War windfall: How Ampol and Viva’s ageing fuel refineries became profit centres

In this case, oil refiner Ampol and its chief executive Matt Halliday have stumbled into a war windfall. The extended closure of the Strait of Hormuz between March and June triggered a first-half profit jump to $1.35bn on preliminary figures – more than three times the $404m Ampol delivered during a period of relative peace in the first half of last year.

It is a similar story at Viva Energy, which operates the nation’s only other refinery, in Geelong. This week Viva said it expects first-half earnings of up to $780m, more than double the $305m from the same time last year – and that includes the disruption from a freak fire at its facility in April.

Australia’s refiners are rolling in it, and the profit surge has come at a sensitive moment. The focus on the nation’s fuel security has intensified, with Ampol and Viva strongly arguing for – and receiving – greater government support. They appear to have the upper hand.

There has been a steady procession of politicians, all in high-vis vests, making their way to one refinery or the other in recent months.

A spike in oil prices is unambiguously good for Ampol and Viva, but the Hormuz closure represents an extraordinary point in time. Just as Macquarie Group earned a massive earnings boost from its exposure to oil and gas trading during 2022 when Russia invaded Ukraine, Ampol is getting an additional bump from its in-house trading operations – buying large quantities of oil and fuel at lower prices and selling high to other wholesalers or customers during periods of extreme volatility.

At the same time, the earnings line for both Ampol and Viva is further inflated by the high dollar value of fuel sitting in storage tanks and under contract on ships heading to Australia.

But the focus for both is refining, and right now it is exceptional. Ampol’s Lytton refiner margin hit $US30.93 a barrel during the June quarter. That margin – essentially the difference between the cost of importing crude and refining it into petrol, diesel or avgas – marks one of the most extraordinary quarterly outcomes in the facility’s history.

Ampol’s update shows it was running Lytton flat out, with total output up 8.7 per cent over the half. It makes sense to make hay while the profit margins are thick. Ironically, Ampol would be making considerably more if it did not own a refinery at all – but it has little interest in letting that complicate a broader discussion about the long-term plan for domestic refining.

Iran’s shutdown of the Strait of Hormuz has cut off a quarter of global crude oil supply, particularly across Asia. Regional refinery runs were curtailed to match available supply, creating a material shortage of refined products and driving a dramatic spike in product spreads. Tensions have escalated recently, with Iran-backed Houthi rebels in Yemen threatening alternative shipping routes, including the corridor critical to Saudi Arabia’s exports.

But this is the challenge: Australia’s ageing and small refineries prove their worth in times of war but in times of peace barely cover their cost of capital. In January, before the conflict took hold and with seasonal pricing weakness at play, Lytton’s margin fell to around $US8 a barrel – on the cusp of loss-making. During the Covid pandemic, refiner margins collapsed to below $US4 a barrel.

In normal times Ampol is often marked down for operating a 60-year-old refinery producing (just) 109,000 barrels per day. Viva’s facility in Geelong – 120,000 barrels per day – is more than 70 years old. By comparison, Singapore’s ExxonMobil-owned refinery can produce more than 600,000 barrels a day, which is more than half of Australia’s daily fuel needs.

But both Australian plants have shown that in times of stress they have an advantage – and now they carry a national-security edge that makes them, for the moment at least, effectively untouchable. Both plants run on light sweet crude, which historically came from the Bass Strait, while Middle Eastern producers pump heavier grades. That is why the Hormuz crisis hit Asia’s mega-refineries in Singapore and China that are largely tuned to process heavy crude, particularly hard. Light crude was not in short supply; producers including Brunei, Malaysia and the US kept pumping. But oil price parity meant that regardless of grade, prices kept rising, including in Australia.

It won’t always be like this. Oil markets are notoriously boom and bust, with the bust typically lasting far longer than good times. That is why the Albanese government has committed to underwriting a floor. If refiner margins fall below a minimum trigger, support kicks in.

But does Australia need another refinery? Until two decades ago there were eight commercial refineries capable of meeting the nation’s demands of around 1.1 million barrels a day. Now there are two. The rise of Singapore and China’s super refineries – with their scale and depth of ready customers – has already eliminated the commercial case for multiple domestic facilities. Pricing parity means a new refinery will offer minimal pricing advantages for Australians. This is likely what the Prime Minister’s feasibility study for a Perth-based refinery is likely to conclude fairly quickly.

That means if any new refinery moves ahead, it will be on purely strategic grounds rather than commercial ones – much like maintaining an expensive desalination plant on standby for times of drought. For Ampol and Viva, the private concern is that a new government-backed entrant would compete at a loss, for the same long-term industrial customers that are the lifeblood of any refinery.

The profit windfall has come at the right time for Ampol. A major maintenance program is scheduled for Lytton later this year, and the company has committed up to $600m in capex for the coming year. This will be easily funded from cash. It also took on debt to fund a string of big-ticket acquisitions – including the EG Australia petrol station network – ahead of the Iran crisis. The additional cashflow will accelerate debt repayment. Ampol’s Halliday is expected to address this when he delivers first-half results in late August. Either way, the cash injection sets Ampol up well for the longer term. War has a way of creating distortions – and this time it found itself on the right side.

Extracted in full from:  https://www.theaustralian.com.au/business/companies/war-windfall-how-ampol-and-vivas-ageing-fuel-refineries-became-profit-centres/news-story/37226adaac0018a0f53551968aa5610d