If you could possibly promise rates of return like that, anybody would build a refinery, however are rates of return like that possible in today’s Alberta? Maybe, but they are solely going to be earned if the value in our natural resources has been destroyed prematurely. That’s hardly value-added.
The push for extra refining in Alberta has gained momentum prior to now few years, as the so-called “bitumen bubble”—an Alberta manifestation of reductions for crude in a lot of North America—saw the hole between Alberta bitumen and refined merchandise develop to historic ranges. This occurred because the refined merchandise market largely tracked higher world crude prices. As the image under exhibits, the worth of a barrel of bitumen has, at instances, been over $60 per barrel lower than the value of the refined merchandise that could be produced from it. Over the past five years, the worth of refined merchandise on international markets has averaged about $forty five per barrel more than the value of bitumen in Alberta—a margin massive enough, were it to be maintained, to place any refinery solidly in the black.
Determine 1 Implied bitumen value primarily based on Western Canada Select and Edmonton Condensate costs. Refined products worth based mostly on Los Angeles Harbour costs, weighted for standard yield from a bitumen refinery, internet of typical pipeline transportation prices. Each barrel of bitumen produces a composite barrel of 0.38 barrels of CBOB and 0.25 barrels of CBOB, each gasoline blending components, as well as zero.33 barrels of low-sulfur diesel, with the residual in petroleum coke, which is valued at zero. Source: Bloomberg
The AFL evaluation was developed by U.K.-primarily based economist and former Mobil executive Ed Osterwald. (Ironically, the AFL was apparently unable to find a Canadian agency willing to do the work, and one assumes Osterwald was here on some type of non permanent work visa.) The outcomes are based mostly on a project cash move mannequin of a refinery able to processing 308,000 barrels per day of bitumen. That’s an enormous venture by any measure—it would be the largest refinery in Canada and amongst the ten largest in North America.
Osterwald’s report maintains that this refinery may very well be in-built Alberta for about $10 billion—this despite the fact that an identical refinery challenge, at lower than 20 per cent of the size, is projected to price over $eight billion, and people prices could properly improve before that venture is finished. When questioned on this assumption, Osterwald maintained that his determine was attainable if the builder chose the appropriate companions, and had acceptable authorities support—what both of these meant wasn’t actually clear. That was, sadly, the story of the day as interested readers had been left with no clear answers as to what assumptions underpinned the analysis, and the report provides little in the way of clues.
Determine 2 Refinery after tax inside rates of return, given capital price and net refining margins. Supply: Author’s calculations.
May a new refinery in Alberta earn a 16-25 per cent rate of return? Certain, it may. Refineries are massive bets on small spreads—you spend a lot of money up front to seize the difference between the value of your inputs (on this case bitumen) and the worth of your outputs, internet your refining and maintenance prices. For those who spend $10 billion on a 300,000-barrel-per-day refinery, and it operates for 50 years, you’d need a mean, net refining margin of between $33 and $50 per barrel to earn that sort of return. This is not unreasonable given current history—the common worth gap has been over $forty five per barrel between bitumen and refined merchandise, and refining working and maintenance prices are usually under $10 per barrel. If price gaps just like the last five years are maintained, a refinery on this scale might still be viable if it price a more affordable $18 billion to $20 billion to build.
But will these value gaps be maintained, and what does it mean if they’re? The margins any refinery in Alberta will earn rely on pipelines and tempo of development—if Alberta is related to international markets and/or if production is managed to match pipeline capacity, diluted bitumen in Alberta will trade at a value similar to Maya crude traded within the U.S. Gulf Coast, net transportation prices. It won’t seize a world light oil value, in fact, but its value will come to reflect its value to refiners globally. To provide you with a sense of how much that issues, Determine 3 under makes all the identical calculations for refining margins, however assumes that pricing relationship—diluted bitumen valued in Edmonton at Maya costs, net a $6.50 per barrel pipeline toll.
Determine three Implied bitumen worth based mostly on Maya and Mont Belvieu Natural Gasoline costs. Refined products value based mostly on Los Angeles Harbour prices, weighted for normal yield from a bitumen refinery, net of typical pipeline transportation prices. Every barrel of bitumen produces a composite barrel of zero.38 barrels of CBOB and 0.25 barrels of CBOB, both gasoline mixing elements, in addition to 0.33 barrels of low-sulfur diesel, with the residual in petroleum coke, which is valued at zero. Source: Bloomberg.
This modifications the sport significantly—using Maya costs to value diluted bitumen, adjusted for transportation, the common refining margin reduces to about $33 per barrel which, as soon as working and upkeep costs are taken into account, would doubtless be reduced to about $23 per barrel—right around the break-even margins you’d have to repay a $10-billion refinery, but nowhere near sufficient to cowl a $20 billion one. Realized refinery margins are usually this small or smaller—in the first quarter of 2014, Valero reported web revenues for its Gulf Coast operations, earlier than taxes, of $6.19 per barrel refined—and so nobody goes to jump into a refinery in Alberta except they’ll anticipate discounted bitumen in the long term.
There’s no query that refineries will be viable in Alberta, if circumstances result in a big sufficient low cost on Petroleum Equipment bitumen. The AFL would have you ever imagine that creating incentives for refining here is appearing like an owner—capturing the worth from the bitumen and creating jobs, even when that comes through a bitumen low cost. It’s not. Through discounted bitumen, we can be transferring worth from all Albertans and a few extraction companies to some Albertans and refinery corporations. When it comes to jobs, there aren’t many unemployed oil employees hanging out in Alberta, and so extraction and refining industries would compete for lots of the identical staff, and supply similar job security—you’re not creating jobs, you’re transferring them from one a part of the availability chain to another. From a fiscal perspective, earnings earned via bitumen extraction are subject to resource royalties which will be as high as 40 per cent over and above company taxes whereas earnings earned by refineries are topic solely to corporate taxes. From a price-added perspective, an oil sands extraction plant provides far more value to buried oil sands ore than a refinery adds to bitumen. Discounting bitumen to drive a substitution between extraction and refining isn’t acting like an proprietor as all Albertans ought to demand our authorities do—it’s acting like a politician. We should always direct our politicians to not spend bitumen in ways they wouldn’t be prepared to spend cash.
The query Albertans ought to ask is: if we’re going to spend billions of dollars of government money or billions of dollars worth of bitumen, would we wish to spend it offering a greater charge of return to refineries or on different things we value like well being care, education, and infrastructure—areas that by the way tend to be extra labour- and union-intensive than refining? Count me in for the second choice. Refining isn’t a chance for worth-added in Alberta, it’s what will happen if we permit worth to continue to be destroyed by selling our assets at a discount. That’s not something that must be celebrated as an opportunity—it’s precisely the other.
