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Midstream and Downstream Oil Industry Summer Preview

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Here's who might purchase three Philadelphia-area refineries and what will happen when several pipelines reverse course.

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With prices at the pump approaching $4 per gallon in many states, potentially permanent shutdowns for a couple of Philadelphia-area refineries, and the reversal of the Seaway pipeline in early June, among several other pipeline originations, the summer is shaping up to be fairly eventful within the related oil industry sectors.

On the refinery and marketing side, Sunoco's (SUN) Girard Point refinery is expected to idle operations on July 1 – the unit currently processes approximately 335,000 barrels-per-day (bpd) of crude oil. ConocoPhillips (COP) idled its Trainer facility last September – closure of this refinery would reduce capacity by approximately 185,000 bpd (see Investigating the Discrepancy Between Midwest and East Coast Oil Refineries: The Brent-WTI Spread). Putting a halt to the Girard Point facility's operations would bring total idled capacity in the region to approximately 698,000 bpd, including Sunoco's Marcus Hook refinery, which was paused last December. Such closures would increase supply pressure on the already tight motor gasoline market.

Still, there is the possibility of potential buyers for each of the three facilities. One surprising contender for ConocoPhillips' Trainer refinery is Delta Airlines (DAL). A successful bid for Delta would be the first case of an airline vertically integrating to independently produce jet fuel. Sunoco's Girard Point refinery has received several bids as well, including one from nearby investment firm Preferred Unlimited, and United Refining, a northern Pennsylvania-based oil company that owns a 70,000 bpd refinery operating in Warren, PA.

Although PBF Energy has not yet publicly announced its intention to bid, an entry by the four-year-old refining company would not be a surprise. PBF already owns two nearby facilities in Delaware City, DE, and Paulsboro, NJ, with a total of 370,000 bpd in throughput capacity. Both facilities were purchased from Valero (VLO) in December 2010.

On the other hand, perhaps the company is attempting to avoid the spotlight after a 150,000-barrel spill in late February. Although most of the oil was eventually recovered, PBF has dealt with a host of environmental and operational issues in the recent past. These include an inadvertent release of sulfur dioxide that caused the evacuation of nearby schools last June and a fire in mid-March that required a temporary shutdown. PBF filed for an initial public offering in mid-November2011 – it is a joint venture of private-equity firms First Reserve and Blackstone.

Sale of any or all of the Philadelphia-area refineries would prevent closure and could benefit consumers – an increase in motor gasoline production would increase supply of finished products, potentially weakening pressure on retail prices. According to the Department of Energy's Energy Information Administration on April 2, the national average regular motor gasoline price is $3.941 per gallon, over $0.25 higher than the same time last year. This was the tenth weekly price increase in a row.

Moving to the midstream sector, Enbridge (ENB) and Enterprise Products Partners (EPD), joint owners of the Seaway Pipeline that currently flows from Freeport, TX, to Cushing, OK, will soon be sending oil in the reverse direction. The expectation is for 150,000 bpd to flow towards the Houston/Port Arthur region by June 1 and 400,000 bpd in 2013.

Two weeks ago, the pipeline operators announced their plan to more than double the pipeline's capacity to 850,000 bpd in 2014 (see Why the Seaway Pipeline Damages Hope for Keystone XL and Collapses the Brent-WTI Spread). It was Enbridge's $1.15 billion purchase of ConocoPhillips' 50% share in the pipeline and subsequent decision to reverse flow from South-North to North-South that collapsed the Brent-WTI spread in mid-November.

Before the announcement, the price difference between the two light sweet varieties was a record $28 – it fell to $8 soon afterward. The spread has since expanded and is currently hovering around $20, partially due to the substantial supply glut of landlocked oil in Cushing. According to the EIA's latest inventory data, there are currently 40.3 million barrels of oil in storage at the delivery point – this is the highest level since the week ending May 6, 2011. With more and more oil arriving from the Bakken Shale in North Dakota and the Athabasca Tar Sands near Alberta, this storage number is expected to increase until additional Midwest-to-Gulf Coast pipelines are operating at higher capacity.

This past week, in order to take advantage of an expected increase in West Texas Sour (WTS) crude oil production in and around the Permian Basin, as well as Gulf Coast refineries' demand for cheaper domestic oil, Sunoco Logistics Partners (SXL) initiated deliveries on its 40,000 bpd West Texas-Houston Access pipeline.

The project will connect the OTI Terminal near Houston to the West Texas Gulf (WTG) pipeline at Goodrich, TX. Sunoco Logistics Partners owns a majority interest in the WTG pipeline that runs from Colorado City, TX, to its Nederland, TX, terminal located near Port Arthur. But it is not the only entity attempting to capitalize on the future prospect of increased production in the Western part of the state – Tulsa-based Magellan Midstream Partners (MMP) plans to reverse a portion of its Longhorn pipeline that currently carries refined products from Houston to El Paso.

The reversed segment will deliver crude oil West-to-East from Crane, TX, to its terminal in East Houston – approximately 135,000 bpd in deliverable capacity is expected to be operational by Q1 2013 and up to 225,000 bpd in mid-2013. According to Magellan CEO Michael Mears, the reversal should "[provide] an alternative transportation option that will help alleviate the current crude oil oversupply situation in Cushing, Oklahoma."

With the presidential election less than seven months away, increased media coverage of retail gasoline prices has already begun. The ultimate fate of the Philadelphia-area refineries and impending shifts in the country's pipeline network are sure to play a major role in determining how both crude oil and gasoline trades throughout the summer.
No positions in stocks mentioned.

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