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29 June 2012

Hale & Twomey Limited is an energy consultancy specialising in strategic issues affecting the energy sector. With a comprehensive knowledge of local and international energy markets, we provide strategic advice, comprehensive analysis and services across the entire sector.

Hale & Twomey prides itself on being able to analyse and interpret the detail, then translate the implications into strategic directions for our clients. We provide expertise to a broad range of companies and government departments. Hale & Twomey has established a strong reputation in the sector by producing timely, high quality, value-adding work.

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This document was written by:

Ian Twomey Phone: +64 4 471 1109, e-mail: [email protected] West Phone: +64 4 471 1153, e-mail: [email protected]

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Executive SummaryAustralia's refining sector is under severe competitive pressure that has resulted in a refinery closure being announced (Clyde) and some other refineries put under review by their owners. The National Energy Security Assessment (NESA) 2011 identified continuing competitive pressures on refineries as a long term watch point for consideration in future NESA and Liquid Fuel Vulnerability Assessments. The Draft Energy White Paper recommended as a key action further assessment of Australia’s liquid fuel vulnerabilities, including liquid fuel supply chain, import and refining infrastructure and critical supply linkages. This report tested supply capacity in the region under two hypothetical refinery rationalisation scenarios in Australia and considered the following questions as key:

What is the likely outlook for refining in the Asia Pacific region and for the availability of Australian quality refined product;

What are the likely structural changes to Australian import/export supply chains for refined products; and

The nature of any potential energy security impacts. The methodology for this analysis included modelling Australian supply chains and the impact of hypothetical structural changes to refining on supply; assessing forecasts on global refining and fuel supply; and consultation with the Australian refiner marketer petroleum industry.

In relation to issues of regional capacity, supply chain reliability and supply contingency we found:

Refinery closures would have no significant impact on the wider Asian system as higher demand in Australia and the region for diesel and jet in particular is easily absorbed within spare capacity. While the petrol market is more fractured, the Asian system would adjust to meet additional demand from an orderly refinery closure.

Australian supply chains would adjust to new sources and commercial trading strategies. No new choke points are anticipated as most product imports will come from similar regions as the crude it replaces however adequate import infrastructure remains a watch point. It is likely that any closed refinery would be converted to an import terminal to ensure the market remains well supplied. While overall stock holding falls, crude oil feedstock is replaced by more valuable finished products.

Supply chain diversity and flexibility is retained which provides continued security of supply. Only in the unlikely scenario of no refining sector coupled with a failure of physical oil markets does Australia lose the flexibility to redirect and refine some crude oil.

The forecast for the Asian refining market from FACTS Global Energy (FGE) is that refining margins will be under significant pressure in the short term but with some improvement over the rest of the decade. The new capacity expected to come on-stream will exceed the forecast for demand growth – therefore there is a need for refinery closures in excess of those already planned to ensure refinery utilisations (and therefore margins) remain at a level which will result in industry profitability.

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The development of ever larger, more complex refineries continues to lower the break-even benchmark that Australian refineries need to compete against. Coupled with the domestic pressures of high local costs and a high US/AUS exchange rate, Australian refineries are likely to remain under pressure into the future.

Australia’s supply chain has been modelled to evaluate the impact of more refinery closures. A base case using 2010/11 data was developed from which the forecast demand and supply profile in 2016/17 was extrapolated. With Clyde closing in 2012, this case assumes six operational refineries. Two specific scenarios are analysed, one with only four refineries operating (two more shutdown) and one with all refineries shutdown and a shift to 100% import supply.

The first scenario is informed by Caltex announcing that its two refineries in Australia are under review.1 The second is a hypothetical scenario, certainly in the review time frame, purely to test the extreme of the shift to dependence on product imports. During consultation with the Australian refiners as part of this review, they noted that while all Australian refiners are under similar pressure of low margins and increasing domestic costs, each refinery has distinct margins depending on its location, crude processed and products produced. Just because one refinery is being closed does not mean that similar decisions will be made at other refineries.

The import demand these closure scenarios put on the wider Asian refining system is assessed against the FGE refining forecast for 2016/17. FGE give two forecasts - one with firm/likely closures accounted for (including Clyde) and another with closures that may be required to keep the refining market balanced.

Four refineries operating

All refineries closed

Additional import capacity required (kb/d) 175 560Use of Asian refinery spare capacity using FGE forecast which only includes firm/likely closures (%)

4% 14%

Additional (and change in) Asian capacity utilisation using FGE forecast which only includes firm/likely closures (%)

0.5% (83.1%83.6%)

1.7% (83.1%84.8%)

Use of Asian refinery spare using FGE forecast which includes additional closures (%)

5% 16%

Additional (and change in) Asian capacity utilisation using FGE forecast which includes additional closures (%)

0.5% (84.4%84.9%)

1.7% (84.4%86.1%)

Source: FGE Annual World Refining Outlook, Hale & Twomey

Closure of another two Australian refineries would not have a significant impact on the wider Asian system and the demand can easily be absorbed within the spare capacity. The utilisation increase even in a 100% import scenario is not particularly high - FGE reported Asian refinery utilisations over 90% in mid-2000. The conclusion that can be drawn is that over the forecast period to 2020 there is likely to be plenty of capacity in

1 Following the preparation of this report, Caltex completed its refinery review and announced plans to cease operations at the Kurnell refinery and convert the facility into an import terminal in the second half of 2014. However, Caltex also announced it would continue operations at its Lytton Refinery in Brisbane.

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the Asian system, whatever decisions individual Australian refiners make about each refinery's viability.

Although diesel is now the highest demand grade in Australia, the Asian market will easily be able to adjust to supplying increased volumes if more Australian refineries close. Australia already imports nine billion litres of diesel and diesel has relatively similar specifications across the more advanced economies in Asia. The demand from Australia and other developed countries, along with the wider Asian system needing to export volumes into Europe from time to time, has resulted in many refineries upgrading to the capability to produce and export the higher quality diesel. This trend is continuing as China and India move their cities onto similar higher quality specification diesel.

Along with diesel, the Asian refinery system has excess jet production and this is forecast to continue. The excess forecast for both grades on FGE's refinery balances is greater than the incremental demand from any number of Australian refinery closures.

Petrol is different in that the Asian market is more fractionated between different qualities and Australia does not currently import large quantities so the market has not adjusted to this requirement. In the scenario of only four operating refineries, petrol import volumes would be about three and a half times more than volumes imported in 2010/11. This is a significant change and would likely take time for more refineries to adjust their facilities to produce Australian grades. As refinery closure decisions take a considerable period of time and planning, the system would likely have sufficient time to prepare for any upcoming requirement.

Over this decade, FGE is forecasting the Asian petrol balance will move from surplus to shortage. The shortage is forecast to be met from surpluses forecast for the Middle Eastern and European refining systems. While product flows may change, there is not expected to be any problem securing petrol supply. The impact on Australia is likely to be the large Indian export refineries focusing east into Asia rather than west to the Middle East, United States and Africa (as is currently the case) and North Asia looking to shift more supply into Australia.

While it will take some time to adjust to an incremental requirement for Australia's grades, particularly petrol, refinery closures do not come out of the blue. Market participants in Australia advised it would be at least a two year process moving through a closure decision and for establishing new supplies. It was noted that Clyde had been indicating possible closure for over ten years.

A company’s import strategy if closing a refinery is likely to be a mix of term and spot supply. They will make the decision depending on their supply options and trading strategies. This is no different to the way imported crude is secured. Most product imports will be coming from similar regions as the crude it replaces so it is unlikely to create any new potential choke points.

Companies will also change their inventory strategies to adjust to product supply rather than refining. Crude and intermediate product inventories will no longer be required, although some of this loss will be offset by the need to increase finished product inventories. Product inventories increase because supply replenishments occur on large shipments rather than as a continuous flow from a refinery. However overall commercial inventories will decline – we calculate by around 150 million litres for any refinery closure (about 2% of Australia’s reported stocks).

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Consumption cover petrol (days)

Consumption cover diesel (days)

Consumption cover (days)

Total stock (million litres)

Base case 2010/2011

19.1 18.5 28.6 4,346

2016/2017 six refineries

20.2 15.6 25.0 4,219

2016/2017 four refineries

21.9 16.0 23.3 3,934

2016/2017 no refineries

24.3 18.1 19.6 3,304

While a reduction in commercial inventory would indicate a reduction in supply security, in practice much of the stock held in a refinery is required for operation and therefore not readily useable in an emergency. We estimate useable stock only reduces by around 60 million litres for any refinery closed (approximately one third of a day's demand). Offsetting this impact is the benefit of holding more stock as finished product (by about half a day for each refinery closed) and the benefit of having more ships on the water travelling to Australia which would provide significant flexibility in a supply shortage.

The loss of commercial inventory will impact Australia’s perceived oil security as measured by its compliance to the IEA requirement to hold inventory to cover 90 days of net import demand. For any refinery closed, Australia’s current deficit against the IEA target would increase by 105,000 tonnes (about 1.6 days of net imports) which would require physical emergency product stock to offset.

The refineries are all in centres of high product demand (large cities). Therefore in most cases a closure decision is likely to be accompanied by a decision to convert the refinery to an import terminal as the company will still want to meet its market demand. Our assumptions on inventory change assume this conversion.

Other than the inventory impact discussed above, it is difficult to apportion a supply security impact to the change in supply from importing rather than refining in the normal business environment. However supply security also needs to consider scenarios that are outside normal business conditions, particularly major global disruptions to oil markets.

In the hypothetical case of having no refining sector, Australia would lose the ability to refine domestic crude production (while much domestic crude does not suit Australian refineries in an emergency it could be run albeit at reduced rates - forecast production would load four refineries at about 75% producing about 30% of Australia's product demand). Other factors that limit diversity or flexibility and hence impact energy security during a severe short term supply disruption include: increased dependence on Singapore as a supply location, increased dependence on export refineries

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controlled by other sovereign states and dependence on international shipping although supply routes are likely to remain fairly diverse.

The scenarios necessary to cause this sort of market disruption (effectively some sort of market failure) are of low probability. Analysis of the disruption events over the past thirty years show that they are not this severe - the markets kept operating and crude and product could be secured (albeit at higher prices in most events). It is possible those events would have had a similar impact on Australia in the case of Australia having a refining system or if it had been completely dependent on imports.

