent retailers of mogas in the United States. It gives them flexibility," said an oil products trader with a European bank.

But other talks have stalled or broken down. Total has missed several of its own deadlines to announce a buyer for its UK refinery which has been on the market for 18 months. Talks between Essar and Shell over the purchase of its Harburg refinery broke down last year, prompting it to instead convert it to a storage site.


The tough environment since mid-2008 has already led to closures amounting to around 900,000 bpd of capacity, according to consultancy FACTS Global Energy (FGE). They estimate another 1.4 million bpd -- or about seven medium-sized refineries -- needs to be shut by 2015 to make the sector competitive again.

Shell has been one of the most active European refiners in divesting assets and the Stanlow deal means it has now exceeded its goal to divest or close 15 percent or 600,000 bpd of its global refining assets, the bulk of which is in Europe.

"Even this will not totally solve it because of all the new capacity coming on east of Suez and in South America. There will be closures through to 2020," said Gemma Gouldby, research associate at FGE, as emerging countries increasingly opt to process oil where the demand growth is.

But many are not ready to face the reality that margins, described last week by the chief executive of Europe's largest independent refiner Petroplus as "miserable" could endure and that the only way to boost them is to shut capacity permanently.

Wood Mackenzie's Gelder said that he expects margins to recover briefly in 2012 but the planned inclusion of European refineries in the EU Emissions Trading Scheme in 2013 will again increase costs.

"We don't expect another golden age but we do think that 2012 will look better than 2010-2011."

Governments are also increasingly reluctant to let more refineries close because of the political fall-out. A nationwide strike in France over a plant shutdown last year prompted President Sarkozy to seek a pledge from Total not to sell or shut refineries in the coming years.

Spending cuts in countries like Italy aimed at cutting debt will also make decisions about closures more sensitive.

"No-one wants to close, especially not in the Mediterranean because of the unemployment," said Gouldby. "Elsewhere, they want to try to keep going and hope the others close first."

(Reporting by Emma Farge; editing by Keiron Henderson)