Interested in the lubricant industry in Asia?

Subscribe now to Lube Report Asia. This FREE weekly e-newsletter features breaking news and base oil price reports.

January 17, 2017

Volume 7 Issue 4

    View Printer Friendly Article Bookmark and Share

Lubes'n'Greases Classic

Maximizing Profits: Fuels or Base Oils

Lubricant base oil plants generally improve the overall revenue for a refinery but also raise overall operating expenses. Netting the two, lube plants generally improve overall cash margins by an average of 40 percent, Solomon Associates found in its 2010 refinery benchmarking study. But not every base oil refinery is a cash cow. “A small number of lube plants are losing money,” he cautioned.

James “Jamie” Brunk, who works at Solomon’s Dallas, Texas, United States location, described Solomon’s margin calculations and compared base oil production with fuels refining in Asia and the Middle East in at an ICIS presentation in 2011. He emphasized, however, that these regional results are typical for the global industry: the patterns of base oil refinery profitability are the same worldwide.

“Lube plants are expensive to operate,” Brunk said. “For the average lube refinery in Asia and the Middle East, the operating expense to process the feeds into lube products is about four times the operating expense to process those same feeds into fuels products.”

So, how can a base oil plant compete?

“Every refinery is different,” Brunk stressed, and they’re different in many ways. Some of this variation comes from corporate philosophy – is it a large multinational or a single refinery, a joint venture or single-owner? Local management philosophy and focus can differ sharply from the corporate point of view, and from plant to plant. Is the plant manager responsible for profitability of the refinery, or is he primarily responsible for minimizing operating expenses?

Typically, said Brunk, bigger companies want plant managers to be responsible for operating expenses only, not margins. Smaller companies that don’t have trading groups often make the plant manager responsible for refinery bottom lines.

To understand a refinery, you need to look at its products, markets and customers, Brunk continued. Are its markets internal or external? Is it making commodities or specialties? What about by-products, like waxes; what happens to them?

Size, configuration and flexibility are additional areas of difference from one base oil refinery to another. Does the base oil plant use solvent refining or hydroprocessing? And when comparing refinery profitability, said Brunk, one finds big differences in analytical capability (“Are they astute or fumbling?”) and ways of measuring profitability at the refinery level.

“Return on investment is difficult to calculate consistently and compare refineries,” Brunk said. So Solomon typically uses cash margins for comparison purposes. They are easily calculated and consistent across all refineries, but they change with market prices.

Simply put, Solomon defines cash margins as gross product value (the combined value of base oil, wax and any other byproducts produced) less feedstock cost (the cost of vacuum gas oil to produce neutrals and vacuum residuals to produce bright stock) and less cash operating expense. By calculating cash margins per ton of feedstock, Solomon can compare diverse refineries.

Solomon’s biannual lube plant benchmarking studies consistently find a handful of highly profitable plants, a handful of money-losers, and a large number of plants that fall between those extremes.

Yield is the largest variable when comparing best performers to worst, Brunk noted. At the most profitable refineries, high-value products (base oils, waxes and specialties) account for 60 to 65 percent of feed. At the worst performing plants, high-value products barely account for 20 percent of feed.

In a generic refinery, crude oil is processed to make vacuum gas oil and vacuum residuals. VGO and vacuum residual go for further downstream processing, as feed for lube base oil or for fuels. Thus fuels and lubes compete for the same feedstock. According to his 2010 data, which Brunk emphasized is a snapshot of one year, Brunk found that lubes were more profitable than fuels at refineries processing 75 percent of the total feedstocks in that year’s study.

In addition to its cash margin calculations, Solomon also computes each refinery’s cost to produce a ton of base oil. In this formula, the cost to produce base oil is equal to net raw material cost (the cost of feedstock less the value of any wax or other byproducts) plus cash operating expenses.

When Solomon charts all the study’s participating plants’ costs to produce a ton of base oil against total base oil capacity and base oil demand, it’s easy to see how market prices are determined. “The marginal producer sets the market price,” said Brunk. As demand increases or decreases, different players with higher or lower costs become the marginal producer, and market prices change.

Photo: Indian Oil Corp.

Some refineries -- pictured here is Indian Oil Corp.'s in Paradip -- could profit by integrating a base oil production slate, according to consultancy Solomon Associates.

Brunk concluded with observations about the base oil industry gleaned from Solomon’s 2010 lube study. Not surprising, Brunk said, we see API Group I base oils declining as a percent of total production, and Group II base oils increasing. Group III production was flat; it had experienced a large decline in 2008 and recovered in 2010, but new facilities are coming on stream.

At solvent plants, “we see subtle changes aimed at margin improvement,” Brunk said, such as a shift of yield from 150N to 500N and bright stock. “Surprisingly, we see no changes in wax yields.” Utilization at solvent plants dropped in 2008, but rebounded to a higher value in 2010.

At hydroprocessors, utilization dropped in 2008 and did not fully recover in 2010. “They have not recovered as much as solvent plants,” he noted. But new capacity will continue to be added.

Lube Report Asia will occasionally include articles previously published in sister publications of LNG Publishing Co. This article appeared in the October 2012 issue – Number 40 – of Lubes’n’Greases Europe-Middle East-Africa under the headline, “Refinery Economics: Fuels vs. Lubes.”