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DOWNSTREAM DEMAND SPURS INVESTMENT
BY LOUIS WASSER
The world runs on oil, but of course you can’t pump it straight out of the ground into your car, your stove or the generator that provides your electricity. Crude oil needs to be refined for different uses, and with worldwide demand for oil up, despite an economic slowdown, there is a global shortage of refinery capacity. As companies have moved to close the gap between supply and demand with new refinery projects worldwide, Egypt is poised to be among the countries increasing their refinery capacity, despite a couple of bumps in the road.
“There is a huge worldwide shortage in refining capacity, and demand has soared worldwide because China, India, and [other] emerging markets are all growing,” says Abdel Aziz Al Aguizy, chairman and CEO of Quinsys, which provides petroleum management services, among other things. “They’re starting to use a lot more energy, so the demand for crude oil and crude oil products has increased.”
The implications of a shortfall in refinery capacity have not been overlooked by the industry, resulting in a proliferation of refinery projects, says Magdy Sobhy, an economist at the Al-Ahram Center for Political & Strategic Studies. As a result, there has been an increase in the number of new projects worldwide, from Asia to the Gulf states, he says.
Al Aguizy agrees that this shortfall in capacity is driving people to seek out opportunities to invest in increasing refinery capacity. “The worldwide shortage in refining [capacity] is causing people to want to build more refining capacity today.”
And Egypt is one of the countries a number of investors are eyeing as a strategic location for new refinery facilities. “One of the plans for the whole [Egyptian oil] sector is to increase the capacity for refining,” says Hady Fahmy, chairman of the Chamber of Petroleum & Mining Industries. He says that at the moment, Egypt has sufficient refining capacity. This is supported by the figures; according to the Egyptian General Petroleum Corporation (EGPC), Egyptian refinery capacity is currently 35.7 million metric tons (MMT) per year, while only 32.325 MMT were refined in FY 2007-08. Excess capacity aside, Egypt does import diesel and liquefied petroleum gas (LPG), also known as butane.
However, in light of international demand trends, the country needs to investigate opportunities to further expand this capacity. Fahmy says there are two ways to achieve this goal: either to raise the capacity of existing refineries or to add new ones. “The maintenance [of existing refineries] and some increases [in their capacities are the responsibility of] the government,” he notes. “This is in the plan of the projects.”
But increasing the efficiency of government-owned refineries is a good but costly option, argues Emad Hassan, an energy expert with Nextant, a Houston-based consultancy firm. “Is there room for efficiency to improve the production of these refineries?” he asks. “The answer is yes, but it takes about half a billion dollars apiece. So it’s a huge investment, and probably the government’s better off pushing this onto the private sector.”
And the private sector has been responsive to the opportunity to locate in Egypt, at least to some extent. While seven of the eight refineries in Egypt are controlled by the EGPC – and the government has a stake in the eighth, MIDOR, which is located in Alexandria – the private sector has begun to move into this area, laying the groundwork for new refinery projects.
There are at least four refinery projects in the works in Egypt; they are all at various stages of the proposal and implementation process. According to the EGPC, there are two projects to build new refineries currently in the pipeline. Both projects are to be established through a partnership agreement between private investors and the state-owned oil company. The Egyptian Refinery Company (ERC), the first of the two projects, which is primarily owned by private equity firm Citadel Capital with a minor stake owned by the EGPC, will set up a refinery with a capacity of 4.2 MMT annually.
For the second project, Sokhna for Refining & Petrochemicals will establish a refinery with an annual capacity of 6.157 MMT. “It’s a part of a wave of building new refineries to meet the world demand,” argues Sobhy.
In late July, Minister of Petroleum Sameh Fahmy announced plans to build a third refinery, which will be established by the EGPC in partnership with unnamed investors for $9 billion. The minister said that the refinery and petrochemical complex should be operational by 2010 and will either be located in Port Said or Gamasa. While the investors have not been named, there has been speculation by some that the Indian Oil Corporation Ltd. will be among the partners involved. The Indian company has been reportedly considering investing $9 billion to build a refinery near Port Said or Gamasa.
The fourth planned project will be in cooperation with the Libyan government as part of its plans to invest up to $10 billion in Egypt. Plans to build an oil refinery west of Alexandria were announced by the Libyan government last July.
In choosing to add new refineries, there are two possible ways of approaching the issue, says Hady Fahmy: either to build more state-owned refineries or to encourage private investment in the sector. “If you cannot approach the private sector, you’ll have to do your [own projects for new] refineries. This is definite.” This private sector approach is a positive trend, he says. “What’s going to happen with the Citadel refinery is a private sector thing. I think it’s a new concept, which is very good.”
