Beast of Burden - Are Higher California Margins Worth The Hassle For Refiners?

California’s 12 remaining refineries don’t feel much love from their native state. The refinery fleet is particularly sophisticated — capable of refining mostly heavy and sour crude oil into the ultra-clean transportation fuels that state rules require. But state regulators seem to treat refiners like unwanted guests, to the point that rules have been put in place to actively encourage the shift from petroleum-based fuels to lower-carbon alternatives. The reward for refiners’ pain comes in the form of higher refining margins — particularly during unplanned outages. Today we weigh the rewards of higher gasoline and diesel prices today against a questionable future for refining in the Golden State tomorrow.

This blog is based on Morningstar Commodities & Energy’s recently published Outlook on California refineries. Please contact commodity-research@morningstar.com to request a copy of the full report.

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In Part 1, we identified and described California’s 12 refineries, which taken as a group have a throughput capacity of 1.86 MMb/d, according to the Energy Information Administration (EIA). Of the dozen refineries, 10 have coking units used to process heavy oil; only Kern Oil’s small Bakersfield refinery and Chevron’s Richmond refinery do not have cokers. We also noted that the state’s refineries now get most of their crude oil from overseas (primarily Latin America and the Middle East), with most of the rest coming from either California or Alaska. Refiners in the Golden State are subject to a stifling array of regulations, from the unique low emission fuels mandated by the California Air Resources Board (CARB) to the Low Carbon Fuel Standard (LCFS) that seeks to squeeze out fossil fuels altogether in favor of renewable alternatives. Unsurprisingly, the gasoline market is shrinking — the California Energy Commission (CEC) forecasts a 17% drop in gasoline demand (to 815 Mb/d) by 2030 — and the unique CARB fuel formulas make products too expensive to sell outside California. That means there are few prospects for California refineries to expand sales elsewhere to make up for declining in-state demand. As we discuss this time, about the only upside is higher retail prices and refining margins.  

Higher Prices

California gasoline and diesel are priced at a premium to other U.S. regions because of the higher cost of making CARB-compliant fuels. Just recently, of course, Gulf Coast gasoline and diesel prices were right up there with California after Hurricane Harvey knocked out several refineries, creating shortages that spiked Houston gasoline prices above Los Angeles for a day or so at the end of August. But generally, Californians pay more for their fuel. Figure 1 shows monthly average premiums for Los Angeles gasoline (red line) and diesel (blue line) over equivalent fuels in the Gulf Coast region between January 2013 and June 2017.

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