Turmoil in Refining The Shakeout Continues

Conclusions from 2010 OPIS Presentation World oil demand growth will be largely in non OECD countries as OECD economic growth remains moderate and oil intensity declines. Many large, new, high conversion refineries East of Suez are targeting exports. Combined with tepid OECD demand, additional refinery shutdowns in Europe and the U.S. are likely. Traditional OECD domestic and import suppliers will fight to maintain historical product market shares vs. new non OECD exporters. Cost competitiveness of new product imports into the Atlantic Basin will be influenced by light heavy crude oil spreads. Even with moderate spreads, some European and U.S. conversion refineries may be at risk. 1

Turmoil in Refining World Oil Demand and Supply North American Oil and Gas A Game Changer U.S. Refiners The Haves and the Have Nots An Increasing Wave of U.S. Product Exports European Refining The Struggle Continues Conclusions 2

OECD vs. Non OECD OECD Non OECD NOTE: IEA Regions 3

World Oil Demand (near forecast-to 2015) Relatively Slow Growth Continues in Western Hemisphere Recession in Most of Europe Slowdown in Asia 4

World Liquids Total Demand (2010 2020) OECD moves down from 55% of demand to 45% in 2020. SOURCES: IEA and EIA estimates; Baker & O Brien analysis. 5

World Liquids Incremental Demand (2010 2020) World liquids demand grows by 8 million B/D by 2020 (0.9%/year). Millions of Barrels per Day 2010 Demand 87.40 Annual Growth Rate OECD 3.00 0.7% Non OECD Growth China 4.00 3.5% India 1.75 4.3% Middle East 2.00 2.3% Other 3.25 1.5% 2020 Demand 95.40 0.9% 2020 Net Growth in Demand 8.00 SOURCES: IEA and EIA estimates; Baker & O Brien analysis. 6

Sources of World Total Liquids Supply Three MMB/D of the new supply will come from NGLs and biofuels. Other NGLs Biofuels Crude Oil SOURCES: IEA estimates; Baker & O Brien analysis. 7

Demand Increase 8,000 2020 World Liquids Supply/Demand Balance Thousands of Barrels per Day New refining capacity in East of Suez will create a refining surplus the extent of which will depend largely on China s ability to build new refineries. Less Non Refined NGLs (1,000) Biofuels (2,000) Net Crude Oil Required 5,000 Do not require refining. Only net 5 MMB/D incremental crude runs will be needed to balance product demand in 2020. Less New Crude Oil Runs by Chinese Refiners Net Incremental Crude Runs Required exc. China (4,000) 1,000 China s stated intention is that new domestic refining capacity will satisfy its incremental 4 MMB/D demand. Thus, only about 1 MMB/D of new crude runs may be needed to meet world demand in 2020 vs. 2010. Existing refineries could supply! SOURCE: Baker & O Brien analysis. 8

North American Oil and Gas A Game Changer U.S. Oil Production Growing for First Time in Decades Condensates and NGLs Increasing Additional Heavy Crude from Canada Abundant Shale Gas Production U.S. Refiners Should Enjoy Long Term Crude Oil and Natural Gas Price Advantages 9

U.S. Oil Production Growing for First Time in Decades After peaking at 9 MMB/D in mid 80s, and declining to 5 MMB/D in 2008, production will increase for fourth consecutive year to ~6.2 MMB/D in 2012. Growth in Texas and North Dakota more than offsets declines in Alaska and California. SOURCES: U.S. DOE/EIA; Baker & O Brien analysis. 10

Outlook for U.S. Crude Oil Production U.S. production could approach 7.5 MMB/D in 2015 and 8.5 MMB/D by 2020. Light, sweet grades from shale plays will drive quality of the incremental barrel; sour grades predominantly from the GOM and the Permian Basin. SOURCES: Various company reports, third party projections, Baker & O Brien analysis. 11

Growing Imports from Canada Expected to Continue Diluted bitumen blends (primarily DilBit ) expected to account for most of the incremental supply from Canada. SOURCE: Canadian Association of Petroleum Producers; Canadian Crude Oil Forecast and Market Outlook, June 2012. 12

Price Advantaged Refinery Envelope is Growing With U.S. Domestic Sweet Production Growth Some Rocky Mountain refineries have enjoyed price advantage since before 2008. Immediate area around Bakken has benefited since 2009. Larger number of PADD 2 refineries benefited as takeaway capacity limited in 2011. Growth in Eagle Ford, Permian, and the GOM production will extend advantages to the USGC refineries. Before 2008 2009+ Jan 2011 2012 Expected 2013 Legend Refinery Price advantage crude oil envelope 13