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Table of ContentsExecutive Summary i

1.0 Introduction 1

2.0 Methodology 1

2.1 Modelling summary 2

3.0 Asia Pacific refining outlook 2

3.1 Refining margin background 3

3.2 Global refining outlook 4

3.3 Asian refining outlook 6

3.4 Asian product balances 8

3.5 Forecast variation 9

3.6 Asian refining outlook summary 9

4.0 Australian refining and product flows 10

4.1 Refining of domestic crude 10

4.2 Refining/import split 11

5.0 Supply changes from refinery closure 12

5.1 Refinery closure scenarios 13

5.2 Impact on Australia's ability to source adequate supply 16

5.3 Supply diversity/resilience impacts 19

5.4 Inventory impacts 20

5.5 Import supply arrangements23

5.6 Potential choke points or market barriers in altered supply chains 24

5.7 Shipping 25

5.8 Price impacts 26

5.9 Impact on supply security during a global emergency 26

6.0 Summary 29

Appendix 1: Model Structure 31

Appendix 2: Model Output 32

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Glossary

APS Australian Petroleum Statisticsbbl BarrelFGE FACTS Global Energy an international petroleum consultancyIEA International Energy AgencyLR Tanker Long Range Tanker; Can be Aframax tankers around 80,000 tonnes

capacity or Suezmax tankers which can carry around 120,000 tonnes. While normally used in crude oil trade, tankers up to Aframax size are now used for some product trades (50-80,000 tonnes).

Middle distillates

Term used to reflect a cut of crude oil from which both jet fuel and diesel are produced. Most refineries can swing some production between these products so are often reviewed collectively.

mmb/d Million barrels per day.MR Tanker Medium Range Tanker normally carrying 30-40,000 tonnes. Main

type of tanker used in the product market.NESA National Energy Security AssessmentOECD Organisation for Economic Co-operation and Development.RET Department of Resources, Energy and TourismWhite products Term used to cover the non-black (fuel oil based) products from

refineries - particularly petrol, jet fuel and diesel.

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1.0 IntroductionAustralia's refining sector is under severe competitive pressure that has resulted in a refinery closure being announced and other refineries under review by their owners. When Mobil shut its Adelaide refinery in 2003, the number of refineries in Australia dropped from eight to seven. More recently Shell has decided to close Clyde refinery in Sydney and convert it to a product import terminal in 2012 and Caltex has announced both its refineries are under review.

The National Energy Security Assessment (NESA) 2011 identified continuing competitive pressures on refineries as a long term watch point for consideration in future NESA and Liquid Fuel Vulnerability Assessments. The Draft Energy White Paper recommended as a key action further assessment of Australia’s liquid fuel vulnerabilities, including liquid fuel supply chain, import and refining infrastructure and critical supply linkages.

The Department of Resources, Energy and Tourism (RET) wants to evaluate the impact on Australia's liquid fuel security from the potential structural change in Australia's supply chains. This work should enhance the understanding of the relationship between the domestic refining sector and energy security. We note the NESA defines energy security as the adequate, reliable and competitive supply of energy to support the functioning of the economy and social development.

2.0 MethodologyThis paper initially reviews the outlook for the Asia-Pacific refining market and discusses the impacts on Australian refineries from that outlook. With that background the impact on supply security from refinery shutdowns within Australia is then assessed. The analysis looks at how the supply pattern changes, the likely source of imports, the likely change in inventories and the contracting method for supply by direct imports.

While the discussions on refinery closures are generic (not specific refineries), the scenarios are analysed for a 2016/2017 period with the base case assuming six refineries in operation (Clyde converted to an import terminal). Two specific scenarios are analysed, one with only four refineries operating (two more shutdown) and one with all refineries shutdown and a shift to 100% import supply.

The first scenario is informed by the Caltex announcing that its two refineries in Australia are under review. The second is a hypothetical scenario, certainly in the review time frame, purely to test the extreme of the shift to dependence on product imports. During consultation with the Australian refiners as part of this review, they noted that while all Australian refiners are under similar pressure of low margins and increasing domestic costs, each refinery has distinct margins depending on its location, crude processed and products produced. Just because one refinery is being closed does not mean that similar decisions will be made at other refineries.

They also noted that refinery closure decisions take a long time and a lot of planning to ensure alternative supply is in place, as ensuring smooth supply to their markets is a critical business outcome. It is unlikely the that refinery closure decisions will come

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out of the blue, and like Clyde is likely to be a decision made after consideration over a number of years.

In order to analyse the scenarios and make the assessment on supply security, a model of the supply into Australia has been developed which is briefly summarised below.

2.1 Modelling summaryThe model has been developed using data from the Australian Petroleum Statistics adjusted where necessary to ensure data consistency. The adjustments are based on advice from RET data experts on the reliability of different sources along with some industry feedback during consultation. The model assesses the product supply/demand balance by product type for each state as well as Australia as a whole. As well as product supply and demand, the model also assesses use of indigenous crude and condensate production and the likely level of stocks in the supply system. This allows the model to look at:

How the product supply/demand picture changes with refinery closures by state; What the impact might be on the use of indigenous crude in the refining sector

based on the indigenous crude forecast and changes in the refining sector; and How the inventories may change with rationalisation of the refining sector.More details of the refinery modelling structure are included in Appendix 1.

3.0 Asia Pacific refining outlookThe main source of data used for the Asia Pacific refining outlook was Facts Global Energy (FGE) Annual World Refining Outlook January 2012. RET has previously used FGE Refining Outlook for refining reviews and consultation with Australian refiners confirmed that FGE's approach was sound (FGE's 2012 Outlook was in line with their views). The FGE Refining Outlook is also consistent with the IEA’s forecasts which were used in its recent review on the refining sector rationalisation.2

The assessment concentrates on how the regional outlook is likely to affect the Australian refining outlook as well as the opportunities for sources of direct product imports.

The Asia-Pacific region is the most rapidly growing region in the global economy, resulting in the region being the key driver for global growth in petroleum demand - in the past five years, 84% of global demand growth has been in Asia-Pacific3.

Australia's location in this region is providing significant stimulus for the economy through demand for its resources. That demand has in turn been reflected in increased demand for petroleum - particularly jet fuel and diesel. Almost alone among OECD countries, many of which are experiencing declining demand growth, Australia is seeing strong growth in petroleum demand.

2 Draft Report IEA Refining Sector Rationalisation, Implications for Oil Supply Security; March 20123 From BP Statistic Review of World Energy 2011. While the global market has increased there has been a decline in OECD country consumption over this period.


In theory, such growth should provide a robust environment for Australia's refining sector with plentiful domestic demand for refining output. However the Australian refining sector is under pressure from low margins resulting in one refinery announced to close this year, and another two under review by their owner. The pressure on the refineries is coming from:

Ease of sourcing and importing Australian quality products from Asia; Low margin environment globally with plenty of spare capacity in the refining

system; National oil companies (particularly in the east) continuing to invest in refining

capacity for strategic reasons as well as financial; The small scale of the Australian refineries versus the size of Asian export

refineries; Lower level of complexity for the Australian refineries than the new export

refineries; Higher costs for the sweet low sulphur crude that make up the majority of

Australian refineries’ crude input; Product slate produced in Australia does not match the way the market has

moved (now more jet fuel and diesel focused); High operating costs within the Australian economy; and A high Australian exchange rate from the resources boom where refining income

is in US dollars.

3.1Refining margin background

At the start of the millennium, refining was a relatively unprofitable business with significant over capacity, especially in Asia in the wake of the late 1990's Asian financial crisis. As shown in Figure 1, the low margin environment in the first years of the 2000’s corresponded with low refinery utilisation. The trend started to change in 2003 with strong demand growth driving refining utilisation up and as a result generating much higher margins. This growth was particularly driven by sharp demand growth in China which has provided about 35% of global demand growth between 2002 and 2008.

This period has been referred to as the 'golden age of refining' where finally most refineries were making a return at least in line with their cost of capital. The 'golden age' came to a premature and sudden end in early 2009, when refinery throughputs and margins plummeted following the drop in demand caused by the global financial crisis. The drop in demand, combined with increases in refining capacity encouraged by the previous good margin period, saw the refining business turn quickly sour, with Singapore complex margins negative for the second half of 2009 (implying a standard Singapore refinery would be running in a cash negative position).

Figure 1: Singapore refinery margin and Asian refining utilisation


While margins have recovered somewhat from this negative level, they remain relatively low with average refinery utilisation between 80-85%.

The other important trend over this period has been the change to diesel which now generally trades at a price premium to petrol. Historically petrol was the more valuable product and traded at a premium to diesel. However the strong growth seen since 2002 has been primarily diesel and it was the pressure to meet this diesel and jet fuel demand that pushed refinery utilisations and margins up.

Figure 2: Diesel versus petrol comparison

The positive differentials shown in Figure 2 would be even higher when premiums for better quality diesel (like that required in Australia) are included, which for some periods were substantial. A refinery which produces a lot of middle distillate (jet fuel and diesel) might produce 30% more of these products relative to a petrol focused refinery. For every USD per barrel that diesel is valued over petrol that will likely add around USD0.30/bbl to the refining margin.

3.2Global refining outlook


The FGE report assesses that there is likely to be 8.6 mmb/d of crude processing capacity coming on-stream between 2011 and 2015, with a further 8 mmb/d by 2020. Two thirds of the 16.6 mmb/d of the gross capacity is projected to be built East of Suez, predominately in Asia.

Even when taking into account the capacity known or likely to be shut down (2.1 mmb/d), this new capacity is well in excess of the forecast growth in demand. Therefore the overall outlook for refining margins is weak and there is likely to be significantly more refinery rationalisation in order to keep global refinery utilisation at a reasonable level; FGE assesses utilisation needs to be at least in the low 80s to provide sustainable returns for the global refining industry.

Refining is a global industry so trends in one region will be affected by trends in other regions. We briefly summarise the outlook for the main (non-Asian) regions below and particularly any trends that may impact on the Asian region.

3.2.1 Europe

Recession combined with energy efficiency is leading to declining product demand (demand peaked in 2006). In addition the 'dieselisation' of the vehicle fleet4 has resulted in a sharp shift in demand toward diesel and away from petrol. The European refining sector is designed to produce higher petrol yields so there is a substantial excess in petrol capacity and a shortage in diesel. Historically the excess petrol production has been exported to the United States but falling demand and internal US refinery growth is rapidly reducing this outlet. As a result there is expected to be continued refinery rationalisation in Europe due to pressures on profitability. This is likely to leave Europe even shorter of middle distillates (jet fuel and diesel) and these products will continue to be supplied into Europe from other regions (Russia, US, Middle East and Asia). Conversely Europe will continue to look for outlets for excess petrol production which may see Europe as a source for Asia demand from time to time if there is an imbalance in the Asian market.

3.2.2 North America

The development of new sources of crude oil5 and natural gas supply is rippling through the North American refining market. Total domestic production of crude oil is now expanding rather than declining and expected to do so for many more years. With total consumption declining (North American demand peaked in 2005) and increased use of biofuels (primarily ethanol), there is a significant reduction in North America's call on imported crude.

