Changing Crude Qualities and Their Impacts on U.S. Refinery Operations

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AFPM 2014 Annual Meeting March 25, 2014

by

John M. Mayes

Presented to:

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International consulting practice since 1971 Downstream focus; refinery/chemical engineers Industry and financial clients

• Strategic Studies • FMV Assessments & Venture Analyses • National Policy Studies

Publish various outlook and multi-client subscription reports • World Crude Outlooks • North American Crude & Condensate Outlook • Crude and Refined Products Outlook • Refinery Construction Outlook • Special Studies

TM&C Overview

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Today’s Agenda

North American Crude and Condensate Outlook Shale Crude Development

Field Constraints Geographic Constraints

Refining Bottlenecks Export Issues Final Thoughts

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North American Crude & Condensate Outlook

• Regional forecasts in new TO and conventional areas

• Evaluation of refinery capabilities on a plant-by-plant basis

• Analysis of planned/required logistics

• Evaluate challenges and opportunities for producers, midstream companies and refiners

• Forecast pricing implications

• Initial publications – June & October 2012

• 2013 NACCO released in June

• 2014 edition to be released in September

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Projected Production Volumes by 2022

U.S. • Low Case 9.5 MMBPD • High Case 12.0 MMBPD

Canada

• 5.5 MMBPD

Forecast Assumptions • Absolute crude prices (Brent) remain in $80 to $120 range • Key limitations (manpower, materials, regulatory, financial, etc.) • Build out of crude transportation assets is critical • Limited production from some high potential prospects • High case requires significant crude exports

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Crude Production Increases – U.S. 2008 to December 2013

-400

-200

0

200

400

600

800

1,000

1,200

Eagle Ford

Bakken Permian Basin

Other Texas

Other U.S.

Oklahoma /Kansas

Gulf of Mexico

California Alaska

Thou

sand

BPD

Source: EIA

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U.S. Crude Supply/Demand

4

6

8

10

12

14

16

2003 2005 2007 2009 2011 2013 2015 2017 2019 2021

Mill

ion

BPD

Low High Refinery Runs AM-14-42

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U.S. Crude Production Change by PADD 2013 to 2022

-1000

-500

0

500

1000

1500

2000

2500

3000

PADD I PADD II PADD III PADD IV PADD V

MB

PD

Low High

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Change in Crude Production by Grade 2013 to 2022

-500

0

500

1000

1500

2000

2500

3000

3500

4000

Condensate/ Light Sweet

Light Sour Medium Heavy

MB

PD

US Low US High Canada

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Changing U.S. Crude Oil Sources

0

2

4

6

8

10

12

14

16

2004 2008 2012 2022 High

2022 Low

Mill

ion

BPD

Domestic Canada Waterborne Forecast

36% 34% 43%

10% 13%

16%

54% 53% 41%

9%

66%

15%

25% 25%

60%

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Today’s Agenda

North American Crude and Condensate Outlook Shale Crude Development

Field Constraints Geographic Constraints

Refining Bottlenecks Export Issues Final Thoughts

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Shale Crude Development

• The development of shale crudes has been characterized by a series of logistic and processing bottlenecks. Fields

Geographic

Refining

Exports?

• Shale crude prices have been impacted whenever bottlenecks have been hit which in turn created the solution.

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Shale Crude Development (cont.)

• Multiple supply modes have been utilized to relieve field bottlenecks.

Bakken o Pipeline o Rail

Permian Basin

o Pipeline o Rail

Eagle Ford o Pipeline o Vessel

Athabasca

o Pipeline o Rail

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• U.S. pipeline system was constrained at Cushing, OK until 2012. Seaway Phase I 150 MBPD May 2012

Seaway Phase II 250 MBPD Jan. 2013

Keystone 700 MBPD Dec. 2013

Seaway Phase III 450 MBPD 2014

• The Houston bottleneck was reduced in Dec. 2013 with startup of Shell Ho-Ho pipeline (300 MBPD to St. James, LA).

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Shale Crude Development (cont.)

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Today’s Agenda

North American Crude and Condensate Outlook Shale Crude Development

Field Constraints Geographic Constraints

Refining Bottlenecks Export Issues Final Thoughts

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Transition to Refining Bottleneck

• Interim period – U.S. refining industry can generally absorb incremental light shale production when backing out light foreign imports.

• When foreign light imports have been eliminated, incremental shale production will replace foreign medium grades.

• The U.S. refining industry is not currently configured to process this volume of light crude.

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PADD II Foreign Light Imports

0

50,000

100,000

150,000

200,000

250,000

Jan 2009 Jan 2010 Jan 2011 Jan 2012 Jan 2013

BPD

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PADD III Foreign Light Sweet Imports

0

200,000

400,000

600,000

800,000

1,000,000

1,200,000

1,400,000

1,600,000

Jan 2009 Jan 2010 Jan 2011 Jan 2012 Jan 2013

BPD

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PADD I Foreign Light Imports

200,000

300,000

400,000

500,000

600,000

700,000

800,000

Jan 2011 Jan 2012 Jan 2013

BPD

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PADD III Foreign Light Sour Imports

400,000

500,000

600,000

700,000

800,000

900,000

1,000,000

1,100,000

1,200,000

Jan 2011 Jan 2012 Jan 2013

BPD

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Shale Development Timeline

2014 Light sweet imports into PADDS I-III will be eliminated

2015 Light sour imports down to structural

minimums 2015/16+ Crude exports to begin ? Medium imports down to structural

minimums based on Saudi crude strategy

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Shale Crude vs Displaced Light Imports

Property

Bakken

Eagle Ford

Eagle Ford

Cond.