LLS/Brent Differential is Key Signal of U.S. Crude Oil Balance LLS has historically traded at about 2 3 $/Bbl. above Brent. As these imports are increasingly displaced by new domestic production, this longstanding relationship will narrow. LLS Spot, St. James Dated Brent, Sullom Voe 14

LLS/Brent Price Differential Narrowing Initial signs of breakdown during summer of 2011. Expect LLS to trade near zero price parity with Brent in near to medium term. 15

Low Cost Natural Gas Adds to U.S. Competitive Advantage Illustration of U.S. and Europe ULSD Cost Differences due to Natural Gas Price Natural Gas Price, $/MMBtu U.S. 2.50 (Henry Hub) Europe 9.22 (UK NBP) Hydrogen Cost, $/MScf 1.93 7.13 Hydrogen usage, Scf/Bbl. ULSD 400 400 Hydrogen cost, $/Bbl. ULSD 0.77 2.85 U.S. Cost Advantage, $/Bbl. ULSD 2.08 16

U.S. Refiners The Haves and The Have Nots An Advantage for Inland Refiners Competition from the Middle East and Asia East Coast Products Supply Dodging a Bullet Gasolines vs. Distillates A Realignment 17

A Cost Advantage for Inland Refiners Inland refiners have benefited enormously from cost advantaged crude oils due to transportation bottlenecks at Cushing and other northern locations. SOURCES: U.S. EIA, Platts. 18

This Advantage has Translated into Historic Margins Inland refinery cash margins in PADDs 2 and 4 are at historic levels well above those of their coastal peer groups. The Haves The Have Nots SOURCE: PRISM is a trademark of Baker & O'Brien. Inc. All rights reserved. 19

Foreign Competition Worldwide Refinery Capacity Additions Almost 6 MMB/D new capacity will be added in 2012 2016. Most is focused in Asia Pacific & the Middle East much is government owned. Approx. 560 MB/D of new North American capacity (U.S. and Mexico). SOURCE: Baker & O Brien estimates. 20

Can the New Foreign Refineries Compete in the U.S.? Most of the new Asian and Middle East refineries are large, complex, heavy crude oil facilities; therefore: When light heavy crude oil differentials are narrow usually the case when demand is stagnant and crude oil is plentiful the new foreign refiners will have difficulty competing in the U.S. Instead, after they have saturated the Asian market, they will try to push product into the next largest (and closest) market Europe. If light heavy crude oil differentials widen which will only happen if the world oil demand increases and/or a supply disruption occurs in the Middle East, then the new foreign facilities can be more competitive in the U.S. Typically, the light heavy differential needs to exceed $7.00/Bbl. for this to happen. 21

Why Foreign Refiners Have Difficulty Competing Today East Coast sweet crude cracking refineries are competitive today. 2 nd Quarter 2012: Narrow light heavy differential (approx. $3.70/Bbl.). 1 Product Transport Variable Operating Costs Fixed Operating Costs Crude Oil Transport Crude Oil Less Product Credits 1 LLS minus Arab Heavy SOURCE: Baker & O Brien estimates using PRISM TM. NOTE: Scale from 70 130 (increments of 10). 22

East Coast Products Supply Dodging a Bullet A Reshuffling of Refining Five of eight fuels refineries shut down since 2009 but two restarted (Trainer and Delaware City) with new owners. Only one refinery had a single owner throughout this period (Linden). Infrastructure projects implemented or announced for over 500 MB/D of domestic crude oil rail unloading capacity to serve East Coast. Expansion and Extension of Import/Transfer Infrastructure Colonial Pipeline expanding capability to transfer light products from PADD 3. Sunoco Logistics pursuing project to transfer light products from PADD 2. Investments in former Yorktown and Westville refinery sites will provide new import facilities for waterborne barrels into the Northeast pipeline system. Buckeye s acquisition of the Perth Amboy terminal links BORCO with their Northeast products system. 23

Gasoline vs. Distillate A Fundamental Realignment Distillate demand increasing at expense of gasoline. Distillate prices expected to generally exceed gasoline prices. This realignment favors refineries oriented towards distillate production. SOURCE: U.S. EIA, 2012 Annual Energy Outlook. SOURCE: PRISM TM. 24