The production upsurge from the development of these alternative crude oil resources is affecting the refining market. Much of this new resource is located in key inland 4 Dieselisation is the shift to replace petrol vehicles with diesel fuelled vehicles which has been encouraged by a number of government policies.5 Primarily shale oil and gas but this is on top of ultra-deep-water oil from the Gulf of Mexico and Canadian oil sands.


markets where logistics (pipelines, etc.) to other demand centres is constrained. The market has adjusted to price this crude lower than the crude imported to the coast. As a result the refineries in the inland areas or those fed directly by pipeline are operating with very high margins, encouraging high utilisation (the low gas price is also reducing their energy costs). While the price differentials are expected to reduce over time as further pipeline capacity is put in place to take the new oil production to the coast for distribution, margins will remain higher in the inland market. This is likely to encourage higher refinery utilisation in these areas.

At the same time coastal refineries in the north-east, which do not have access to the cheaper crude, are under similar pressures to the European refineries with some of the smaller, less profitable refineries being rationalised. Refineries in the Gulf Coast are likely to benefit from the increase in domestic crude production, as inland logistics capability is improved and are finding good product outlets in growing South American countries (as well as diesel for Europe) although over time they are expected to face increased competition for these export outlets.

While North America is forecast to continue importing some petrol on both coasts (north-east and west), volumes will be lower and are not expected to provide a significant sink for excess from other refining centres. This will have some impact on the Asian market as Asia refineries do export petrol into the US west coast when the economics are favourable.

3.2.3 Latin America

Latin America's demand for petroleum is growing strongly led by Brazil. Despite Brazil been a world leader in use of ethanol fuelled vehicles, strong economic growth is also resulting in increased consumption of petroleum (petrol, jet fuel and diesel). Brazil is also forecast to substantially increase its production of crude with the development of their substantial offshore sub-salt reserves. The growth in both supply and demand is encouraging refinery investment in the region with FGE assessing a 25% increase in refining capacity in the next nine years (mostly later in the decade).

The growth in demand, and relatively low utilisation of the current refining capacity, has seen Latin America develop into a good export location for other regions especially the US and Asia (into the Pacific Coast). It will take some time for the new refining investment to be streamed so, while not forecast to increase, the import requirement is expected to continue before gradually declining later in the decade as new refining capacity comes on line. FGE assess Latin America as a continued and possibly increasing outlet for excess Asian product.

3.2.4 Former Soviet Union (FSU) and Africa

The FSU region does not have a significant interaction with the Asian region. Its refining sector is undergoing major investment primarily to improve product quality and reliability. FSU is a large exporter, particularly of middle distillate and fuel oil to Europe, and is likely to continue to fill this role as European refineries are rationalised.

While Africa is increasing as a significant producer of crude oil, its market remains relatively small. Demand is growing and new refineries are proposed to process crude locally and meet this demand. However it is expected to remain a net importer of product and provide an outlet for European, Middle East and Asian product length.


3.2.5 Middle East

While the Middle East is a substantial crude oil producer and exporter, it has not traditionally been a significant product exporter (although Australia has received product imports from the Middle East on a few occasions). This is expected to change as some of the key Middle Eastern crude producers make substantial refinery investment, both to meet rapidly rising domestic demand and to provide export capacity. FGE is forecasting a rise of over 35% in refining capacity through to 2020.

The growth in Middle East refining has not met earlier forecasts with projects taking longer to put in place or being deferred due to local conditions. At the same time regional consumption has grown faster than forecast, leaving less volume for export once the refineries come on stream.

Most of the middle distillate exports currently go into Europe and as capacity grows with the new export focused refineries, these flows are expected to increase. Petrol exports are much smaller (most light components are exported as naphtha primarily into the Asian petrochemical market) as they are mainly consumed locally. Africa is an outlet but the new export focused refineries are expected to provide a source of petrol for Asia.

3.3Asian refining outlook

Asia is forecast to continue providing most of the global growth in petroleum consumption. This will be focused in non-OECD Asia as OECD Asia's (Japan, Korea, Australia and New Zealand) consumption is forecast to decline. The forecast for refining capacity growth in the region is significant with more than 20% growth expected by 2020, with the bulk of this in China and India. With a number of Indian and Chinese refinery projects streaming this year, there is expected to be some short term pressure on refining margins. This will put additional pressure on refineries already struggling in the current environment. The trends in major refining centres are covered below.

China: While China's petroleum consumption is forecast to continue growing, China has a policy of expanding refinery capacity more or less in line with increases in domestic consumption. Given the large number of projects planned this will likely involve closure of smaller low sophistication refineries in China (referred to as teapot refineries). This means China is not generally viewed as a long term source of exports or a demand centre supporting other refining centres.

India: India is undergoing a substantial increase in its refining capacity, many of which are export focused due to tax incentives (that require them to only export and not meet domestic demand). India is currently sending much of its export volume west (Europe, America or Africa) but with closure of those opportunities, could become a major export refining centre in Asia competing to some extent with Singapore.

Japan: Refining in Japan has and continues to undergo significant rationalisation as its domestic market shrinks and the refineries come under competitive pressures. The Japanese government has set a requirement that all Japanese refiners meet a certain ratio of heavy oil upgrading to distillation capacity (13%) to improve refinery complexity. With the investment required this is likely to lead to further closures or capacity reductions. While Japan currently has some refining length and is exporting product, over time the expectation is refineries will be rationalised roughly in line with the falling market demand.


Korea: Export refineries are a key business segment for Korea and this is expected to continue. While the market conditions are unlikely to justify new investment, Korea is likely to adjust their export destinations as opportunities change in different regions.

Singapore: While no significant refinery investment is forecast in Singapore, it has the key swing refineries in the region. In addition the substantial storage and blending facilities in Singapore provides the regional trading hub.

3.3.1 Refinery closures

As well as the closures in China and Japan, there are various closures of refineries expected in Asia to keep utilisations at a reasonable level. In total FGE assume that 100kb/d will close each year, beyond that already listed as firm or likely.

3.3.2 Margin outlook

FGE develops margin outlooks for each region. Overall their conclusion of refining is

"that we are heading for a world where continued surplus of refining capacity in excess of 12-13 mmb/d (measured against 95% of design capacity) persists through to our horizon year of 2020. This leads inevitably to the conclusion that relatively weak margins will prevail unless/until action is taken to reduce this surplus capacity." 6

Within Asia, FGE forecasts margins to be particularly weak in the next couple of years (compared to 2011) as there are a number of new refineries streaming this year. From there margins should gradually improve although they would only likely get back to the 2005/2006 levels if there are more refinery closures.

This relatively poor outlook begs the question as to why refineries continue to be built. It’s noticeable that the vast bulk of the planned refinery investments over the next nine years are being undertaken by national oil companies, who often have drivers such as petroleum product security, strategic national interest considerations, employment, economic development etc., in addition to the normal commercial drivers. These considerations will alter normal commercial investment hurdles; by contrast it is noticeable that refinery closures are in the main being made by private sector/commercial refiners.

3.4Asian product balances

Currently the Asian market requires imports from other regions for some products to balance the market, while other products are exported from the region. Large volumes of naphtha, LPG and fuel oil are imported. Middle distillates (jet fuel and diesel) are exported whereas petrol can be imported into and exported from the region. Each main product market is briefly summarised.

3.4.1 Petrol

Petrol is the poor cousin to diesel in the Asian market with the petrol market being only 60% of the size of the diesel market. The trading volumes of petrol are even a lower ratio by comparison, with many countries relatively self-sufficient in petrol supply, reducing the amount traded.

6 FGE Annual World Refining Outlook January 2012; pg. 10


As a result of the demand split, most Asian refineries are focused on jet fuel and diesel production. There are exceptions, including the large Jamnagar refinery in India which has some of the world's largest petrol producing units.

North Asia also has some length in petrol. The US West Coast provides a high value outlet from time to time which these refineries target. There is also a growing import requirement into Latin America although, like Asian demand, this tends to be diesel focused.

Despites some exports, there are also petrol imports into the region. These generally come from export focused Middle Eastern refineries or Europe.

3.4.2 Jet fuel

Jet fuel is about 15% of the white product demand in Asia. With the focus on middle distillate (jet and diesel) production, jet fuel production typically exceeds regional demand. With the demand decline since the global financial crisis, Asia now has the largest jet excess of any region. Europe is the key centre that requires imports; a significant quantity of Asian jet goes to Europe when the market economics are favourable (that is when the cost for the jet in Asia plus the freight to Europe is less than the value in Europe). Jet fuel can also at times go to North and Latin America.

3.4.3 Diesel

Diesel is a vital fuel for most Asian economies. Diesel demand is strongly linked to GDP growth so the high growth seen in many Asian countries is being translated into higher diesel consumption. The Asian refining system is designed to produce significant quantities of diesel and, as with jet fuel, production normally exceeds demand (FGE forecasts this to continue).

To balance the market large volumes of diesel are exported into Latin America and when economics are favourable, into Europe and Africa.

3.5Forecast variation

It is worth considering how the forecasts have varied over time. FGE has presented a chart showing the variation in their refinery capacity additions over the past few years.


Figure 3: Change in forecast refinery additions

Source: FGE Tank Storage Istanbul; Mark Lewis, 29 & 30 November 2011

In general the forecasts have been more optimistic than the actual additions - this is especially the case for the Middle East where a number of refinery projects have been delayed and those in construction have taken longer than expected before coming into service.

The addition (and removal) of capacity is surprising dynamic, despite the time required for refinery investment. Oil markets commentator, Argus, noted in June the “Chinese oil firms are postponing the expansion of crude refining capacity because of slower oil demand growth. Capacity will rise by 530,000 b/d this year, down from a more than 1mn b/b increase expected in January.”7

The variations seen apply to both additions and removals. Therefore if actual capacity additions are lower than forecast for the same demand requirement, capacity is likely to be balanced by a slower rationalisation of existing refineries than assumed.

3.6Asian refining outlook summary

In summary, FGE is forecasting that there will continue to be excess refinery capacity in Asia resulting in a sustained period of relatively low margins. In the short term margins are expected to be very low with a number of major projects being commissioned. As the tight margin environment drives refinery rationalisation, margins and utilisation should improve in the medium term.

In the long term refining is still likely to be a cyclical business; there will be times of good margins when product markets are tight although these periods tend to encourage investment. That investment, along with demand changes, invariably leads to periods of very poor margins that then cause rationalisation to restore a reasonable market environment.

Asia is forecast to continue having surplus jet fuel and diesel production that will require export from the region to keep the market balanced. The current length of petrol production is expected to decline over time and eventually move to a shortage. The Middle East and Europe are forecast to be regular suppliers of petrol into Asia. 7 Argus Global Markets; Volume XLII, 25 June 2012.


