Oil price fall spells uncertainty for Korean refiners

Korean refiners -- among the major beneficiaries of a prolonged drop in oil prices this year -- are facing an uncertain profit outlook as the recent price decline is expected to have driven up their inventory-based losses.

The country’s major oil refiners are forecast to see their net operating profits exceed 5 trillion won ($4.4 billion) this year, thanks to high refining margins linked to low crude import prices and heightened global demand for oil products.

At the same time, industry watchers say the sharp decline in crude prices may have hampered their profitability in the fourth quarter, as refiners were pushed to sell their products at below input costs, with market prices falling after to crude was bought at higher prices.

As of 2014, SK Innovation, the segment leader, processed 1.11 million barrels a day, while GS Caltex processed 775,000 barrels, S-Oil 669,000 barrels and Hyundai Oilbank 390,000 barrels. Together, the four refiners reportedly process around 2.5 million barrels daily.

Because it takes around 25 days for crude shipments to arrive from the Middle East to Korea, refiners keep around 25 times as much crude as their daily production output in their stockpiles -- or some 62.5 million barrels.

When crude oil prices drop heavily, as they have in recent months, refiners face significant valuation losses on stockpiles purchased at a higher price ahead of delivery.

So for every $1 drop in crude oil prices, Korean refiners lose a total of around $62.5 million, or around 65 billion won, in inventory value.

Dubai crude, which makes up around 80 percent of Korea’s total oil imports, fell to $31.83 per barrel on Dec. 24, the lowest level in 11 years, according to the Korea National Oil Corp. It reflects a drop of around $7 from Nov. 27 ($40.37) and $14 since Oct. 1 ($45.92).

Accounting for such oil price fluctuations, refiners may have posted inventory losses of some 455 billion won this month, or some 910 billion won since October.

Crude prices are forecast to further plunge in the months ahead, as the U.S. newly begins exporting its oil, OPEC members have refused to cut production, and Iran will resume oil supplies after U.S.-led sanctions are lifted, perpetuating a global oil glut.

“Financial stress may prove too little too late to prevent the market from having to clear through ‘operational stress,’ with prices near cash costs to force production cuts, likely around $20 a barrel,” Goldman Sachs said in a report released after the OPEC decision this month.

Though falling oil prices are expected to benefit the local refining sector in terms of import costs and product demand, some market analysts cite concerns that sudden price falls may cause large-scale inventory losses.

“Amid a decline in oil prices (which have been a boon for the industry), Korean refiners are faced with a burden of high input costs in the fourth quarter, particularly in December,” said SK Securities analyst Son Ji-woo. “We will have to wait until the end of December to determine the profitability of the (Korean) refining sector.”

Meanwhile, refining margins -- the final profit that refiners can take away by processing one barrel of crude into commercial oil products -- have generally remained high throughout the year and is expected to stay positive next year.

As low oil prices have raised demand for oil products, local refining margins have stood at an average $7.7 this year, the highest since 2011, peaking at $10.70 in November. A margin of around $4 is widely considered the break-even point for Korean refiners.

SK Innovation, the industry leader, GS Caltex, S-Oil and Hyundai Oilbank have already posted combined operating profits of 4.05 trillion won from January to September, according to their regulatory filings.

By Sohn Ji-young (jys@heraldcorp.com)