Last week I discussed the impact of the economic recovery and oil prices on the number of active projects, those under engineering or construction, in the hydrocarbon industry and the expected almost $220-billion (Dh807 billion) expenditure in 2011.

In this regard the oil refining segment is the biggest spender in 2011 likely to see a capital expenditure close to $25 billion as the number of active projects has risen from 1,564 in June 2008 to 1,751 in June 2010.

The highest number of active refining projects, especially large scale ones, are believed to be in Asia and the Middle East due to the expected economic and population growth and the associated rising demand for oil products.

At the same time, the oil products slate is continuing the change towards the light products such as gasoline, diesel and jet fuel and therefore the need for more complex conversion projects to convert residues to the much needed transportation fuels.

Moreover, changing products specification to meet environmental and efficiency standards have their share in the expected expansion. So far most of the specification changes have targeted the light transportation products. However, there is an increasing drive to mandate the reduction of sulphur in fuel oil to somewhere close to 1 per cent by weight. This trend will add additional requirements on the refining industry and more expensive projects are likely.

Capital expenditure

The large capital expenditure also reflects the rise in the project costs as the cost decline during the economic crisis of 2008 proved short-lived. In our region, the Kuwait Al Zor refinery of 615,000 barrels per day (bpd) is still expected to cost over $15 billon in spite of many delays and attempts to reduce cost. The 400,000 bpd Jeezan refinery in Saudi Arabia is expected to cost $7 billion and the recently announced 200,000 bpd Fujairah refinery may cost over $3 billon. The difference in cost per unit barrel of refining capacity reflects essentially the differences in the processing schemes and the ancillary facilities dictated by location.

While the overall maintenance expenditure in 2011 in the hydrocarbon industry as estimated by Hydrocarbon Processing magazine may be close to $64 billion, almost $27 billion is expected to be the maintenance budget in the refining industry suggesting the widespread and large capacity of processing units across the world.

In operations, expenditures are about $99 billion and I venture to say that at least $40 billon will be needed in 2011 in the refining industry. Therefore, with a total expenditure in refineries as close as $92 billion in 2011, it is important to safeguard this industry in order to ensure the delivery of oil products in the quantity and quality demanded by markets across the world.

We have to remember that underinvestment in refineries a few years ago was one of the key drivers for the sharp increase in crude oil prices.

But this is easier said than done as judged by the reduced refining margins, especially in the last two years. The industry is pressured by the decline in oil demand since the second half of 2008 and while demand is recovering it is not yet at the high level of early 2008.

Debatable drives

At the same time the industry is pressured by debatable government drives to increase the share of biofuels which displace oil products. Governments want to "wean nations off imported crude oil" and "support domestic agriculture". While some doubt the success of such policies in the long run, their impact cannot be denied.

The auto manufacturers are increasingly required to increase efficiency of their engines such that in the US the corporate average fuel efficiency (CAFE) is mandated to increase from 27.3 miles per gallon now to 35.5 by 2016. While this will reduce the demand for oil, some of the reduction will be recovered through the increase in the number of vehicles and the distance travelled. Emission reduction policies as good as they are may be driving the car industry in the direction of more electric cars and natural gas fuelled vehicles.

All in all the refining industry will have to learn how to live with such pressures and the small margins they generate. One area to look at is to reduce maintenance and operating expenditures. With so many advances in materials of construction, technology, know-how, advanced control and modern management practices the task may have become easier but only time will tell.

In our region, oil refining is well established and expansion is on the way and therefore it is important to increase local content in all activities and to maintain safety standards and prevent losses.

 

Former head of Energy Studies Department in Opec Secretariat in Vienna.