4.0 Australian refining and product flows4.1Refining of domestic crude

While the product market has been growing in Australia, domestic production has been falling. As well as a decline in total production, the centre of production has been moving from the south-east (close to most refineries) to the north-west, closer to many Asian refining centres. Production of condensate has also been increasing as a proportion of the domestic production. Condensate (in large quantities) is less suited to the Australian refineries as it does not allow them to fill the most valuable upgrading units.

These trends are reducing the amount of domestic crude and condensate production run in Australia's refineries, although in 2010/11 a third was still processed domestically making up nearly 20% of the refinery intake. Our estimate is about half of this is from inland sources (from truck or directly fed by pipeline) with the other half shipped.

Having a domestic refining system can benefit crude producers and having local crude can benefit local refiners. This is best illustrated by looking at crude production in the south-east of Australia. If there was no refining system then production would have to be sold to Asian refiners. The value the producer would get is the crude value in Asia less the freight to get it there.

Conversely if there is no local crude production, a refiner will import all their crude at a cost that will relate to the price in Asia (or location it comes from) plus freight. The difference in price between the producer's alternative and the refinery's alternative can be as much as USD5/bbl which typically leads both parties to come to a commercial agreement where the benefits are shared on some basis (i.e. both get a better price from taking the crude directly into the refinery). In terms of refining, the domestic crudes would be categorised as follows (most economically attractive first):

1. Land locked crudes that are trucked or piped to refineries with no export facilities: In this case the producer has no export alternative so the refiner can likely negotiate a low price including the avoided cost to the producer of developing export facilities. These crudes tend to be low volume.

2. Land based or near land based production that has pipelines to refineries and export facilities: Both producer and refiner have an alternative, but there is commercial advantage in doing a deal where both parties benefit.

3. Fields loaded onto ships located closer to Australian refineries: In this case the freight to an Australian refiner will be less than export equivalent so there will be a freight advantage that could encourage use in Australia refineries.

4. Fields loaded onto ships that are at a distance from refining centres (e.g. north-west Australia): There is unlikely to be any commercial benefit to consuming locally as freight is similar to alternative crudes and fields are closer to the Singapore trading hub.

While this demonstrates why there is an economic advantage to processing crudes locally (and obviously domestic production can incentivise domestic refining), there is no oil security aspect in this relationship. If there is no domestic refining, domestic producers will still produce; they will just have to export all production and will receive


a slightly lower return (and in some cases be required to invest in export facilities). However the loss in income will be small relative to the total value of the produced stream so is unlikely to significantly impact investment decisions.

Likewise, domestic refining is not dependent on having domestic crude production. It can provide an economic benefit but the refineries are capable of operating on 100% imported crude.

4.2Refining/import split

Until 2003 the Australian refining industry could meet all of Australia's product demand. In practice some product was still imported (largely to the north of Australia) and some was exported (largely New Zealand/Pacific Islands).

Since 2003, refinery closure (Stanvac in South Australia), refinery throughput reduction (Altona in Victoria) and significant demand growth has reduced the portion of the market supplied by local refineries to around 70% (2011). While some regions are completely supplied by imports (e.g. Northern Territory), most States have a balance between imported product and that supplied from domestic refineries (even South Australia and Tasmania where there is no refinery capacity).

Australia's refineries were designed to primarily produce petrol which at the time was the most significant product demand. Over the past two decades the market growth for middle distillates has far exceeded petrol growth resulting in a large import requirement for jet fuel and diesel to keep the market balanced. This is shown in Figure 4 where import volumes have increased increasing especially for jet fuel and diesel. Petrol import volumes vary more with refinery performance - total demand has actually dropped over the past five years.

Figure 4 also shows the trend in source country for imports. Singapore dominates the source of imports for all products especially petrol and jet fuel. However as imported volumes increase the supply is increasingly diverse, with the north Asian suppliers (Korea, Taiwan and Japan) supplying nearly 40% of the imported diesel. As a result Singapore has dropped from supplying around 75% to 65% of the three main products over the past five years.

Figure 4: Product import trends - volume and source


Source: APS, Hale & Twomey

While Singapore is an important regional refining centre, it is important to realise that it also has substantial tank farms where components are imported for blending and export. In total there is around 10 million m3 of terminal capacity and as much product is imported for blending and export as is processed from crude oil in Singapore’s refineries.

Australia’s refineries were designed to meet the higher demand for petrol in Australia. As shown in Figure Australia’s demand is shifting to a higher proportion of jet fuel and diesel and this is forecast to continue. In effect Australia’s demand balance is shifting toward that of the Asia-Pacific average where petrol makes up only just over 30% of white product demand.

As the production capacity of the refining system in Australia is lower than the demand for each product (i.e. all products are imported), the fact that the refining system does not match demand is not critical. However it is an indication that refinery closure will impact petrol imports proportionally more than other products.


Figure 5: Product and demand by product type

5.0 Supply changes from refinery closureThis section analyses the structural change in the supply chain following refinery closures and looks at how these scenarios may impact supply security. In terms of product availability it builds on the work in the earlier sections on how the product markets may change over time. Initially the scenario outputs are discussed and then specific questions on supply security are answered.

5.1Refinery closure scenarios

Australia already imports around 80% of the crude feed for its refining system and 30% of its total product consumption. This is offset by some crude exports (around 67% of production is exported) and a small amount of product export (primarily LPG). For the scenarios the base is established using actual 2010/11 data with seven refineries operating. The demand data is then extrapolated to 2016/2017 with six refineries operating (with Clyde closed as announced). Two alternate scenarios are taken off that base - one with two more refineries shut down (four operational refineries remaining) and one to test the extreme impact of shifting to full product imports (i.e. all refineries closed).

5.1.1 2016/2017 base case

The product demands are adjusted as necessary for the 2016/2017 base case. The adjustments are as follows8:

LPG production: From BREE Resources and Energy Quarterly March 2012. This is a 22% reduction from 2010/11 production to 3,062 ml.

Crude production: From BREE Resources and Energy Quarterly March 2012. This is a 23% reduction from 2010/11 production to 19,059 ml. Percentage of condensate is estimated to have increased from the current 35% to at least 40% of total production. Data by state was not available in the BREE forecast so this is assumed to be consistent with the current split.

LPG demand: Gradual decline in total demand in line with recent years - about 0.5%/year making a total decline in market demand of 3%

8 All forecast based on APS data trends


Petrol: Gradual decline in total demand in line with recent years - about 0.3%/year making a total decline in market demand of 2%

Jet Fuel: Expected to continue increasing although the rate of increase may reduce a little compared to recent years - market 30% higher in 6 years

Diesel: Expected to continue increasing although the rate of increase may reduce a little compared to recent years - market 20% higher in 6 years

Aviation gasoline, fuel oil, lubes, bitumen and other products assumed constant as they are not major influences on the modelling and the data does not appear reliable enough to draw conclusions on consumption trends

The following sections discuss the impacts on the main products from the shutdown scenarios.

5.1.2 Crude oil, condensate and LPG

The forecast production of crude may affect refinery throughput depending on what fields reduce and where any new developments occur. As approximately 67% of current production is exported there is an opportunity to replace falling production from one field (where used in a refinery) with another if the replacement crude/condensate is attractive and economic in that refinery. As a default we assume that refineries would continue to use approximately the same amount of domestic crude production as currently. If anything this is likely to be an optimistic assumption in a falling production environment.

Where refineries close, crude imports will drop and crude exports will increase. This could also free up domestic crude for other refineries and thus offset the pressure from falling production discussed above. Given the assumption of a similar proportion of domestic crude consumed in each refinery over the forecast period (80/20 imported versus domestic), the imports and exports adjust roughly in line with this ratio, although it will vary depending on which refineries close.

We do not expect any particular refinery closure to significantly affect the amount of domestic crude run at another refinery, as the Australian crude intake is optimised against different quality imported crude. The Melbourne refineries could be an exception as both can receive Gippsland crude by pipeline. However even there we estimate some Gippsland crude is shipped to other states or exported which indicates both refineries are likely operating at their optimal intake and would not necessarily change this intake if the other refinery closed.

If all refineries were to close, all crude would be exported which is forecast to be a 15% increase on current export volumes.

Lower LPG production in Australia will primarily reduce export volumes. A refinery closure will impact LPG production as all refineries produce some LPG. As LPG is already imported into the eastern seaboard where the majority of refineries are


Crude Oil

Crude OilBase 2010/2011 2016/17Four refineries No refineries

Domesticconsumed

8,055.7 7,290.1 5,264.5 0.0

Imported 31,825.0 27,959.0 19,245.1 0.0

Exported -16,689.3 -11,768.9 -13,794.5 -19,059.0

-30,000

-20,000

-10,000

0

10,000

20,000

30,000

40,000

50,000

Base 2010/2011 2016/17 Four refineries No refineries

mlp

a

Exported

Imported

Domesticconsumed

located, refinery closure is most likely to mean more imports rather than a reduction in export volumes.

5.1.3 Petrol

As noted in 4.2, petrol is currently a relatively small proportion of Australia's product imports. As petrol is the largest volume product produced by the Australian refining system, refinery shutdowns will have a bigger impact on petrol imports than any other product. Being a relative small proportion of the current import mix also means the change in petrol imports is a more significant change in demand from the Asian region.

A small decline in the market size will offset some of the impact of the Clyde closure such that by 2016/2017 petrol imports are forecast to be around 4.3 billion litres versus the current 2.6 billion litres. As a proportion of white product imports it will be even lower than the current 20% due to the growth in jet fuel and diesel demand. While the total import quantity for petrol has not risen substantially there will of course be a much higher proportion of these imports discharged into Sydney (approximately 60%).

Closure of two more refineries is likely to increase petrol imports significantly, more than doubling the volume to 9.2 billion litres (or 3.5 times the 2010/11 import volume). At this point imports would meet close to 50% of the estimated market demand.

Looking at the impact on a specific location, if both Sydney refineries were shutdown, the import requirement would be approximately one MR of petrol every 2.5 days.

Of particular significance is the more than three-fold increase in the petrol short that will need to be supplied from imports compared to 2010/11. This significant change will be discussed in the analysis of impacts.

5.1.4 Jet fuel

Jet fuel consumption is growing strongly and imports will grow to meet that projected demand growth. In addition the product short created by Clyde closure needs to be filled. Therefore by 2016/2017 the current import requirement of just over 2 billion litres increases to over 5 billion litres (more than half the jet demand imported).