An Increasing Wave of U.S. Product Exports The Growth in U.S. Product Exports The Export Engine PADD3 Product Export Destinations Distillates (ULSD) Offer Most Promise Potential Realignment of Atlantic Trade Due to U.S. Refiners New Competitiveness 25

U.S. Refined Product Exports Show Steady Growth 12 Month Rolling Average Annual Growth Rate (AGR) Since Jan. 2010 13% 26% 49% 28% 1% 10% SOURCE: U.S. EIA. 26

U.S. Gasoline and Distillate Exports AGR Since Jan. 2010 4% 56% 18% 40% SOURCE: U.S. EIA. 27

PADD 3 The Export Engine 80% of total SOURCE: U.S. EIA. 28

Mexico/Latin America are Top Export Destinations SOURCE: U.S. EIA. 29

Gasoline Exports Mexico takes 60% of the gasoline. But future gasoline exports to Mexico are limited: Mexico gasoline demand is relatively flat. New domestic refinery production. Limited European imports to displace. Exports to Brazil will decline as ethanol supply and demand gets back into balance. Some Hovensa volumes can be replaced. Limited growth elsewhere. 30

Rising ULSD Exports to Latin America SOURCE: U.S. EIA. 31

ULSD Exports Europe still a strong distillate market with high prices. PADD 3 ULSD spot prices averaged 4 5 cents per gallon below Europe over last two years. Latin American ULSD demand is expected to exceed the region s production more countries moving to ULSD. PADD 3 is well positioned logistically for supply of any incremental Western Hemisphere ULSD demand. Low cost hydrogen provides U.S. refiners with an additional competitive advantage. ULSD exports likely to grow in the 20% 30% range annually through 2013 2014. 32

Potential Realignment of Atlantic Trade Flat U.S. domestic demand, plus recent refinery expansions make export barrels more attractive. Low cost shale oils, plus more heavy Canadian supplies improve competitiveness of PADD 3 exports. U.S. refiners have potential to displace refined products in Atlantic trade previously supplied by Europe and the Middle East. U.S. advantage over Europe is over $2.00/Bbl. of ULSD for hydrogen costs alone. U.S. refiners almost on equal energy cost footing with Middle East exporters. 33

European Refining The Struggle Continues Weak business environment reduces demand. Cracking plants just above breakeven long term. Hydroskimming is not profitable. U.S. East Coast gasoline shortfall not likely to be sufficient to encourage higher European crude runs. More direct competition from Middle East and Asia. Result: more potential refinery closures. 34

European Demand Decline Continues Since 2006, light product demand has declined at the rate of 1.8%/year. Gasoline demand has declined at the rate of 3.9%/year diesel only marginally. These trends likely to continue until a solution to the European financial crisis restores higher GDP growth. SOURCE: Joint Organisations Data Initiative (JODI). 35

European Supply/Demand Mismatch European taxes favoring diesel over gasoline have created a product mix necessitating gasoline/naphtha exports and distillate imports. But most large gasoline markets are already well supplied and European refineries are the least competitive. Distillate is in short supply in many developing markets, making for expensive imports. European Light Products (2011) SOURCE: Joint Organisations Data Initiative (JODI). 36

Problems Continue for Euro Zone Refiners Competitively disadvantaged compared to the U.S., the Middle East, and Indian export refineries. High crude oil and natural gas supply costs. Lower vacuum gas oil and resid upgrading capability. Upcoming EU carbon emission rules. Poor economies of scale. Higher maintenance and operating costs. Target market for new, complex export refineries. Result: expect more refinery shutdowns. 37

Conclusions Surplus worldwide refining capacity through 2020. New North American production will give U.S. refiners long term competitive advantage. Inland refiners (and with focus on distillates) better positioned than coastal facilities. Gulf Coast refiners should benefit from export markets in Latin America and West Africa. European refiners continue under pressure from both U.S. and new East of Suez facilities. 38

Baker & O Brien Independent Energy Consultants Dallas Headquarters 12001 North Central Expy Suite 1200 Dallas, TX 75243 Tel: 1 214 368 7626 Fax: 1 214 368 0190 Houston Office 1333 West Loop South Suite 1350 Houston, TX 77027 Tel: 1 832 358 1453 Fax: 1 832 358 1498 London Office 146 Fleet Street Suite 2 London EC4A 2 BU Tel: 44 (0) 207 373 0925 Cell: 44 (0) 797 982 3333 www.bakerobrien.com 39