Additional oil will strain refineries, analysts say

Thursday, October 5th 2000, 12:00 am
By: News On 6

By Terry Maxon / The Dallas Morning News

There's no question that more oil is headed for U.S. refiners. But there are a lot of questions about whether the U.S. refineries can handle the added supply.

Industry analysts warn that refineries are running almost at capacity, even as they shift their focus from producing gasoline for the summer driving season to distilling home heating oil for the coming winter. In addition, much of the extra oil being released from OPEC members is considered a "sour" crude, high-sulfur oil that requires special equipment and additional expense to process.

John Felmy, an official with the American Petroleum Institute, warned at a Senate hearing Sept. 26 that the nation's refineries "are running flat out. There is a limit to how hard refineries can run, consistent with providing for the safety of refinery workers."

The Organization of the Petroleum Exporting Countries has said it will increase exports by 800,000 barrels a day as of Oct. 1. In addition, the United States is releasing 30 million barrels of oil from the Strategic Petroleum Reserve over the next two months.

President Clinton and Energy Secretary Bill Richardson said they believe that U.S. refiners have the ability to step up production to handle the 30 million barrels of reserve oil, making another 3 million to 5 million barrels of home heating oil available for this winter.

But people in the industry say they doubt that will happen.

Fadel Gheit, energy analyst with Fahnestock & Co., said the refineries as a group are operating at about 95 percent to 96 percent of capacity.

"That is very close to, if not at, the maximum theoretical rate of operating. If you consider that two weeks a year, refiners must be shut down for maintenance, that leaves us basically 4 percent slack," he said. "If refineries are operating near 95, 96 percent capacity, that's it. We should not expect any higher than that," he said.

The 30 million barrels released from the nation's oil reserve will go to 11 oil companies that bid on the supply. But most major players were noticeably absent.

Representatives of Exxon Mobil Corp. and Citgo, indicated that their companies weren't looking for more crude oil to refine. Irving-based Exxon Mobil said it has already increased production, at a level 10 percent to 15 percent higher than a year ago, and is working to improve the movement of heating oil from Gulf Coast refineries to the Northeast.

"We fully expect to meet all our contractual demands this winter," the company said in a written statement.

Citgo Petroleum Corp. spokesman Kent Young said Citgo is producing heating oil at maximum capacity right now.

"The real issue that you have to take a look at is whether there is refining capacity for any oil," Mr. Young said. "There's plenty of crude out there already."

Seconding that was Edward Murphy, American Petroleum Institute general manager for downstream operations. (Downstream refers to the refining and marketing part of the oil supply chain).

"There is no shortage of crude oil. Any refinery can get as much crude oil as they want for whatever the price is," Mr. Murphy said.

U.S. refiners are producing record amounts of distillates, including such products as diesel and heating oil, with refineries operating near capacity, he said.

"I can't say in all honesty that we can't produce another gallon of distillate, but it's hard to see how we're going to squeeze more distillate out of this system. I don't see it having much of an impact on distillate supplies," he said.

Hot topic

While industry officials have downplayed concerns about potential shortages this winter, it's been a hot topic in Washington in recent weeks, with worries about inventories and prices heating up congressional hearings.

Crude oil prices have backed off 10-year highs of more than $37 just two weeks ago, but remain above $30 a barrel. West Texas Intermediate crude oil closed Wednesday at $31.43 in New York Mercantile Exchange futures trading.

Paralleling the crude oil prices are natural gas prices, which have hit all-time highs above $5 per million British thermal units. Utilities across the country have warned customers to expect higher prices, both from the sale of natural gas or of electricity generated from natural gas. And still fresh in the memory of many homeowners and politicians is last winter's price spike of heating oil, when a gallon briefly jumped over $2.

A number of elected officials, particularly from Northeast states, have praised the decision to tap the nation's petroleum reserve.

"This is a breakthrough moment that will help low-income and middle-class consumers get through the winter without having to reach deep into their pockets," U.S. Sen. Charles Schumer, D-N.Y., said after Vice President Al Gore called for the oil release.

But others aside from the industry have pointed to the same problem of refineries operating near capacity coupled with an already sufficient supply of oil to refine.

"The people in New England who think that this release will, in fact, lower prices are, I believe, deluding themselves," Sen. Robert Bennett, R-Utah, said at a congressional hearing Sept. 27.

Need for treatment

Refiners have their most flexibility with oil that is both "light," meaning that it flows more freely, and "sweet," meaning it has low levels of sulfur. Unfortunately, industry experts say, much of the extra oil available to refiners is neither light nor sweet.

Much of the OPEC oil, particularly from Arab countries, is a heavier, sour crude that must have sulfur removed and yields less gasoline, diesel and home heating oil than lighter, sweeter oils.

"Half of the oil out of the [Persian] Gulf is going east, and the Japanese and the far eastern refiners are well versed in how to deal with these heavier, sour crudes," said Leo Drollas, chief economist at the Centre for Global Energy Studies in London.

About 30 percent is going to the United States and Canada, where "the refiners are used to Middle Eastern crudes. But of course they have to treat them and get the sulfur out. They'd rather not have Middle Eastern crude, if you see what I mean. They'd rather have West African and northwestern Europe, North Sea crudes. They're sweeter and light," Mr. Drollas said.

Bidders on the reserve oil had a choice between one site that contains sweet oil and two sites with sour oil. And most chose sweet. Of the 30 million barrels to be distributed, 24.05 million will come out of the West Hackberry, La., site, which contains sweet crude.

Bill Edwards, a Houston-based energy consultant, said several OPEC representatives in Vienna, Austria, told him last month that they were unable to sell some sour oil because of a lack of buyers. And he has heard of several oil tankers arriving in the Gulf of Mexico with no takers.

Jim Wicklund, a Dain Rauscher Wessels energy analyst in Dallas, said refiners are less willing to pay top dollar for crude oil with a high sulfur content.

"Its yield is maybe 8 percent less than a normal barrel of crude. That, to a refiner, is significant. That means that 5, 6, 7 percent of the barrel of crude really won't be used for much, so its yield is less. It typically gets a lower price," he said.

In addition, "if you use high-sulfur content oil in heating oil, there's some residual [of sulfur] left in the crude. Your house smells like rotten eggs. It's not often used for residential heating. It's more often used for industrial applications," Mr. Wicklund said.

George Beranek, an analyst with Petroleum Finance Corp. in Washington, said that while most of the additional OPEC oil is sour, "I suspect most of the SPR awards will be sweet crude."

If so, "that's going to help balance out the quality [of oil] issues, and that's going to put a lot of sweet crude into the Gulf Coast," Mr. Beranek said.