Closure of another two refineries increases imports to around 7 billion litres or 70% of total demand. At this point jet imports will be over three times the current


Petrol

PetrolBase 2010/2011 2016/17Four refineries No refineries

Refined 16,642.8 14,630.4 9,734.5 0.0

Imported 2,651.2 4,279.6 9,172.3 18,813.5

Exported -96.6 -96.6 -93.4 0.0

-5,000

0

5,000

10,000

15,000

20,000

25,000


mlp

a

Exported

Imported

Refined


Jet

JetBase 2010/2011 2016/17Four refineries No refineries

Refined 5,463.7 4,435.2 2,972.3 0.0

Imported 2,080.8 5,369.2 6,828.6 9,792.5

Exported -11.8 -11.8 -8.4 0.0

-2,000

0

2,000

4,000

6,000

8,000

10,000

12,000


mlp

a

Exported

Imported

Refined


Diesel

DieselBase 2010/2011 2016/17Four refineries No refineries

Refined 12,858.7 11,740.7 8,858.0 0.0

Imported 8,830.5 14,265.6 17,121.8 25,902.5

Exported -103.8 -103.8 -77.4 0.0

-5,000

0

5,000

10,000

15,000

20,000

25,000

30,000


mlp

a

Exported

Imported

Refined


import requirement or expressed in ship size, Australia would require an MR of jet fuel nearly every two days.

As jet demand is more regionally concentrated than for other products, with NSW (effectively Sydney) being 45% of the total demand, it is worth reviewing the Sydney import dynamic. If both Sydney refineries were to close, we estimate Sydney would require a full MR of jet approximately every 4 days by 2016/2017.

A shutdown of all refineries moves the jet import requirement from 70% of demand to 100% - while a significant step change, this is not as proportionally significant as the change seen with the first refinery closure and the forecast market growth.

5.1.5 Diesel

Diesel consumption is growing strongly, driven primarily by the demand from the resources sector along with general economic growth. Over the last few years diesel has overtaken petrol as the highest demand product. All this demand growth is being met by imports with diesel imports now nearly 9 billion litres - providing 40% of the market demand (and 65% of total white product imports).

Continued growth and the Clyde closure means that by 2016/2017, imported volumes will have increased to over 14 billion litres or 55% of the total market supply. Closure of another two refineries would increase imports to around 17 billion litres or two thirds of the country’s demand.

While this is a massive import volume it is less than double the current level of imports so not as proportionally significant to the 2010/11 import dynamic as for petrol and jet fuel.

To illustrate the magnitude for 17 billion litres of diesel imports, this is more than a MR tanker of diesel a day (about one every 20 hours). This needs to be understood in the context that Australia's current diesel import requirement requires a full MR vessel every 1.5 to 2 days.

A shutdown of all refineries moves the diesel import requirement from 67% of demand to 100% - while a significant quantity change, at that stage the Asian refining system would be well adjusted to the large short in Australia and any such change would happen over a long period of time if it happened at all.

5.1.6 Minor products

More than 50% of fuel oil is currently imported so refinery closures will increase that proportion. This is not reviewed in detail as it is unlikely to provide a significant change to the current supply dynamic or provide any difficulty in meeting the demand, as Singapore is the largest fuel oil trading centre in the world.


For aviation gasoline, lubes and other minor products a shutdown of a key supplying refinery could have a significant impact on that particular product, although in terms of total Australian supply we do not expect any significant impact from any closure as these products can be sourced from the wider regional market.

Product balance summaries for the different cases are included in Appendix 2.

5.2Impact on Australia's ability to source adequate supply

Section 3 covers the forecast for the Asian refining market. The FGE forecast for the Asian refinery balance already takes into account Clyde's closure and continued growth in the Australian market. With Asian refinery utilisation predicted to be between 80 to 85% there should be no issue in meeting the increased imports from these changes, so this assessment focuses on the impact of further refinery closures. Initially we assess this in terms of total demand on the Asian refining system and then by each of the major product groups.

Another two refinery shutdowns increases Australia's product imports by an additional 10 billion litres per year or approximately 175 kb/d. It should be noted that the product requirement is not equivalent to the refinery capacity removed as refineries do not run at full capacity on average, there is a yield loss between crude intake and product make and there is a small amount of product exports (these will reduce as refineries close). Table 1 shows the scenarios for two more refineries closed and all refineries closed against the FGE Asian estimated refining balance for 2016/2017. FGE produce two forecasts, one which assumes refineries known or likely to be closed included, and a second where they assume a higher rate of refinery closures that they believe will be necessary to keep the refining industry at a viable throughput level.

The difficulty with this analysis is refinery closure decisions within Australia will have an impact on the regional refinery balance and therefore may affect closure decisions in other locations. However by comparing the impact against both FGE forecasts, the range of likely outcomes can be assessed.

Table 1: Impact of closure scenarios on Asian refinery utilisation

Four refineries operating

All refineries closed

Additional import capacity required (kb/d) 175 560 Use of Asian refinery spare capacity using FGE forecast which only includes firm/likely closures (%)

4% 14%

Additional (and change in) Asian capacity utilisation using FGE forecast which only includes firm/likely closures (%)

0.5% (83.1%83.6%)

1.7% (83.1%84.8%)

Use of Asian refinery spare using FGE forecast which includes additional closures (%)

5% 16%

Additional (and change in) Asian capacity utilisation using FGE forecast which includes additional closures (%)

0.5% (84.4%84.9%)

1.7% (84.4%86.1%)

Source: FGE Annual World Refining Outlook, Hale & Twomey


With two refineries closing, around 5% of the spare capacity in the Asian refining system would be absorbed which is only a 0.5% increase in the total capacity utilisation. Even in the extreme example of all Australian refineries closing only 15% of the estimated spare capacity would be required which is a 1.7% increase in total utilisation.

These utilisations are not particularly high - FGE reported Asian refinery utilisations over 90% in mid-20009. The conclusion that can be drawn is that over the forecast period to 2020 there is likely to be plenty of capacity in the Asian system, whatever decisions individual Australian refiners make as to their refineries viability.

Another way to demonstrate the small scale of the Australian refinery industry in the region is that the production from the six refineries remaining operational after the Clyde closure is only slightly more than half the output from the recently expanded Reliance Jamnagar refinery complex in India.

While the overall capacity picture is that the Asian refining system could meet the total Australian refining output, the next section looks at the prospect for each major product, including product quality.

5.2.1 Petrol

As covered in section 5.1.3, the petrol import requirement changes quite substantially as Australian refineries are closed. The petrol market in Asia is relatively balanced between supply and demand. FGE estimates indicate a small surplus currently which may move to a shortage by the end of the decade. Although the market is relatively balanced, that still means there can be imports into the region (e.g. from the Middle East) and exports (e.g. North Asia to the US; India to Africa and US).

The increased petrol short10 created in Australia from the Clyde refinery closure is likely to have an impact on the regional balances. Shutdown of another two refineries would not cause the current surplus production in the Asian region into a short, but would cause the shortage that is being forecast by the end of the decade to happen a few years earlier (perhaps by 2015). A shortage of petrol production in the Asian region is not a significant issue as in the same period the Middle East is expected to have a surplus and further afield Europe is still likely to have a large surplus of petrol looking for outlets.

This means the Asian petrol demand can still be met, even with additional demand from Australian refinery closures, although there will be some change in product flows. Singapore is likely to remain a key source of Australian imports but more of these imports could be large shipments into Singapore (from India/Middle East/Europe) before blending and on-shipment to Australia. Alternatively development of facilities that can take large product imports (50,000 tonne+) may allow Singapore blending to be bypassed and replaced with more direct imports from source refineries into Australia.

The large petrol short is also likely to attract the large export orientated refineries in Korea who currently export into China and the US11. The large Indian export refineries may also focus on the Australia short if the purchasers are prepared to and capable of 9 BP Statistical Review reported the same year (2005) just under 90% utilisation.10 Short is a trading term meaning a steady demand that needs to be met from market supply. 11 A Korean refiner has just won the contract for meeting the New Zealand company Z Energy's import supply.


receiving the larger ships the export refineries like to use for supply (LR sized product tankers).

In term of quality, the petrol market in Asia is quite fractionated, with no common grade covering a number of countries. Platts12 reports trades against standard quality specifications with different octane ratings, but fuels of these qualities are not widely used and they are substantially poorer than the petrol quality in Australia and other OECD countries (and many of the developing countries that are moving to better quality fuel).

This differentiated market can make it difficult for export refineries - unlike Europe there is no standard grade they can focus on which they know will have wide market demand. Another issue is that the additive MTBE is banned in Australian petrol which is not the case for much of Asia. Therefore a refinery or blending facility has to manage carefully between different grades to ensure the tank bottoms left from one grade do not contaminate the next.

While this is an issue when a purchaser may only want one cargo every month, when they require a cargo each week the refinery will be more likely to make the required adjustments as it is worth their while (e.g. permanently dedicating tanks to Australian quality). The expectation is that as the Australian petrol short increases, more and more export focused refineries will adjust to being able to produce the Australian grades; Australia could become (if more refineries close) one of the most significant petrol shorts in the Asian market. While the market will adjust, this will take some time - adjusting to a single refinery closure will not create major impacts but the market response required is likely to mean any further proposed refinery closures will need to be spaced; this is likely to occur naturally as the Australian companies would not want to be chasing suppliers to replace refined production at similar times.

The modelling only covers petrol as a single grade. Industry commented that currently petrol imports are more heavily weighted to premium grades than the overall market proportion whereas refineries produce a higher proportion of the regular grade. Therefore increased imports from refinery shutdowns would be more heavily weighted to regular than the current imports. Regular petrol is more easily secured in the market due to its lower octane and that MTBE is not normally used in low octane fuel.

5.2.2 Jet fuel

Jet fuel specifications are standardised globally which makes jet fuel an easily tradable commodity. The extra volume that Australia would need to import after the closure of Clyde and to meet growing demand, while a significant increase on current volume, is small in terms of the current and forecast regional jet fuel surplus.

Australia's current import requirement of around 36kb/d increases to around 90kb/d with market growth and the Clyde closure. A further two refinery closures would take this to around 120kb/d and a shift to 100% import would be a requirement for 170kb/d. FGE are forecasting an excess production of jet/kerosene in Asia of over 500kb/d in the same time period.

Jet is currently exported from Asia to as far as Europe; increasing the import requirement in Australia would be a more attractive outlet for the surplus jet fuel in the Asian market.12 Platts is a market reporting agency that is used as the basis for much of the trading in the region.


5.2.3 Diesel

As covered earlier the Asian market is diesel focused with over 50% of white product demand being diesel. Australia already imports substantial quantities of diesel without any difficulty.

Diesel has the advantage of being a more fungible grade than petrol. Australia's diesel quality is very similar to Euro 5 (10ppm sulphur) as are most of the OECD countries in Asia. China and India are also moving to this grade for their cities. This has meant that over the past few years an increased number of refineries have upgraded so they can produce higher quality product. This trend is continuing as India and China improve their fuel quality.

