Opportunities in

US Rening

Opportunities in
US Rening

Expert Insight From:

Bill Fairhurst
Vice President Exploration
Eagle Oil & Gas

Charles Ebinger
Senior Fellow, Energy Security
Initiative, Foreign Policy
The Brookings Institution

Robert Dillon
Spokesperson
Republican Senator
Lisa Murkowski

Bill Day
Vice President
Media Relations
Valero

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Jacob Dweck
Partner
Sutherland

Opportunities in
US Rening

Introduction
The US shale boom has provided a boost for the countrys reners, which have
benetted from soaring domestic crude production, a ban on exporting oil and
insucient infrastructure to transport the countrys crude to new markets. These
factors have all contributed to creating an oversupply of oil, which has depressed
prices of domestic crude and kept feedstock costs for reners low.
Prices for West Texas Intermediate (WTI) crude have tumbled by around 60%
since July 2014, which has given US reners a competitive advantage over foreign
competitors, allowing them to boost renery utilization rates to record highs and
invest in capacity expansion.
But US crude prices have now fallen so low that the staggering growth rates the
country has experienced in upstream production over the past few years is
beginning to slow, which would threaten availability of cheap feedstock for
reners.
The US governments decision last year to allow two companies to export condensate has also reopened the debate surrounding whether the 40-year old ban on
crude exports should be lifted.
The upstream sector is lobbying hard to make this happen in the hope that their
crude then would be able to reach export markets in Europe and Asia where they
could achieve higher prices.
However, if the ban is lifted, the rening sector could lose its access to cheap
crude feedstock, pushing its costs up and rendering recent investments in
capacity expansion economically unviable.
This paper will outline the supply and policy concerns facing potential new
investors in the US rening sector and explain the advantages and challenges that
remain to ensure the continued protability of the industry.

US Shale Supply
The use of hydraulic fracturing over the past decade has unlocked a wealth of US
shale oil and gas resources - previously considered uneconomic to produce and
has helped the US to transform itself into an energy producing powerhouse.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

US crude output reached 9.19 million barrels per day (b/d) on 9 January 2015, a 1
million b/d rise from year-earlier gures and up from production lows of 3.8
million b/d in September 2008.
The US Energy Information Administration (EIA) expects oil production to increase
from an average of 8.7 million b/d in 2014 to 9.3 million b/d this year, then
reaching 9.5 million b/d in 2016.

Opportunities in
US Rening

Table: EIA gures on US crude production Jan 1983-2015:

US Crude Oil and Liquids Fuels Production

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

This increase in domestic production has contributed to a signicant decline in

the US crude oil imports over the past decade. The share of total US liquid fuels
consumption met by net imports fell from 60% in 2005 to just 27% in 2014. The
EIA expects this to fall further, to 20% in 2016, which would be the lowest level
since 1968.

Opportunities in
US Rening

Prices and Production

However, in the medium-term the EIA expects US crude production growth to
slow mainly because of the recent crash in domestic crude prices.
The US benchmark crude has lost almost 60% of its value in the past seven
months due to these rapid rises in US oil production, a lack of transportation
infrastructure to take crude to markets and a 40-year-old government ban on
exporting US crude.
The EIA estimates WTI crude oil prices will average $49/b in the rst half of 2015,
down from $100/b in July last year. This will lead to a slowdown in drilling activity
because of unattractive economic returns in some areas of both emerging and
mature oil production regions.
Fast depletion rates for shale wells mean high levels of capital investment are
needed to nance new production. With crude prices falling and US interest rates
rising, it will be increasingly tougher to nance this expansion.
Some companies have begun redirecting investment away from marginal exploration and research drilling to focus instead on proven, core areas in already-producing, major tight oil plays.
However, WTI prices are expected to remain high enough to support some
development drilling activity in 2015 in the Bakken, Eagle Ford, Niobrara, and
Permian Basin, albeit at lower levels than previously forecast.
Companies which have lower drilling and debt costs and have acreage in the
sweet spots of these regions will continue to drill highly productive wells in 2015,
the EIA said.
Bill Fairhurst, Vice President Exploration at Eagle Oil & Gas, said drilling has
already begun to slow down because of the oil price drop.
Weve already seen a 200-250 rig count drop which is a more direct indicator of
what will happen with production in the least economic plays in the US, Fairhurst
said. Drilling will continue because some operators are in a better nancial place
than others and have more economically viable acreage.
Eagle Oil and Gas has operations in some of the US most prolic shale plays such
as the Eagle Ford, Haynesville and the Marcellus.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

He added that high decline rates in shale wells meant that any slowdown in
drilling new wells will result in quickly slowing overall production growth. Fairhurst
said that there has already been a slowing in the rate of production increases in
the Permian, Eagle Ford and Bakken plays.
The negative side is the way these wells perform. They have extremely high
decline rates over the rst two years. You have to keep drilling wells to replace the
rapidly declining production. As soon as you stop that treadmill (of drilling) youll
start to see production cut quickly.
Fairhurst said at the end of the rst quarter of 2015 that we would start to see the
eects of crude price falls on production.
He added that the rates at which shale operators can drill economically varies.

