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Oil Bust Endures For Big Oil As Refining Margins Deteriorate

Refinery

Second quarter earnings season is underway and BP was the first oil major to kick off the fun.

The British oil giant reported its third consecutive quarterly loss, although much of that was due to big charge related to its disastrous 2010 Deepwater Horizon spill. BP said it lost $2.25 billion in the second quarter, which is an improvement over the $6.27 billion loss it reported a year earlier. The loss was made worse by the $5.2 billion pretax charge from the 2010 disaster, which brought the oil major’s total bill for Deepwater Horizon up to a ghastly $61.6 billion.

When the one-time charges are excluded, BP reported a $720 million replacement cost profit (similar to net profit), which is down 45 percent from its $1.31 billion earnings from the second quarter in 2015.

But one interesting takeaway from BP’s earnings is how poor the second quarter was for the downstream sector. The refining units at the oil majors have been a rare silver lining during most of the two-year downturn in oil prices, offsetting the upstream losses from low oil prices. But this year refining margins have collapsed amid oversupply while inventories of gasoline and other refined products have surged. Refining margins have declined to their lowest level since 2010 as a result.

The problem for the oil majors will be compounded if WTI and Brent fall back again. Oil prices are down below $45 per barrel this week, down from over $50 per barrel in June. Only ExxonMobil reported profitable earnings from its upstream unit in recent quarters – all of the other oil majors saw their upstream units in the red, with their downstream assets offsetting some of the losses. Related: Why Oil Prices Are On A Crash Course This Fall

Now that refining margins are down, the oil majors could really use a boost from their upstream units. BP saw some improvement in the second quarter on that front.

BP’s earnings from refining fell by more than $300 million in the second quarter of this year compared to the first. That came as its upstream revenue rose by $700 million due to the more than 80 percent rise in oil prices between February and June.

But of course, the upstream and downstream sectors are connected. With record levels of gasoline and diesel sitting in storage, some refiners are already starting to retool their units to switch to winter fuel blends. Reuters reported that some U.S. refineries are getting a head start, conducting maintenance and moving to winter fuel blends a month early. On the one hand this will reduce the elevated levels of refining production, which could ease the pressure on overflowing gasoline inventories. That is bullish for oil.

On the other hand, refiners will slow crude oil purchases. That, along with lighter consumer demand as the summer driving season comes to an end, will cut into crude demand over the next several weeks and months. That could put downward pressure on crude prices.

So, despite the ongoing move towards balance, the third and fourth quarters still hold large pitfalls for the oil majors. Oil prices are back down, which will crimp upstream profits. And refining margins are now low, potentially erasing one of the few positive elements for the business right now. Related: North Sea Platform Workers Launch Biggest Strike in Decades

And while the cutback in refinery runs could help boost margins as supply shrinks, it will take some time. "Simply trimming the amount of crude a refinery processes does very little to reduce gasoline supply," Energy Aspects wrote in a recent research note. "Bigger cuts need to come."

“There will be weakness in the second half of this year because of refineries,” Ahmed Ben Salem, an analyst at Oddo & Cie, told Bloomberg. “Even though the companies have been successful in reducing costs, there are still some big challenges ahead for BP and the other oil majors.”

BP agrees. The oil major said that refining margins will remain under “significant pressure” in the third quarter. After reporting its second quarter figures, BP’s stock opened up down more than 2 percent on the news, although it regained some of those losses over the trading day.

Next up are the rest of the oil majors: Statoil reports its earnings on Wednesday; Total and Royal Dutch Shell on Thursday; and Friday will see earnings from ExxonMobil, Chevron and Eni.

By Nick Cunningham of Oilprice.com

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  • Dennis Viliardos on July 27 2016 said:
    Very interesting read. All the points make perfectly sense. But projections are based on US data alone in most cases.

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