Australia's requirement for diesel increases from the current 150kb/d to around 250kb/d in 2016/17 due to market growth and the Clyde closure. Closure of two additional refineries would take it to nearly 300kb/b, whereas 100% import would be close to 450kb/d. FGE is forecasting an excess in diesel production in the Asian refining system of between 300-500kb/d. This forecast already includes Australian market growth and the Clyde closure (and an assumption that more refineries have closed). The additional demand from two extra refinery closures (50kb/d) is relatively small compared to the forecast excess. Even a move to 100% import which is an additional 200kb/d could comfortably be met within the forecast excess.

Because diesel is the highest demand grade in Asia and because the qualities are more consistent, there is more flexibility with the refineries who can supply this grade to Australia (in comparison to petrol). This has been shown with the high volumes imported to date. In summary there is unlikely to be any issues over the forecast period for the market to meet Australia's diesel demand both from the growth in demand or the impact from refinery closures.

5.3Supply diversity/resilience impacts

Australia has a diverse range of suppliers. There are companies that meet their market solely by importing product and there are the four refiner/importers who supply their markets through a mix of refined product and imports (the mix depending on their refinery capacity relative to their market demand and location of that demand relative to supply points). If companies make decisions to close further refineries the mix swings towards a greater proportion of imports.

A company considering a closure decision will assess how their supply chain will change and how secure the new supply route will be as part of the decision. All refiners noted during consultation that supply security is a commercial imperative for their business and assessing supply change risks is a constant role of supply departments. With the shift to more imports, in many ways the diversity increases as a single piece of refining infrastructure will likely be replaced by a range of supply sources. All companies mentioned that their experience with product imports was that they found them more secure for that reason. Most companies also noted that they prefer their import requirements to come from a range of suppliers to reduce their dependence on a single refinery or supplier.

Stock decisions are also made as part of the supply security assessment. If a company is refining within Australia they will carry sufficient stock so they can manage typical upsets that might occur at their refineries (e.g. a trip which shuts the refinery down for a couple of days). They will also have plans should an incident be worse, such as


buying product from other companies, arranging prompt imports and rearranging the schedule of import cargoes to cover any supply gaps left by the absence of refined product. All these things cost money and increase costs against steady operation; however it is part of the supply security arrangements.

Shifting to a product supply system will require the supply department to work through different issues that need management. Any one refinery upset is now likely to be a much smaller part of the total supply chain and, because they will be offshore, the company will have more time to manage their system in the case of disruption (e.g. looking for alternative supplies). Issues with shipping and off-specification product will also need to be planned for; companies will set their inventory positions so that any of the things that might happen in the normal course of business will not affect their ability to meet their market demand.

5.4Inventory impacts

With the change in supply from refining to imports, a company's inventory level will change. They will no longer hold crude or refinery intermediates but will hold more finished product. The average volume of finished product will increase, reflecting that instead of receiving a constant flow of product from a refinery, products will arrive in cargo loads. A similar minimum level of product stock will be required (based on decisions around supply security) but the average will increase. The magnitude of the increase will depend on the size of ships used and the cargo mix.

Traditionally product has been supplied on MR tankers. These now typically carry around 35-40,000 tonnes (40-45 million litres). When Australian refineries load MR tankers (e.g. for delivery to Tasmania or secondary ports) they would load mixed cargoes of product (e.g. petrol, jet fuel and diesel). The Singapore refineries and many of the Singapore blending facilities are capable of loading mixed product cargos. However many of the larger refineries and a lot of the major export refineries prefer or even require only loading single product cargoes (e.g. just petrol). In addition some refineries will only have export length in one product. As volumes increase, and certainly for the volumes Australia will be importing, it is expected that an increasing proportion will be delivered on single product imports. This has an effect of increasing the finished product inventories as the average amount of each product type increases.

While MR tankers are the traditional means of shipping product, larger LR tankers are now increasing being used for shipping products. These are up to twice as large as MR tankers with capacity of up to around 90 million litres of product. Typically it is only the large export refineries that can load these volumes and a large product terminal is required for discharge along with a port with a similar depth as required for LR crude tankers. Conversion of a seaboard refinery to a product terminal will likely give this capability if the conversion includes the conversion of the crude import facilities for product imports. With the large volumes required if refinery closures occur, some of the product supply is likely to be delivered on LR product tankers. As with single product grades on MR tankers, the large shipment quantities also increase the average amount of stock held as a company will still work to a similar minimum stock level whatever size tankers are being used for supply.

The refinery closure scenarios were used to model the change in inventories for each case. In all cases we assume that the closed refinery is converted to a product terminal and that a proportion of the tanks are converted to product tanks (as noted


above product stocks will increase after conversion so it is assumed some crude and/or intermediate product tanks will need to be converted to product storage). Inventories are then estimated based on an expected pattern of product imports (e.g. single grade imports, mix of MR and LR product imports).

Table 2 shows the scale of an import task in terms of frequency of import shipment based on replacing the estimated Clyde refinery production.

Table 2: Estimated product resupply frequency for Clyde refinery

MR tank supplying all products

MR tanker supplying petrol

MR tanker supplying jet fuel and diesel

LR tanker supplying all products

Days resupply 3.3 7.3 6.8 6.5

The inventory modelling uses the tankage given in the Petroleum import infrastructure report13 and typical supply patterns along with assumptions for tank bottoms and minimum stock levels. These inventories do not reconcile to those reported in the APS as they do not include crude stock from the upstream industry, not all LPG and specialty product stocks are included and also because the reported stocks in APS for finished products look low given the storage infrastructure in Australia. It has been recognised that the APS is not comprehensively capturing all third party product stocks so showing higher stock in the modelling is not unexpected.

For the scenarios, the inventory levels reflect the change to a direct import model at locations where refinery closures occur. Diesel and jet fuel stock is unlikely to go down as much as modelled (in days' consumption) as new infrastructure will be needed to manage the increased forecast demand (not modelled). This means the total stock is unlikely to go down as much between the 2010/2011 and the 2016/2017 six refinery case.

However the modelling does isolate the inventory impact from refinery closures; if all refineries were to close in Australia, Australia's reported stock is forecast to drop by around 1,000 million litres (about 15% of that currently reported in the APS stocks).

Table 3: Change in stock levels with refinery shutdowns

Consumption cover petrol (days)

Consumption cover diesel (days)

Consumption cover (days)

Total stock (million litres)

Base case 2010/2011

19.1 18.5 28.6 4,346

2016/2017 six refineries

20.2 15.6 25.0 4,219

13 Petroleum import infrastructure in Australia; ACIL Tasman August 2009.


2016/2017 four refineries

21.9 16.0 23.3 3,934

2016/2017 no refineries

24.3 18.1 19.6 3,304

There are two contrasting trends shown in the 2016/17 cases. Refinery closures will result in less stock days cover in Australia (by just under a day for each refinery closed) however stocks of finished products will increase – by about 0.5 day for each refinery closed.

Assessing whether this affects oil security is a more difficult issue. Arguably higher finished product stock improves security as it is no longer dependent on refining infrastructure. However if total stock goes down then there must be some security impact from less stock being held in the country.

In terms of crude and intermediate product no longer being held after a refinery closure, we estimate that some of this would have been unusable even in an emergency situation. A certain amount is always required to maintain refinery operation – we estimate this minimum is around 60% of the net stock loss from the conversion to an import terminal. Therefore the loss of stock that might be useable in an emergency is only about 40% of the net stock loss or an average of 60 million litres for any refinery closed.

5.4.1 IEA stock impact

While we assess the drop in inventories associated with refinery closure will only have a small impact on Australia's actual supply security, it will have a significant impact on the reported IEA stocks and therefore security in terms of its IEA measure.

The net decline in stock from closure of a refinery (~150 million litres) will in effect be a decline of crude stocks as the intermediate stocks are replaced by higher product stocks. In terms of IEA inventory measurement, crude stocks are adjusted by a yield factor (0.96) and a factor to account for tank bottoms (0.9). Therefore on average for each refinery closed reported stocks would decline by 130 million litres or 105,000 tonnes.

Against Australia’s current net import requirement (~65 kilo tonne/day), this will reduce the reported days cover by just over 1.5 days for any refinery closed. In order to comply with the 90-day target an increase of 110,000 tonnes of emergency stock would be required (assuming stock is held as product) to cover the gap created by each closure.

5.5Import supply arrangements

A company that is currently refining and importing to meet their market demand will need to put new supply arrangements in place if shifting from refining to 100% product import. These arrangements may be a combination of term contracts and spot contracts.


Term contracts: Term contracts are where a company makes an arrangement with a supplier to meet a certain demand requirement for a defined period. Term contracts may be with a company that has a range of supply options (number of refineries) or with a specific refinery. As noted in the previous section there are advantages if a refinery knows it is going to supply regular volumes of similar grades so this advantage can be recognised in term contracts. Term contracts typically link prices to agreed differentials based on standard market benchmark prices.

Spot contracts: Spot contracts are cargo by cargo contracts - effectively normal market trading with the price agreed each time a cargo is secured. The flexibility offered by spot contracts can mean traders can take advantage of favourable market movements; at the same time there is an exposure that needs to be managed.

Three of the four companies refining in Australia are global companies who have significant presence in the markets. The other company, Caltex, is 50% owned by a similar global company. How any one company will choose to cover a refinery closure will vary. One company may look to cover the whole short from their own refining system (effectively a term contract) where another may term some from third parties and leave a proportion spot for their traders to use to trade around14. During the consultation the feedback was that companies generally liked to cover the requirement with a mix of term and spot, with the split dependent on the view of their trading operations.

5.5.1 Security of Arrangement

The security of product supply arrangements is as secure as crude supply arrangements. They are underpinned with commercial contracts that will be fulfilled except in the case of a Force Majeure event15. It is ensuring that your system is secure even with Force Majeure events that are part of a supply department’s responsibility.

Spot trades are not as secure as term arrangements in the sense that the buyer is dependent on sellers coming into the market. However, as for any market, there is a price driver; a buyer who is prepared to offer more is likely to attract sellers into the market or, in the case of a tight regional supply, attract supply from beyond the normal supply envelope. It is only in the case of market failure that this becomes an issue. This is discussed further in Section 5.8.

5.6Potential choke points or market barriers in altered supply chains

5.6.1 International

Using the scenario of three refineries shutdown in comparison to the current situation, the overall impact on Australia's crude and product imports would be:

14 Traders like having product "shorts" as part of their trading portfolio.15 A Force Majeure event is typically something outside a company's control (e.g. war, act of God) that prevents them fulfilling their contractual obligations. An incident at a refinery that took it out of operation would be a Force Majeure event.


