Base oils: No relief for Europe’s pain

Europe’s base oil refiners are facing another difficult year, with rising Group II imports, sluggish demand and sinking prices. Some capacity is at last being idled

At the risk of sounding repetitive, European Group I base oil producers are set to face a challenging year in 2015. This same prediction was made for 2014, primarily because of the expected arrival of competitively priced Group II material from Chevron’s new 1.2m tonne/year plant in Pascagoula, Mississippi, in the US.

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Challenging conditions did indeed ensue for European Group I producers in 2014, although later than originally foreseen because of a delay to Pascagoula’s start-up, from the end of the first quarter to the beginning of the third quarter.

But while the difficult times were delayed, they did arrive and were ultimately made even worse by other factors, namely poor demand and collapsing crude oil prices. These challenging conditions are set to continue through 2015.

Demand had been disappointing throughout 2014, both on an underlying basis and with respect to Group I, with blenders increasingly moving toward formulations using Group II and Group III instead. Poor underlying demand for lubricants is linked to the ailing European economy and as such prospects for a significant improvement this year are not high.

Group I-specific demand erosion in favour of Groups II and III is also likely to continue. Pascagoula material has flowed not only into Europe but also to some key importing countries where it competes with European Group I exports. A good example is India, which also receives Group II exports from South Korea and Taiwan, and where European exporters have struggled recently to place cargoes.

The SK Lubricants/Repsol joint venture plant in Cartagena, Spain, also started up at the end of September 2014. The plant has a total capacity of 630,000 tonnes/year, approximately one-third of which is Group II (albeit with the less common viscosity of 3 centi-stokes), and two-thirds Group III.

MIDDLE EAST NEW CAPACITY
Another new Group II/III plant is set to commence production next year in the Middle East. Abu Dhabi National Oil Co’s (ADNOC) plant is expected to come on line around the second quarter of this year and will produce 100,000 tonnes/year of Group II and 500,000 tonnes/year of Group III.

Plummeting crude oil prices have, on the face of it, not contributed drastically to Group I refiners’ troubles, in light of the fact that the collapse has given them access to cheap feedstock vacuum gasoil. However, so rapid has the corresponding collapse been for base oil prices, and so quickly do buyers expect to see upstream losses reflected in base oil prices, that some refiners have begun to suffer.

This is particularly true of inland refineries that face higher transportation costs (and therefore narrower margins) and also longer lead times. With end-users being acutely aware of the falling feedstock prices and the backdrop of generally weak market conditions, refiners are being forced to discount base oils that were produced from crude oil purchased earlier, at higher prices.

CLOSURES PLANNED FOR 2015
While no Group I refiners actually closed down in 2014, as was thought possible, some closures have been announced for 2015.

The Colas refinery in Dunkerque, France, will shut its 260,000 tonne/year unit in the first quarter, while Shell will shut its 370,000 tonne/year unit in Pernis, in the Netherlands. It is also understood that Total will rationalise some or all of its base oils production in Gonfreville, France, but details are not clear.

Despite these upcoming closures, the market is expected by most to remain weak for at least the first half of 2015, if not the whole year. January, at least, has borne out this prediction, with widespread price decreases that showed no signs of slowing.

A refiner explained that, rather than tighten up the Group I market, the closures will simply balance it out, possibly stabilising prices but not increasing them. Indeed, most participants expect more Group I capacity rationalisation to follow as Group II and Group III ­production grows.

However, not all is lost. Firstly, many industrial lubricant blenders are apparently resistant to switching away from Group I simply because of the time, effort and money it would cost. With a high number of different lubricant formulations already based on Group I base oils, to reformulate these with different base oils will not be a simple task.

Secondly, Group II and III base oil plants do not produce heavy viscosity oils, equivalent to Group I brightstock, and produce middle viscosities at lower yields. Therefore, certain Group I base oil plants may be able to reposition themselves as a niche producers of heavy grades. There is also likely to be a drive for Group I refiners to upgrade to Group II or Group III production, where feasible.

LONG-EXPECTED DECLINE
For most, however, the coming closures represent the beginning of the long-expected decline of European Group I base oils production.

In the meantime, Group I refiners appear to be adopting one of two strategies. Some of those aforementioned units with higher transportation costs have reduced their operating rates, faced with an oversupply of stock that they may struggle to shift.

However, many others, particularly those on the coast that are ideally suited to exporting, have taken advantage of the cheap feedstock prices and run their units at maximum rates.

Furthermore, base oil prices have decreased by proportionally less than most other refinery productions, such as naphtha, and so base oils offer the most attractive netbacks. As such, refiners have tweaked their output as much as possible in favour of base oils production.

Ross Yeo is senior editor, manager, in ICIS’s central London office, and covers European base oil markets