And involving the private sector in expanding refining capacity is highly likely to translate into profits. “International supply under [current] oil prices is basically making a lot of these projects very profitable,” says Hassan.
Egypt possesses a number of characteristics that make it a congenial location for foreign investors to [build] these refineries. “There’s a possibility for exporting some of the oil products, real estate is cheaper, labor is cheaper here than elsewhere and there is already an established refinery industry,” says Hassan. “That’s not rocket science.”
There are other factors that make Egypt well suited for refinery projects, argues Al Aguizy. “You have know-how in Egypt, so you have the people aspect,” he says. “You have a good location, you have good supply lines, you have the ports for export, and you have a large consumption in the local market and in the surrounding markets in [the] northern Mediterranean.”
Private sector investment in increasing refining capacity could prove a boon in the face of high demand. Growing demand for oil products will require investment in refining to ensure domestic supply, says Al Aguizy. “There is definitely going to be a need for more refining capacity for the domestic market,” he argues. “Egypt is growing so it is of course seeing an increase in the local market demand for gasoline, diesel oil, fuel oil, jet fuel, etc.”
Others also point to the need for increased refinery capacity to meet these shortfalls. Increased refinery capacity will kill two birds with one stone, says Sobhy. “The government here needs to cover the shortage in diesel and butane, and the Arab oil countries need more refineries to refine their products for export.” The project to be implemented by the Egyptian Refining Company and the one planned by Sokhna for Refining & Petrochemicals will both include LPG and gas oil – which is often used as a diesel fuel – in their production capacity, as well as jet fuel and fuel oil.
While these new projects will increase domestic supply of LPG and diesel, there are those who argue that it might make more sense to import some required products rather than investing in the infrastructure required for their manufacture. Refinery facilities to produce certain products such as diesel and LPG are incredibly complicated, Hady Fahmy notes. “It’s not as easy as just getting out what products you want [from any refinery],” he says. “It all has [to be] economical in the end.” Egypt has to weigh the cost of investing in a new refinery project to manufacture these products against continuing to import them. Whichever is most cost-effective should be the way to go.
There are, however, advantages to producing certain products domestically, say industry experts. If there is any problem in a producing country – civil war for example – Sobhy argues that there is a benefit that comes with having refining facilities inside Egypt. “You at least have the security of having these products in your hands.” He also points out that having the necessary supply produced domestically saves on shipping and insurance costs.
There is another potential benefit to upping domestic capacity: the opportunity for Egypt to increase its role as an exporter of refined oil products, which is now relatively insignificant. “Egypt is perfectly positioned on the crude oil trading routes to take crude and refine it, and export products [to] generate profits,” says Al Aguizy.
While the potential for the private sector to make profits is clear, private investors seem rather unsure about jumping headfirst into investments in Egypt, says Fahmy. He points to the recent problem between the residents of Damietta and EAgrium, the Egyptian subsidiary of Canadian fertilizer company Agrium, over plans to build a plant in the area. To him, this means that public support or opposition to a project will appear as a new force to be reckoned with when planning industrial projects. “It was the easiest place, but of course now after the problems general industries are facing – not only the oil sector – with the people and the environment... I think [Egypt] won’t be the easiest market in the world,” he says.
Moreover, recent changes in free zone regulations for energy-intensive industries have also altered the calculus for foreigner investors. As part of legislation to fund salary increases and increased government spending passed on May 5, the free zone status of energy-intensive industries has been revoked, although some existing projects have been allowed to keep their free zone status. “If you have the rules of the game changed overnight, then you have to rethink your project,” Sobhy says. These changes were the primary reasons behind the Kuwaiti Al Kharafi Group’s decision to pull out of plans to build a refinery complex in Egypt. It is also rumored that two Indian companies – Essar Global and Reliance Industries Ltd. – are reconsidering planned investments in refining facilities in Egypt for the same reasons.
However, if these obstacles can be overcome, Egypt has the potential to become a more powerful player in the worldwide oil and gas industry. “I think Egypt can become a hub for oil generally speaking: receiving oil, refining oil [and] exporting oil,” argues Fahmy. “We have a decent and proper oil and gas infrastructure; it would take other countries decades to build an infrastructure like this. So we have to find the best use for this oil and gas infrastructure; if you have it, you might as well use it.”
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