Crude imports reducing from 31,825 million litres to 19,245 (down 40%) Product imports increasing from 16,831 million litres to 37,420 (up 220%) - this

includes the impact from market growth as well as refinery closureAssessing the impact outside Australia, the change in crude demand is more than likely to be felt in the crude supply from South East Asia which supplies the largest portion of Australia's crude (and assuming the less complex refineries are more likely to close). There are not any potential choke points in the current crude supply (as well as South East Asia, crude comes from West Africa, Russia, Middle East and New Zealand so the supply source is very diverse) and the reduction in demand will be unlikely to create any new impacts.

The crude market is international (as illustrated by the diverse supply) and there are no market barriers in that trade (except for international boycotts of specific country's production). The reduction of crude demand is not expected to change how the remaining Australian refineries secure their crude.

The increase of product imports is more significant. Singapore currently provides 65% of Australia's product imports and while that proportion will drop as imports increase, the physical volume supplied by Singapore may increase. There is also likely to be an increase in volumes from North Asia (especially Korea) and India is likely to become a more prominent supplier over time (either directly or via Singapore). As discussed in section 5.3 product imports (particularly petrol) may come from the Middle East and Europe as those markets look for new outlets.

The change may increase Australia's reliance on Singapore through increased volumes, although development of import infrastructure able to take large product imports does increase the options for supply and provide a greater ability to bypass Singapore. As some of the export refining centres are further away from Australia than the prior crude source, the amount of stock on the water will increase (also because some domestic crude processing is been replaced by product imports).

The extra stock on the water would increase Australia's dependence on shipping although this increase is marginal - as an island continent Australia is always going to be heavily dependent on shipping. The petroleum shipping market has proved to be a reliable element in the supply chain; ships are always readily available (although at times they can be expensive) and the market tends to respond quickly if tightness in the market is indicated through rising rates, by bring in further shipping resource from other regions and ultimately commissioning new build vessels.

While there are no new choke points created in the situations where markets are working normally whether there are potential choke points in disruption scenarios is discussed in section 5.8

5.6.2 Domestic

A shift to importing product rather than refining requires new or modified infrastructure to be put in place to receive those imports. As the projected import requirements are high, our assessment is that companies will look to set up facilities


that allow imports on larger product ships than the typical MR product tanker. As the larger ships need more draft this is likely to lead to the best option being the conversion of the closed refinery to an import terminal. All Australian refineries are also located at centres of product demand, also encouraging conversion to terminal. Shell has made this decision with the Clyde closure.

Nothing requires a company to convert a closed refinery to an import terminal but having insufficient infrastructure to import the product would limit their ability to service their market demand. Servicing the demand for petroleum products is their business rationale so companies will make necessary arrangements to ensure continued supply as part of a closure decision. Refineries have more tankage (and capacity) than would be required for an import terminal and while there will be a cost of conversion, this would not create a choke point.

It has been noted by industry during consultation that the cost of converting a refinery to a terminal may be substantial, especially if making provision for product imports on larger vessels. This conversion cost will be a major factor with any decisions around a refinery’s viability.

The conversion of refineries to product terminals should not create any market barriers. Refineries currently compete against imports and operate against an import parity benchmark16. These import alternatives will still set the benchmark that the imports through the new refinery terminal have to compete with. One aspect that may change is the refinery terminal is likely to be able to take larger ships. This will improve its import parity benchmark against import terminals that take MR tankers due to a lower freight component. Offsetting this, the refinery terminal will have to carry higher stock (because the ships are larger) and may have higher cost structures due to the cost of conversion and need to maintain a larger amount of storage (again to take the larger shipments).

These economics are not reviewed in this report but the market impacts are not expected to be significant and certainly not enough to create any sort of market barrier to other importers.

5.7Shipping

Shipping is a key part of the supply chain both for the refining system and for product import. Shifting from refining to product import changes the type of shipping used but not the quantity significantly. Most crude imported into Australia is transported on LR product tankers; generally around 80,000 tonnes capacity although some refineries can take larger capacity tankers of up to 110,000 tonnes. As discussed in Section 5.4 because of the volume of product imports required in the case of a refinery closing, it is likely large product tankers may be used. These can be of a similar size to the crude tankers they are replacing.

With approximately 80% of the crude intake imported, we estimate the closure of an average Australian refinery would reduce the number of full LR tanker imports by around 46 movements per annum. The product import requirement is larger as there is also the impact from the loss of domestic crude processing. The average product make of 5,500 ML from one refinery would require about 120 typical MR import

16 This benchmark and the market implications are fully explained in the ACCC report " Petrol prices and Australia consumers- report of the ACC inquiry into the price of unleaded petrol" 2007.


shipment per year. If all imports were on larger LR tankers (say 90 ML capacity) then the movements would halve to around 60 per year. In practice there is likely to be a mix of shipping used.

While this is a small increment in import shipping movements, it is unlikely to have any supply security impact as the shipping market is global (i.e. moveable assets) and easily able to adjust to changes in requirement in different regions. In discussions with industry, they were all very comfortable with the shipping industry's ability to respond and adapt to changes in requirements and its ability to respond to any supply disruptions.

5.8Price impacts

As noted in the previous section the Australia market works on an import parity basis, reflecting the cost to get Australian specification product into ports. Increasing import volumes at the expense of refining will not change this dynamic at all - the import parity benchmark system will remain the same.

As covered in 5.6.2, larger imports could reduce the import parity cost through cheaper freight, although offsetting the freight benefit will be higher inventory holding cost, refinery conversion cost and higher storage cost. The supply decision for larger ships will not only be driven by economics; a company may want to import on larger ships for operational efficiency (reducing the number of import vessels) or because the supplier mandates large parcels (this is the case with some export refineries).

One change that could happen that is relevant to the import parity build up, is whether the change to the Australian market leads to a change in the market reporting. As noted in 5.2.1, Platts currently report the price of petrol in Asia against low quality petrol. This is because the market is fragmented and there is little trade in one particular grade of petrol.

The creation of a large petrol short in Australia as a result of refinery closures will lead to a lot more trade of the Australian petrol grades. This may result in enough trade (in conjunction with countries that have similar quality) that would lead Platts to set up and report a benchmark price for this quality. The premium for Australia quality fuel against Platts reported fuel is not currently transparent - if Platts reported a similar quality benchmark grade it would become transparent, increasing the transparency of the import parity price.

5.9Impact on supply security during a global emergency

The discussion and analysis to date has shown that:

Asia has significant refining capacity to meet Australia's product import requirement should more refineries close.

While regional product balances will be affected by the increase in Australia demand, given time to adjust there is availability in all product types.

Companies can ensure a diverse and secure supply through their contracting strategy when they shift to import demand.

Shifting to product imports rather than refining will reduce Australia's commercial stocks, but the actual supply security impact is less severe as the useable stock reduction is only estimated to be 40% of the reduction and finished product stocks actually increase.


For business as usual the change should not create any new choke points or market barriers in the supply chain.

The consultation with the refiners confirmed this conclusion, with all stating that they expect their current supply security to be maintained or even enhanced if they were to change to direct imports.

The analysis to date assumes continued normal market operation - it does not consider whether there are supply security impacts from how the systems might respond in a global emergency.

Many of global supply disruptions are not so severe to cause markets to stop functioning - arguably during any of the emergencies that have led to IEA stock releases in the last 30 years the markets have kept operating successfully. In that sense there is nothing in the preceding sections on supply security and reliability that would not have still been a reasonable assumption through those sorts of emergencies.

However there could be scenarios that are more severe such as war in the Middle East, war in the Asia-Pacific region, disruption of shipping lanes or disruption to key refining centres in the Asia-Pacific region. In this case the markets may not operate normally and the impact on the supply chains would need to be considered.

5.9.1 Security from domestic production

Around 33% of domestic crude and condensate production is consumed in Australian refineries making up nearly 20% of the feed (2011/11). The rest is not run in the Australian refineries as it is not suitable (e.g. would restrict throughput), not economic versus import alternatives or may not produce on specification product.

In a severe global disruption, being a crude producer should provide Australia some security. However the security benefit will only be provided by having access to a refining system that could physically process the production. In discussion with the refiners several commented that more Australia crude and condensate could be run in Australia's refineries in an emergency noting that:

Throughputs would probably fall (some said a lot others only a small amount) as new constraints restricted throughput

There could be issues with some product quality specifications It would not be an economic decision for the producer or the refiner so it would

only happen if both parties were forced to (or they had no alternatives)The forecast for production in Australia is for a continuing fall and swing towards more condensate. By 2016/2017 the forecast is for production of 19,059 ML of which approximately 40% is likely to be condensate.

If this was the only feedstock available for the refining system, this would meet about 75% of the capacity of four refineries, which given the restrictions the quality would cause may well be close to capacity. Given the light quality it is likely that product yields would be lower than the refinery would normally do. We estimate it may only produce about 17,500 ML or about 30% of Australia’s forecast demand at the time.

While such processing does not provide a lot of security and such a scenario is extreme, there is a supply security impact if Australia does not have this processing


ability – this is likely to occur if the number of refineries fell below four. As production falls the security benefit provided by refining will fall.

Offsetting this supply security aspect, even if Australia didn't have sufficient or suitable refining capacity to process all this crude it could deal with other countries that do have capacity to do crude/product swaps. In addition as a large energy exporter there will be countries in similar position to Australia's petroleum supply requiring other energy sources (e.g. gas and coal). It is likely there will be some mutual benefit opportunities to manage disruptions.

5.9.2 Security of supply routes

Over the past few decades there have been occasional issues with the security of shipping supply routes although these have largely been in the Middle East. There are realistic disruption scenarios that we consider to assess whether a change in supply (more imports) is any more vulnerable than the existing supply chain.

Middle East disruption: Only a small portion (~20%) of Australia's crude imports come from the Middle East. Disruption in that region will affect flows and crude supply to those refineries that can run them. In the current supply chain any disruption to Middle Eastern crude supply is likely to be covered by running other crude (e.g. West African) in Australia's refineries but otherwise have no major effect (noting that total demand is likely to reduce due to the high prices that would result from the disruption although this would primarily be managed by reducing product imports).

In the change to more product imports, Australia may be more exposed - that is because most of the large export refineries in Asia run a lot of Middle Eastern crude. If markets remain functioning that should not cause problems other than the high prices the importers will need to pay for cargoes (i.e. prices will rise until demand is rationed by price). The problem will be if there is some market failure, such as the countries where the export refiners are located insist that those refineries satisfy internal demand first and any loss of throughput from restricted crude availability is taken from export volumes. Therefore again in a very severe scenario Australia could be more exposed although with two of the Australian marketers (and a 50% owner of a third) having large export refineries this may provide some mitigation.

Asian disruption: Disruption in the Asian market, and certainly anything that affects the shipping lanes, will affect Australia. However that disruption equally applies to crude as to product markets. In both cases if there was disruption trading patterns would change; more crude would come in from outside the region and more product would come from outside the region (the impact may be similar to the Katrina event where the disruption caused higher prices in the affected region therefore attracting product from other regions). Australia does have the option of using shipping routes that could avoid disrupted areas albeit there may be some initial disruption due to the longer supply routes.