Opportunities in
US Rening

People who are not the best performers could produce in the best areas at
$50-60/b but would dier depending on many variables. But at $50/b more than
half of wells drilled are not economic.
Charles Ebinger, a senior fellow in the Energy Security and Climate Initiative at the
Brookings Institution, said he believes WTI prices would have to fall to around
$30/b and stay there for 6-12 months before we start to see signicant production cuts.
Ebinger said he believes WTI prices will fall to around $30/b in the next few
months before rising to around $60/b next year.
Its going to hurt [the upstream industry] a lot before it gets better, Ebinger said.
But Id be very surprised if a year from now were not seeing prices around
$60/b.
Ebinger said breakeven prices for drilling shale wells vary from well to well and
from play to play. Some existing Bakken wells, which are already producing, could
continue to do so if WTI prices fall as low as $28/b. However less productive wells
could be rendered unviable if WTI falls below $42/b.
The EIA expects US crude production to reach 9.4 million b/d in the second
quarter of 2015 and then decline by 190,000 b/d in the third quarter because of
the drop in crude prices.
If WTI prices start to rise in the second half of 2015, drilling activity could increase
again as companies take advantage of lower costs for both leasing acreage and
drilling services, causing production to rise at a relatively low WTI price.
However the EIA adds that whether this forecast proves to be true will depend on
actual prices available at the wellhead and drilling economics that vary across
regions and operators.

The Impact of the Export Ban

The US government introduced a ban on exporting crude oil in 1975 to protect
US consumers from volatility and price spikes.
But four decades later US crude output is expected to surpass Russias and Saudi
Arabias. The debate over whether the export should be lifted has come to the
forefront of the countrys political agenda.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Industry experts generally agree there is increasing momentum behind the

individuals opposing the ban and the economic benets to the US economy
would be huge. However, most agree it is unlikely to happen under the current
administration.
Eventually the ban will be lifted whether its done this year, under this administration, or not. Thats because its outdated and doesnt reect the energy reality we
have today, said Robert Dillon, spokesperson for Republican Senator Lisa
Murkowski a proponent of lifting the export ban.
He added: For the upstream (lifting the ban) would be good as the market is
saturated. Reners might not have such a big discount (if the ban in lifted) but
they will still have access to lots of US crude. The more supply there is on the

Opportunities in
US Rening

global market the better for everybody.

There are estimates that suggest that lifting the 1970s-era restrictions on US
crude oil exports could cause production to increase to 11.2 million b/d and add
industry-wide investment of nearly $750 billion. It would also support almost a
million jobs.
The upstream industry is lobbying hard to get the crude export ban lifted.
What we [upstream producers] are asking for is the ability to compete at world
market prices. I think it will happen this year which will help US crude reach world
markets, Fairhurst said.
However for the rening sector, allowing the US to export crude could push their
feedstock costs up, rendering planned or recently completed renery capacity
additions or upgrades uneconomic.
Another issue is the Jones Act which states that all US crude or oil products
shipped between US ports has to be done on a ship which has been built, owned
and crewed by US citizens.
Due to a shortage of these ships, transport costs between US ports are high. So if
the US crude export ban was lifted, it would become cheaper to ship US crude
and products to Europe on a foreign ship than it would be to transport the
products to the US East Coast. This could potentially render it uneconomic to ship
US west coast crude and oil products to east coast reneries, forcing the sector
oine.
Fairhurst said the majority of US reners wont suer nancially if the ban is lifted
because many domestic reneries are congured to process heavier crudes
rather than the light, sweet crude produced from US shale plays. There is no
shortage of these heavier crudes which many reneries process, coming from
Canada and Venezuela.
For the reneries set up to process light, sweet crude they already have more
than they can process, Fairhurst said.
Compared to the huge advantage the American consumer and the exploration
and production industry will have in lifting the ban, the inconvenience to the
rening industry will be minor.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

However Ebinger is less optimistic about the impact that lifting the export ban
would have on reners.
Most renery margins now are the best they have been in years. Overall lifting
the ban will probably hurt them more than help them because most will lose
access to highly discounted crude oil to sell, Ebinger said. .

Rening Industry Overview

The rise in US crude production over the past decade has given reners access to
cheap feedstock and enabled them to invest in capacity increases to boost
output.

