European downstream mergers and acquisitions trends 2014 - 17
Higher downstream M&A activity follows years of rationalisation
Rationalisation of European downstream assets: 2009-14
The year 2008 marked more than just the start of the global financial downturn, it was also the year the European refining sector embarked on a period of structural change. This shift was the result of reduced demand for fuel during the financial downturn, in particular for motor fuels – the main products of European refineries.
This lower demand had an adverse impact on both European utilisation rates and refining margins. Utilisation rates declined from around 85 per cent in 2006 and 2007 to roughly an average of 75 per cent from 2009 to 2014. In addition, competitively priced Asian, Middle Eastern and US refined products from more modern and larger refineries added to the pressure on the European downstream market. As a result, the North West Europe Sweet Cracking refining margin, which hovered around the $5/bbl mark between 2005 and 2008, remained stubbornly below the $5/bbl mark between late 2008 and 20121.
Industry response to the weaker market conditions was to close down or convert the less efficient and less complex refineries into storage. The number of European refineries dropped from 111 in 2009 to 90 in 2017, with more than half either closed or converted between 2011 and 20142. This was also the period during which refining capacity was sharply reduced, with total capacity falling from 15,018 mbopd in 2011 to 13,618 mbopd in 2014, a drop of eight per cent.
The retail sector showed a similar trend across Europe after 2008. Depressed demand put pressure on international oil companies in particular to reassess their European service station portfolios, resulting in the closure of 4,573 service stations by household names such as BP and Total between 2007 and 20123. These closures mainly affected rural areas. However, the rationalisation of service station portfolios by large international oil companies provided an opportunity for independent retailers, including supermarkets, to grow their market presence and increase profitability of the sites by improving their convenience services.
Stabilisation of downstream assets led to increased M&A activity between 2014 and 2017
Following the period of refinery and service station rationalisation in which the European downstream market retired its least efficient assets, the sector has remained relatively stable since 2014. The rate of refinery closures slowed with five refineries totalling 321 mbopd of capacity being decommissioned between 2014 and 20174.
While at a slower pace since 2017, intense retailer competition continued to reduce the number of service stations in Western European countries with well-developed networks, such as the UK, Italy, Belgium and France. However, service station networks have expanded in other parts of Europe including Spain, Portugal and Poland, not only offsetting the Western European closures, but also slightly increasing the overall European service station numbers over the past three years5.
Improved global economic activity also led to higher demand for oil products in 2017 which, combined with the still relatively low oil price environment, increased profitability in the sector6. For example, the Rotterdam Complex refining market rose from $2.5/bbl in 2016 to $4.3/bbl in 2017.
M&A activity benefitted from the decommissioning of the least efficient and least complex refineries and improved market economics. Between 2015 and 2017, the value of M&A transactions in the European downstream sector was consistently above $3 billion, although it gradually declined from its 2015 high of $3.9 billion to $3.1 billion in 2017 (see Figure 1)7.
The number of service station deals accounted for the largest portion of transactions - 13 out of 31 deals, or 42 per cent - between 2014 and 2017. In terms of value, service station deals made up 36 per cent of transactions over the same period.
Figure 1. Downstream M&A deals: value and number of deals (2014-17)
Source: Derek Petroleum Services
Since 2014, only four terminals/storage facilities have been sold (in 2015 and 2016 - none in 2017), but their combined value of $2.6 billion was significantly higher than the $1.5 billion in refinery sales (see Figure 2). However, as part of corporate sales, where refineries were part of corporate packages, stakes in at least 12 refineries exchanged hands between 2014 and 2017.
Figure 2. Downstream M&A deals: Deal values by sector (2014-17)
Source: Derek Petroleum Services
The change in ownership type of downstream assets continued after 2014. More integrated oil companies, such as Shell, Total, Repsol and ExxonMobil, sold multiple assets to rationalise their European asset portfolios. Buyers included traders such as Vitol and DCC, investment funds such as the Macquarie Group and downstream specialists, such as Borealis and Buckeye Partners.
Looking ahead, the anticipated introduction of stricter environmental regulations and a shift in the demand pattern for motor fuels are expected to influence refinery profitability across Europe. Motor fuels (diesel/gasoil and gasoline combined) accounted for 59.2 per cent of total European refinery output in 2016 and are likely to experience a decline in demand as a number of European nations (the UK, France and the Netherlands) impose restrictions and bans on diesel and gasoline vehicles8.
Moreover, the trend towards electric vehicles and fuel efficiency is expected to add to the pressure on motor fuel demand. BP forecasts that EV adoption is projected to cut 2.5 million barrels/day of oil demand by 20409.
Refining margins also face pressure from the offshore fuel supply market with the changes in bunker fuel specifications to be implemented in 2020, requiring shipping to use lower sulphur fuels. Production of low sulphur content marine fuel will require investment in refinery production capability upgrade. In addition, there is likely to be demand pressure as some shippers consider converting to alternative fuels.
The combination of these trends means that refineries are likely to experience margin pressure due to supply-demand mismatches, as well as a need for capital investment. However, refiners and investors who see opportunities in current market dynamics and have the flexibility to respond to such pressures are likely to have a competitive advantage.
Undoubtedly, there will be further consolidation and rationalisation of downstream assets in response to the pressures that changes in environmental policy, shifting demographic dynamics and overseas competition have on fuel demand patterns. Nevertheless, reports of investor interest and early announcements of deals suggest that M&A activity in the European downstream sector is one to watch in 2018.
5European Petroleum Refineries Association - Statistical reports 2015, 2016 and 2017.
7Downstream in the Derek Petroleum Services database includes the European Refining, Retail and Marketing, Terminals/Storage and diversified sectors. Data accessed on 4 January 2018.