ExxonMobil (XOM -2.29%) announced last week that the company was pumping $1 billion into its refinery in Antwerp, Belgium. This is somewhat of a surprising move, considering the fact that the refining industry, especially within Europe is collapsing, hit by weak demand and competition from lower-cost U.S. fuels.
Running away
The European refining sector has been in trouble for some time. During the past six years alone, as refining margins are squeezed to nothing, the industry has lost around 8% of capacity, along with 10,000 jobs.
Many European refineries enjoyed a golden age at the beginning of the century, as strong demand from China and the Middle East pushed margins wider.
Now, overcapacity and competition from cheaper, larger Asian refineries have prompted something of a shake-out.
Then there is the issue of legislation and emission regulations. It was calculated earlier this year that additional costs such as these would add $2.50 a barrel from 2015-20 -- concerning of an industry whose margins are already sitting on the fence.
Feeling the pain
There's no company that is feeling the pain more than Royal Dutch Shell (RDS.B). Shell's CEO, Ben van Beurden previously described the company's refining sector results as "unacceptable." It's easy to see why.
During the first quarter of this year, Shell revealed a $2.9 billion charge to earnings, mainly due to writedowns on its refineries in Asia and Europe reflecting a poor outlook for refining margins.
What's more, during the quarter the company's downstream division reported a year-on-year slump in earnings of 15%, mainly as a result of tighter refining margins.
The problem is cost. US refineries have been given huge advantage by the shale boom. US domestic crude is priced at a discount to Brent, so according to data from ExxonMobil, crude accounts for around 60% of costs for refineries within Europe. Within the US, this figure is as low as 30%.
With this cost advantage, exports of fuel from the US have surged, from 3 million barrels per month, as reported during 2004, to 35 million barrels, as reported during April.
Murphy Oil has been the subject of much criticism as the company is trying to shut one of its refineries within the UK. The group has been in talks to sell the site, but as of yet no bidders have come forward.
Making the right choice?
Is ExxonMobil making the right choice? Well, the company has built up a reputation for efficiency and high returns on capital in the downstream market across the world, and it would appear that the company intends to bring its experience to bear within Europe as well.
Indeed, Exxon's plan is to use heavy residue from other refining processes and convert it into usable fuel. This should allow the company to not only reduce costs but also strengthen the competitive position of Exxon's other refineries in the UK, France, and the Netherlands; reducing waste and improving efficiency.
Bottom line
The European refining market is in trouble; ExxonMobil, however, is not worried.
The company's $1 billion expenditure to expand its refinery in Antwerp, Belgium may seem like a waste of cash for some, but for Exxon the plan could be highly lucrative.
The company is planning to build a refinery using heavy residue from other refining processes. This process should enable the company to reduce costs, not just in Antwerp but across Europe, allowing Exxon to become one of Europe's most efficient and low-cost refiners.