Opportunities in
US Rening

As of January 1, 2014 there are 133 operating reneries in the US with atmospheric crude oil distillation units (ACDU) totaling capacity of 18.9 million b/d.
Production Capacity of Operable Petroleum Reneries: Source: IEA

More than 50% of the country's renery capacity and most of the country's heavy
crude processing capacity is located in the Gulf Coast. The region's 51 operating
reneries with ACDUs have capacity totaling 9.7 million b/d.
In 2013 Gulf Coast gross inputs to reneries in the region averaged around 8.2
million b/d, according to EIA gures. Thats up from around 7.2 million b/d in 2003
and soaring above the average 5.5 million b/d processed in the region in 1985.
Genealogy of Major U.S. Reners
Source: EIA

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Opportunities in
US Rening

Most crude supply to East Coast reneries has traditionally been imported light
sweet crude. The region lacks crude oil pipeline connections from domestic
production regions and has very limited production within the area.
However since 2010 increasing light tight crude oil production in the Bakken
formation in North Dakota, combined with the expansion of crude-by-rail
infrastructure, has reduced the regions import dependence.
The availability of cheap crude for feedstock has boosted US renery utilization
capacity rates as they are able to maximize output.
Renery utilization rates averaged around 90% last year, according to EIA gures,
up from an average of around 86% in 2010.
Percentage of US Renery Utilization

The Midwest is the second-largest rening region in the country with 27 operable
facilities. The 26 reneries currently operating have 4.1 million b/d of ACDU
capacity, 70% of which has facilities with coking capacity. The coking unit is needed
to process heavy crude oil into higher-valued lighter products, such as distillates
and gasoline.
Since 2010, several Midwest reners have upgraded their facilities to process
more heavy crude, adding a total of 157,000 b/d of coking capacity. Over the same
time, ACDU capacity has increased by 148,000 b/d and gross inputs have risen by
205,000 b/d.

Valero
North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Valero is the world's largest independent rener, with 15 facilities stretching

between California, Canada and the UK. This cross-continental network of
reneries gives Valero a combined throughput capacity of around 2.9 million b/d.
Valero says the key to its success has been its ability to upgrade and expand
rening operations to produce high-value, clean fuels from a wide variety of crude
feedstocks, two-thirds of which come from discounted feedstocks.
As an independent rener rather than an upstream producer Valero adjusts its
feedstock mix based on market conditions. It buys crude oil from producing
leases, domestic oil trading centers and ships cargoes of foreign and domestic oil.

Opportunities in
US Rening

Heavy sour and residual oil, medium sour oil, and light sweet and other oil grades
each represent about one-third of the companys feedstocks.
Valero has invested heavily in expanding and upgrading its renery capacity to be
able to process the large amounts of US light, tight crude being produced.
In 2013 Valero completed work on a new hydrocracker unit at its St. Charles
renery in Louisiana with a throughput rate of 60,000 b/d. Valero started up a
similar hydrocracker at its Port Arthur renery in December 2012.
The hydrocrackers were designed to take advantage of high crude oil and low
natural gas prices at the time and to enable the company to process heavy-sulfur
crude.
They were designed mainly to produce diesel to meet growing demand in both
domestic and export markets. Each of the units cost about $1.6 billion to build,
Valero said.
The company is also pursuing projects to expand throughput capacity to 75,000
b/d at each of the new hydrocrackers. With successful permitting, the expansion
projects are expected to be complete this year.
The rst round of expansion was about meeting demand for products around
the world. The second round was about handling supply of light, sweet crude in
the US, said Bill Day, Vice President Community and Media Relations at Valero.
Companies like Valero are experimenting. We want more cheap crude so we
support (the) Keystone XL (pipeline). Were well positioned to take advantage of
abundant crude supplies in the US and natural gas too, Day said.
We havent seen any decline in upstream production so far. Were buying lots of
discounted crude, which gives us an advantage. Our heavy presence on the Gulf
Coast is well positioned for product export markets. The cost [of new renery
capacity and upgrades] is the biggest challenge.
Day declined to comment on whether Valero was concerned about the possibility
of the US crude export ban being lifted, potentially increasing the companys
feedstock costs.
We support the current system going forward, he said.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Day added that overcoming environmental regulations and a dearth of skilled

labour were also challenges the company has to face.
Were often competing with the upstream sector for labour. Weve had to search
a bit harder for skilled workers and thats pushed the price up, Day said.
He added that Valero hasnt taken any additional investment decisions to boost
renery capacity or upgrade facilities because of the cost of undergoing such
work.
Were cautious spending money. We want to make sure there will be a long-term
return for our shareholders.

Opportunities in
US Rening

What they are considering is investing in new petrochemical capacity, he said.