Again if there were no or limited refining in Australia, it does reduce the options in such a scenario although it does not mean any disruption in supply would be avoided.

5.9.3 Security summary

In discussions with industry during consultation, it was agreed it was only in these extreme (very low probability) circumstances that there may be an impact from a smaller refinery industry in Australia. The companies indicated that these are the sorts


of circumstances that companies would not plan for – rather they are things that Governments need to consider - in effect the reason that governments belong to the IEA. In Australia's case, although industry suggested that having no refining sector could increase the impact of such severe events, as a major energy exporter (albeit in different forms) it is likely Australia would have some leverage to offset the impacts over time.

Other than the impact in these extreme circumstances, the view from those consulted was that the change in supply method would not affect supply security.

6.0 SummaryAustralia’s refineries are under commercial pressure and if they close direct product imports, which currently make up around 30% of supply, will increase. A review of the forecast capacity in the Asian and worldwide refining system shows that the system could easily adjust to all Australia’s demand being imported. In many ways the main products imported now – jet fuel and diesel will be easier to ramp up than petrol which is currently imported in lower volumes. The Asian petrol market is fragmented which means there is no ready supply available from the export refineries currently making a similar quality fuel. However given time to adjust (refinery closure decisions take a long time so there will be time to prepare) the market will easily adjust as the impact from any one refinery closing is fairly limited.

Adjusting from a refinery based supply chain to direct imports would require companies to make various adjustments including:

Developing a mix of term and spot supply contracts depending on their refining assets in the region and their individual trading strategy;

Re-evaluation of their inventory strategy to ensure that they have sufficient stocks to manage normal supply variation and disruption; and

Ensuring they have the import infrastructure in place so they can still satisfy their market demand.

These adjustments would be made to ensure they can continue to service their customers reliably and without disruption for normal business conditions.

A closure decision would affect Australia’s reported inventories. While finished product inventories would increase with a move to direct imports, the increase would not be enough to offset the loss in crude and intermediate product inventories from the refinery closure. For any refinery closure, we estimate commercial stocks will drop by approximately 150 ML, about 2% of Australia’s reported inventories. The supply security impact of this reduction is less as much of the stock reduction would have been unusable in an emergency and arguably the increased product stock is more valuable in supply security terms than the crude and intermediates it replaces. We estimate the actual supply security impact is the loss of just of a third of a day’s useable stock for each refinery that is closed (60 ML). In practice it could be argued that this impact is offset by the security benefit from increased product stocks (by about two thirds of a day for each refinery closed) and more product shipping which would provide a lot of flexibility during disruption as the destination, with appropriate permits, can be changed and adjusted until arrival and discharge.

Other than the small inventory effect, it is difficult to apportion a supply security impact to the change in supply from importing rather than refining in the normal


business environment. However supply security also needs to consider scenarios that are outside normal business conditions, particularly major disruptions to oil markets that would trigger an IEA response.

In some of these scenarios it is clear that Australia will be losing some supply security in the case of a complete shutdown of its refining industry. However those scenarios are quite unlikely and would not have been true for any of the global disruptions seen over the past thirty years.


Appendix 1: Model StructureA full product supply and demand model for Australia has been prepared as part of this work. This model draws on data from the Australian Petroleum Statistics (APS), public information on each of the Australian refineries and Hale & Twomey’s knowledge of the oil markets. A high level summary of the model is outlined below.

Base information

For the model to be able to accurately estimate future supply and demand requirements for given scenarios, a good understanding of the current situation is required. The initial part of the model focuses on getting an accurate picture for each product by state for Australia. To do this a supply and demand balance is achieved by adjusting demand, production, imports or exports to reconcile the APS data. The method chosen to adjust each product has been determined through discussions with RET data experts and data submitters.

This section of the model also assesses refinery production for each refinery from public information about the product slate and operating capability. This data is reconciled with crude product balance in the APS for refining as a whole.

From this data the model is able to determine an optimal supply pattern for each product by State. This covers the movement of refinery products, exports and import requirements to meet demand.

Future situation

This part of the model allows a future base situation to be set. Changes could include demand growth or decline (by product), refinery closure(s) or higher/lower refinery(s) output. With these conditions set and domestic crude reallocated amongst the refineries or exported, the model then determines a revised optimal supply pattern for each product by state.

Scenarios

Stepping off from the future situation (as defined above) the model allows further changes to be made and the impact of these compared. Similar to the future situation, changes can include demand growth or decline (by product), refinery closure(s) or higher/lower refinery(s) output. As for the future situation once these conditions are set and domestic crude reallocated amongst the refineries or exported, the model will determine a revised optimal supply pattern for each product by state.

Stock impact

The final part of the model assesses the likely impact to stock holding for the future situation and scenarios. This draws on the APS data and the ACIL Tasman report (Petroleum Import Infrastructure in Australia) to assess current stock holding with future stock holding levels (both for the future situation and the scenarios) determined from the proportion of any closed refineries that are converted to terminal storage and the type and size of product shipping used.


Appendix 2: Model OutputAustralia S&D: Base

Crude S&D

NT 1,023 -511 -511 0 0 0 NT 0 0 0 0 0 34 1,881 1,915

QLD 813 0 0 723 8,742 10,277 QLD 17 10,277 -354 -937 -377 84 4,293 13,002

NSW 0 0 0 2,075 8,504 10,579 NSW 0 10,579 -365 -118 -71 2,824 3,827 16,677

VIC 4,393 -245 -1,026 0 8,198 11,320 VIC 1,658 11,320 -390 -2,333 -832 42 2,188 11,653

TAS 0 0 0 0 0 0 TAS 0 0 0 0 0 818 108 925

SA 2,130 -1,597 -532 0 0 0 SA 534 0 0 -198 -149 2,375 1,039 3,601

WA 16,387 -444 -14,620 0 6,381 7,704 WA 1,698 7,704 -266 -2,618 -1,490 27 3,496 8,551

Total 24,745 -2,798 -16,689 2,798 31,825 39,881 Total 3,907 39,881 -1,375 -6,203 -2,919 6,203 16,831 56,325

Product LPG Avgas Petrol Jet Diesel Fuel Oil Bitumen Lubes Other Total

Refined 5,374 98 16,643 5,464 12,859 952 476 170 377 42,413

Imported 887 0 2,651 2,081 8,831 1,560 358 259 204 16,831

Exported -2,451 -20 -97 -12 -104 -195 -2 0 -40 -2,919

Domestic 3,811 79 19,197 7,533 21,585 2,317 832 430 541 56,325

Australia S&D: Future Base

Crude S&D

NT 788 -394 -394 0 0 0 NT 0 0 0 0 0 33 2,059 2,093

QLD 626 0 0 909 8,742 10,277 QLD 17 10,277 -354 -937 -374 84 5,851 14,564

NSW 0 0 0 1,310 4,638 5,948 NSW 0 5,948 -205 -118 0 2,824 10,021 18,469

VIC 3,384 -261 0 0 8,198 11,320 VIC 1,658 11,320 -390 -2,333 -515 42 3,161 12,943

TAS 0 0 0 0 0 0 TAS 0 0 0 0 0 816 189 1,004

SA 1,640 -820 -820 0 0 0 SA 534 0 0 -196 -36 2,375 1,385 4,063

WA 12,621 -744 -10,555 0 6,381 7,704 WA 1,698 7,704 -266 -2,617 -1,131 27 4,698 10,112

Total 19,059 -2,219 -11,769 2,219 27,959 35,249 Total 3,907 35,249 -1,215 -6,201 -2,055 6,201 27,363 63,248


Refined 4,418 98 14,630 4,435 11,741 862 409 170 332 37,096

Imported 937 0 4,280 5,369 14,266 1,578 425 259 249 27,363

Exported -1,658 -20 -97 -12 -104 -124 -2 0 -40 -2,055

Domestic 3,697 79 18,813 9,793 25,902 2,317 832 430 541 62,403

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Australia S&D: Scenario 1

Crude S&D

NT 788 -193 -594 0 0 0 NT 0 0 0 0 0 33 2,059 2,093

QLD 626 0 0 193 4,666 5,485 QLD 17 5,485 -189 -44 -62 45 9,312 14,564

NSW 0 0 0 0 0 0 NSW 0 0 0 0 0 1,932 16,537 18,469

VIC 3,384 0 -261 0 8,198 11,320 VIC 1,658 11,320 -390 -2,333 -515 0 3,202 12,943

TAS 0 0 0 0 0 0 TAS 0 0 0 0 0 814 191 1,004

SA 1,640 0 -1,640 0 0 0 SA 534 0 0 -196 -36 2,364 1,396 4,063

WA 12,621 0 -11,298 0 6,381 7,704 WA 1,698 7,704 -266 -2,617 -1,131 2 4,723 10,112

Total 19,059 -193 -13,795 193 19,245 24,510 Total 3,907 24,510 -845 -5,190 -1,744 5,190 37,420 63,248


Refined 3,957 98 9,735 2,972 8,858 597 323 0 187 26,727

Imported 1,166 0 9,172 6,829 17,122 1,796 511 430 395 37,420

Exported -1,426 -20 -93 -8 -77 -77 -2 0 -40 -1,744

Domestic 3,697 79 18,813 9,793 25,902 2,317 832 430 541 62,403

Australia S&D: Scenario 2

Crude S&D

NT 788 0 -788 0 0 0 NT 0 0 0 0 0 26 2,067 2,093

QLD 626 0 -626 0 0 0 QLD 17 0 0 0 0 0 14,547 14,564

NSW 0 0 0 0 0 0 NSW 0 0 0 0 0 233 18,236 18,469

VIC 3,384 0 -3,384 0 0 0 VIC 1,658 0 0 -98 -249 0 11,273 12,585

TAS 0 0 0 0 0 0 TAS 0 0 0 0 0 61 944 1,004

SA 1,640 0 -1,640 0 0 0 SA 534 0 0 -196 -36 175 3,584 4,063

WA 12,621 0 -12,621 0 0 0 WA 1,698 0 0 -201 -863 0 9,478 10,112

Total 19,059 0 -19,059 0 0 0 Total 3,907 0 0 -495 -1,147 495 60,130 62,890


Refined 3,421 0 0 0 0 0 0 0 0 3,421

Imported 1,423 79 18,813 9,793 25,902 2,317 832 430 541 60,130

Exported -1,147 0 0 0 0 0 0 0 0 -1,147

Domestic 3,697 79 18,813 9,793 25,902 2,317 832 430 541 62,403

Model: Version 1.0

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Printed :05 July 2012


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