Rare in the energy sector, Midwest refineries are helped, not hurt, by cheaper oil

A Marathon Oil Corp. refinery in Garyville, La.
A Marathon Oil Corp. refinery in Garyville, La. Bloomberg

Plummeting oil prices are roiling oil producers, OPEC and Russia, but U.S. refiners are in a holiday mood.

HollyFrontier, a company with five refineries, including one in El Dorado, Kan., is even bearing gifts — if you’re a shareholder. Last week it disbursed a special dividend of 50 cents per share on top of its regular quarterly dividend of 32 cents.

Refineries, despite the collapse in crude oil prices, remain a bright spot for the energy industry. And for refiners in the Midwest and some other regions, the times are especially good.

They’re closer to North Dakota and Canada and cheaper oil, which reduces their costs. But the wholesale prices of gasoline and diesel are pegged to those charged by the mass of refineries along the Gulf Coast.

They follow prices set by Gulf refiners, which may rely in part on more expensive oil shipped in from overseas. And then it costs more to transport finished fuel to the Midwest and other regions.

As a result, Midwest refiners have been able to better protect their margins, the difference between the cost of oil they buy and the wholesale price of the fuel they sell.

Although refinery gasoline margins have declined some recently, because this is a slow season for gasoline use, they are still around 21 cents a gallon for much of the country.

But it’s diesel that is making refiners really happy across the country and especially in the Midwest. The margins are comparable or even better than a year ago — as much as 66 cents a gallon or more — as diesel prices at the pump in the last few months have declined more slowly than gasoline prices.

One reason is that U.S. refineries are exporting more and more of the fuel.

Diesel typically costs more than gasoline. But especially upsetting to truckers, the biggest users of diesel, the gap between gasoline and diesel has grown. This week the national average for diesel was $3.27 compared with $2.40 for gasoline. That’s 27 cents more a gallon compared with a year ago, according to AAA.

Lee Klass, a long-haul trucker who has spent $54,000 for diesel this year, referred to the special dividend paid to HollyFrontier stockholders and said: “It’s Robin Hood in reverse. Some get a special dividend for Christmas. I get a fruitcake.”

Pain elsewhere

In contrast to refiners, the oil producers and others that depend on oil revenue are struggling. A barrel of West Texas Intermediate crude oil that cost $102 a barrel in June is now trading around $55.

That has pushed gasoline prices in the Kansas City down to $1.96 a gallon on the Missouri side and a few cents higher on the Kansas side. AAA said Monday the national average for gasoline has declined daily for the past 88 days, the longest continuous decline since the group began to track gasoline prices.

The lower prices are already pushing Russia and Venezuela toward an economic reckoning. In the United States the overall economy benefits, although big oil states such as Texas, Oklahoma and now North Dakota will feel a financial pinch.

The bigger threat for the United States is that lower prices could wreck the energy boom that has helped reduce net imports of crude oil and petroleum products by more than half since 2006.

In the short term, the most likely outcome is that the rise in U.S. oil production will take a pause. And if low prices persist, production could actually begin to fall.

In its production outlook for 2015, the Energy Information Administration lowered its forecast but only slightly, from 9.4 million to 9.3 million barrels of oil a day.

Tim Hess, an analyst for the agency, said many plans for drilling new wells next year are still in place, but he expects a noticeable decline later in the year if current oil prices persist. Drilling in more marginal sites is likely to be affected first.

Some companies have already reshuffled plans. Oasis Petroleum in North Dakota has slashed its 2015 budget for drilling and will focus on more “intensive” areas.

Kansas in a way mirrors the decisions now facing the oil industry. It’s not a major oil state, but it did produce 46.8 million barrels in 2013, a jump of 7 million barrels since 2010. Production is on track to be a little more this year.

Scott Frazier, financial manager of Woolsey Operating Co. in Wichita, said companies obviously will have to be more careful about drilling.

“Everyone is wondering what the future is going to be,” he said.

Ed Cross, president of the Kansas Independent Oil & Gas Association, said most oil producers in the state seem to be waiting until the first of the year before making decisions.

“I would say like everybody, we are concerned,” he said.

Refinery economics

One clear signal from the decline in crude oil prices is that for refineries, it doesn’t much matter whether prices are high or low.

Look at it this way: Does a grocery store decide to forgo its usual profit if the wholesale price of oranges suddenly takes a dive? Although retail prices for oranges might drop a bit, the grocer will be able to protect its profit.

Similarly, refineries “are in an entirely different position than oil producers,” said James Williams, an analyst for WTRG Economics.

Indeed, they can even make more when crude oil prices decline. In the quarter ending Sept. 30, HollyFrontier saw its refinery margins climb 47 percent. Company CEO Michael Jennings defends its dividends as part of the company’s “continued commitment to returning cash to shareholders.”

The energy boom of the last few years in places such as North Dakota, which saw a huge increase in oil production because of fracking, also reshaped refinery economics. The state’s oil hasn’t been able to easily reach the Gulf Coast, the country’s largest complex of oil refineries. There hasn’t been enough transportation capacity, although that is changing.

That left refineries in places like the Midwest to gobble up the cheaper oil, while the Gulf refineries were left to rely more heavily on more expensive imported oil.

With the world price of oil continuing to decline, refineries in regions such as the Midwest and Rocky Mountains still have some advantage in cheaper crude.

The trend by refiners to export more diesel is also drawing critics, who say it allows refiners to curb supplies in the United States and raise prices.

Industry officials say the exports come from refineries running at higher and more efficient levels, which helps moderate any price increases.

But Tyson Slocum, director of the energy program at Public Citizen, said that “the way to (raise diesel prices) is to expand the market internationally.”

And there was no question, he said, that increased diesel exports “are having a significant impact.”

To reach Steve Everly, call 816-234-4455 or send email to