ExxonMobils share of the market

ExxonMobil is the largest rener in the world and processes more than 1.9 million
barrels of crude oil per day through its 7 facilities in the US.
Last year the company announced it was investing $1 billion in upgrading its
renery in Antwerp, Belgium. ExxonMobil is building a new delayed coker unit at
the facility to convert heavy, higher sulfur residual oil into products such as diesel.
This is despite conditions for Europe-based reners being far more challenging
than in the US due to stagnant demand growth, years of high Brent crude prices
and competition from capacity additions in other regions.
The rening industry makes long-term investment decisions looking forward over
30 years. ExxonMobil makes long-term investment decisions with a view that they
must be able to perform across a range of pricing that accommodates the types
of price swings we have seen in recent months, ExxonMobil said.
It added: Our recent investments in Europe at Antwerp and Slagen provide
excellent examples of ExxonMobils long-term view.

Condensate Investments
While exports of US crude and other products remain banned, there has been a
loosening of laws around exports of condensate an ultra-light oil that can be
exported after mild distillation.
Condensate is produced from shale plays alongside crude when underground it is
gassier in structure but it then condenses into a liquid when pumped to the
surface.

US Crude And Condensate Production 1960-2014

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

Opportunities in
US Rening

Similarly to crude, exports of condensate have long been banned. However, in

2014 the US Commerce Department granted permission to two Texas-based
companies, Pioneer Natural Resources and Enterprise Products Partners, to
export condensate abroad.
Pioneer Natural Resources now sells condensate from its Eagle Ford shale site to
Enterprise, which markets the oil to foreign buyers. The rst cargo was exported
in July 2014. The company said it has received higher prices than it could
command for condensate sales domestically and that international interest in its
condensate is growing, particularly from Asian petrochemical companies.
Allowing exports of condensate to burgeoning Asian markets has opened up new
opportunities for reners as well as upstream and midstream companies.
However, the US government has yet to approve other applications to export
condensate.
On December 30 2014 the Federal Government, through the Bureau of Industry
and Security (BIS) at the Commerce Department, issued guidelines to the industry
regarding the export of processed crude oil and condensate.
The guidelines state that lease condensate, produced from tar sands, gilsonite,
and oil shale that has been processed through a crude oil distillation tower is not
classied as crude oil but as a petroleum product. This means that it is not subject
to the same export restrictions as crude oil is. Those unsure whether their lease
condensate has been processed suciently to be considered an oil product
eligible for export may request a formal Commodity Classication from the BIS.
Jacob Dweck is a partner at Sutherland law rm. He has represented Enterprise in
obtaining its successful determination to export processed condensate, and he is
counseling many other companies in their government approval process or in
engaging in condensate exports on their own.

Dweck explains that the technical factors published by the government in the
FAQs for determining when processed condensate can be exported are qualitative, not quantitative, and that they are not categorical or exhaustive. But he adds
that any company able to meet the criteria of the Enterprise classication should
be able to export its condensate.

Dweck said he does not believe the US crude export ban will be lifted under the
current Administration.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com

The condensate export guidelines (the FAQs) are as far as the Administration is
willing to go at this time to ease export restrictions. The Republican Congress also
is very unlikely to legislate the ban away Dweck said. Most US reners believe in
free trade and support lifting the ban, and nearly all reners have no quarrel with
condensate exports. However, certain East Coast reners, representing some 7%
of US rening capacity, have banded together to oppose lifting the ban as this will
increase their feedstock cost disproportionately. They are particularly concerned
about the Jones Act, which requires all shipments of crude from the Gulf to the
East Coast to to be on more costly US vessels."

He added:
If the ban is lifted, the majority of US reners will do just ne. The US has the
world best and most advanced rening eet. Removing the ban would be
economically benecial all around, rationalizing the allocation of oil and gas

Opportunities in
US Rening

resources in a market-oriented manner and with the greatest benet to the US as

well as our trade relationship with our countries around the world.

Conclusion
There is still plenty of scope for investing in the US rening sector, which will
benet from abundant supplies of crude from the US and Canada even if the
export ban is lifted.
Experts say the current low crude oil prices will have a slight impact on US
production in the short term but the abundance of light sweet crude available,
high storage levels and the fact the many US reneries process heavier crudes
means there will be no shortage of available feedstock supply for the industry.
The industry doesnt expect the crude export ban to be lifted under this administration but momentum is building from both the upstream industry and the
political sphere so the longer-term outlook is less certain. Allowing condensate
exports has opened the oodgates to new debate on the issue, which proponents
say would have enormous benets for the US economy as a whole, as well as US
consumers, while the rening sector will still have access to reasonably prices
feedstock.

North American
Rening Conference
June 9-10 // DoubleTree
by Hilton Hotel Houston Greenway Plaza
Book Early for Big
Discounts
www.reningupdate.com