Plunging crude prices that had driven lucrative US downstream margins are now beginning to slow down some refining projects.
Prices that fell by more than half in 2014 led Newfield Exploration to halt drilling this year in Utah's Uinta basin. Refiners who have invested hundreds of millions to move and process that field's light, sweet and highly waxy crude now face a 15pc decline in production for the year and a top producer willing the pay penalties rather than produce at a loss.
The isolated Uinta and the relatively small region it supplies offers only the faintest industry bellwether.Newfield's 25,000 b/d of average production, the largest in the basin, barely registers in the more than 9mn b/d of total US crude output. The Uinta's crude, often compared to shoe polish or candles, cannot move in conventional pipelines and so does not carry the same level of refiner interest as production from other basins.
But Newfield's Uinta basin decision serves as an example of how some refiners' investments could be undermined by the pain of price-sensitive producers. The boom in US oil production has led to an overhaul of national petroleum logistics and some refineries, prompting multi-billion-dollar investments in equipment to move and process the rush of lower-cost domestic crudes. Producers nationwide have slashed spending and put off drilling programs.
Both HollyFrontier and Tesoro made moves starting in 2011 to process more of the isolated black and yellow wax crudes produced out of the Uinta at their Utah refineries. The crudes have enough wax to defy pipeline shipments, so most of it moves via truck. Newfield inked long-term supply deals with the refiners and steadily ramped up production. The company invested $400mn in the basin last year and increased output by 14pc over 2013 figures.
Prices would need to return to roughly $75/bl to resume activity in the basin, Newfield said this week. Long-term contracts do not compel production but do carry penalties of $1.83/bl to $6.50/bl, the company disclosed. Drilling could take six months to resume once a decision to restart was made.
Tesoro and HollyFrontier continue to run waxy crude today and work to complete expansions already underway. Tesoro expects to complete by June an expansion allowing its 58,000 b/d Salt Lake City refinery to process 21,000 b/d of the crude. HollyFrontier still expects to complete by the end of the year a 14,000 b/d crude capacity expansion at its 31,000 b/d refinery in nearby Woods Cross.
But Tesoro said it was reviewing its plans for an insulated pipeline to more efficiently move the difficult crude to the Salt Lake City market. A second phase of the HollyFrontier expansion, bringing total crude capacity to 60,000 b/d and waxy crude processing to 40,000 b/d, will have to wait until producers become interested in long-term supply agreements again, chief executive Mike Jennings said during a fourth quarter earnings call.
"We're going to need to see a change in crude price in order to get the producers back in the game and wanting to look forward to these long-term supply contracts that would cause us to push forward with that project," chief executive Mike Jennings said.
Utah refiners are not alone in halting major projects in the current price environment. On the US Gulf coast, Marathon Petroleum continues to work through permitting but has put on hold investments to convert residual fuel oil to ultra-low sulfur diesel (ULSD) as the differential between the two products sharply narrowed. HollyFrontier chose to write down a Nebraska oil pipeline during the fourth quarter as lower prices reduced prospects for producer interest in the asset.
Both producers and refiners see the current price environment as temporary. The industry will need to work through growing volumes of crude in storage. But producers have sharply reduced the number of operating rigs, a move that will begin to pare down output later this year.
"These actions will accelerate rebounding of strong demand and facilitate recovery to more rational prices in the future," Harold Hamm, chief executive of the largest Bakken producer, Continental, told investors this week.
That means marginal projects to develop US crude resources such as in Utah and the downstream infrastructure to exploit them are not canceled, but on hold.
"I think 'on hold' is a good way to describe it," Jennings said of HollyFrontier's second phase of expansion. "We certainly hope that that comes to fruition, but it is a crude-specific project, and with $50/bl WTI, we don't see a lot of drilling activity in the Uinta."
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