Brent

Bonny Light

API Gravity 41 45 56 39 34 Sulfur, wt% 0.20 0.20 0.15 0.35 0.24 Distillation Yield, volume % Lt. Ends, C1-C4 3.5 3.8 6.6 3.5 1.3 Naphtha 35.7 40.1 56.7 24.1 20.3 Middle Distillates 30.9 29.7 28.6 35.3 45.5 Gas Oil 24.8 21.2 7.6 27.0 27.4 Vacuum Residue 5.2 5.2 0.5 10.1 5.4

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Announced Major Refinery Upgrades

Upgrade Cost Refinery Millions Crude

• Valero Houston 220-280 Eagle Ford

• Flint Hills Corpus Christi 250 Eagle Ford • Marathon Catlettsburg 145 Utica

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0.2

0.4

0.6

0.8

1.0

1.2

1.4

31

32

33

34

35

36

37

38

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022

Sulfu

r, w

t. %

API

Gra

vity

API Gravity Sulfur, wt. %

Quality of U.S. Crude Oil Production

Low Cases

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API Gravity of U.S. Refinery Crude Slate

30.0

30.5

31.0

31.5

32.0

32.5

33.0

2000 2002 2004 2006 2008 2010 2012 2014 2016 2018 2020 2022

API

Gra

vity

API Gravity

High Crude Forecast

Low Crude Forecast

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Refinery Yield Impacts • “Dumbbelling” of Crude Slate

Higher LPG and naphtha Lower middle distillate Resid yields up in Canadian heavy crudes; still generally lower than in Latin heavy

• Implications

Higher LPG yield adds to surplus from field production Higher naphtha/lower distillate yields runs counter to demand growth patterns Will lead to increasing exports of LPG’s/gasoline; decreasing ability to export diesel Light naphtha surplus a particular issue – some can be used as diluent for Can. bitumen

• Remedies

Construction of hydrocracking units – very capital intensive Development of LPG/NGL, light naphtha and gasoline export markets Export of particularly problematic crudes – export limitations; condensate splitting Incentivize high distillate yielding GTL projects

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Today’s Agenda

North American Crude and Condensate Outlook Shale Crude Development

Field Constraints Geographic Constraints

Refining Bottlenecks Export Issues Final Thoughts

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0 200 400 600 800

1,000 1,200 1,400 1,600 1,800

1980 1985 1990 1995 2000 2005 2010 2015 2020

Thou

sand

BPD

Canada Other

High Production Case with exports

History

U.S. Crude Oil Exports

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Crude Exports

• By 2022, N.A. crude production vs. refinery runs will be close to balanced (~18.0 vs. 17.5 MM BPD) if crude exports are allowed.

• Crude exports of ~2.0 MM BPD: Necessary to balance against “structural imports” from

PDVSA, Pemex, S.A. etc. Mostly from Eagle Ford, Permian and ANS Canadian will export from both coasts (dependent on

midstream expansion)

• Crude access/logistics will continue to be key margin determinant

• Export policy decisions critical

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Today’s Agenda

North American Crude and Condensate Outlook Shale Crude Development

Field Constraints Geographic Constraints

Refining Bottlenecks Export Issues Final Thoughts

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Final Thoughts • NA Boom in Crude Production

Significant “game changer” with international implications Well decline rates in some tight oil formations are 80%+ but production growth will continue

for several years before reaching a plateau Permian has the most long-term potential Ability to export crude will be key to continued growth

• Implications for U.S. Refining Sector

Less expensive crude Lower natural gas cost Adds to existing advantages – higher complexity, developed infrastructure, more flexible work

force – to make U.S. refineries the most competitive in the world

• Facilitates Ability to Export Products – Requirement due to Declining Domestic Demand U.S. transitions from big net importer to large net exporter Sustainable trend; increased competitiveness of U.S., growing demand in developing

countries; lack of success in building/running refineries

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Final Thoughts (Cont.)

• U.S. Crude Boom Also Presents Challenges Will require downstream capex along with investment outside refinery gates Major impact on refinery yields/product balances – more gasoline/less diesel Particularly long on light naphtha/condensate Quality of new production (mostly shale) major unknown

Threats to Product Export Model

Growing dependence on volatile markets in Latin America and elsewhere Dependent on continuing difficulty of countries to supply own demand Increasing volumes of gasoline more difficult to place Threats from other export refineries – SATORP/Jubail, YASREF/Yanbu, others Potential of U.S. export restrictions; unlikely despite political posturing

• Regulatory/Policy Issues

U.S. policy on crude exports RFS – Ethanol Blendwall/RIN Costs/Increasing volumes of alternatives Potentially more restrictive CAFE standards Tier 3 Rules – More investment/increased costs Carbon restrictions –tax/cap and trade/LCFS Other – XL pipeline approval?/LS heating oil, bunker fuel/Jones Act

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John M. Mayes jmayes@turnermason.com

Turner, Mason & Company 2100 Ross Ave., Suite 2920

Dallas, Texas 75201

turnermason.com

214-754-0898

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