Valero Energy Corp. agreed to sell a Delaware refinery on Thursday for $220 million—just a fraction of what it paid for the facility five years ago—in a sign of the increasing intersection of local politics and petroleum.
Key to the sale was financing, worked out among state politicians and the buyer, PBF Energy Partners LP, that will allow the money-losing refinery to reopen instead of being scrapped.
Politicians want to preserve jobs at a time of high unemployment. But industry officials say there is too much refining capacity as rising fuel economy standards as well as increased ethanol use may have permanently dented gasoline consumption.
Pressure to keep refineries running amid the worst slump in the industry in a generation can have a twofold impact on the oil sector. It can mean lower profits for oil companies, but it can also keep gasoline prices lower than they would otherwise be.
"The ultimate beneficiaries are the consumers," said Phil Verleger, a University of Calgary business professor.
The San Antonio-based Valero acquired the Delaware City refinery in 2005 when it bought Premcor Inc. for $6.9 billion in cash and stock. Industry consultants say the deal valued the facility at about $1.9 billion.
But last November, Valero was forced to shutter the facility, citing low margins and high costs. The 54-year-old refinery was losing more than $1 million a day, according to financial filings. Valero was preparing to take it apart until Delaware Gov. Jack Markell stepped in over the past couple months to orchestrate a deal, offering financial incentives and applying pressure to Valero, the buyers and the unions to stay at the negotiating table.
In the end, they worked out a way for Thomas O'Malley, the former chairman of Premcor and now head of the private-equity backed PBF, to buy back the facility.
Mr. O'Malley said he expects Delaware City to make him money. "I tend to buy refineries in terrible times and hold on to them until good times," he said.
Still, government involvement to keep refineries open could end up prolonging the downturn in the refining sector. More red ink than gasoline is flowing out of refineries in recent months. Refineries along the East Coast refineries ran only 62% of the time in December, the lowest level since the federal government began keeping records in 1985.
"Margins have bottomed out and there needs to be a correction. Demand is gone and not expected to return," said Nathan Schaffer, director of downstream for consultant PFC Energy. In a recent report, he estimated that 56 refineries—or about 13% of refining capacity in North America and Europe—will likely close by 2013.
In February, Sunoco Inc. said it would permanently close a northern New Jersey refinery. A month later, Chevron Corp. announced layoffs and plans to shed refineries in Europe.
But with current high unemployment rates, politicians have moved swiftly to preserve high-paying union jobs. Royal Dutch Shell PLC's plan to close its refinery in Montreal has met with stiff resistance. A rally late last month drew 900 people to the refinery gates, as well as politicians from all major parties.
In Delaware, the governor, Mr. Markell, reached out to Valero Chief Executive Bill Klesse, asking him what needed to happen to cause him not to close the refinery, with its 550 full-time union jobs. "If you can change the oil markets you can help, but otherwise you really can't help," he recalls being told at the time. A Valero spokesman confirmed that Mr. Klesse has made statements along those lines.
The governor turned to Mr. O'Malley, who had considered buying back Delaware City last year, but the talks went nowhere. Valero said it tried unsuccessfully to find a buyer for a year before closing the refinery.
At one point in January when talks had stalled, Mr. Markell called Valero's Mr. Klesse and asked for more time to work out a deal before dismantling began. The governor says he read Valero's own annual report to the CEO. "You say you are about communities. This community is devastated, there is no way back," he said. Mr. Klesse agreed to give talks more time, according to Mr. Markell. A Valero spokesman didn't comment on this exchange.
Eventually, Mr. O'Malley upped his offer, according to someone close to the negotiations. The state also agreed to provide $20 million in a zero-interest loan to PBF that will convert to a grant once the refinery is reopened next spring and a $10 million grant for pollution control equipment. Delaware also offered about $400 million in industrial revenue bonding authority to allow Mr. O'Malley to purchase new equipment that would allow it to process less expensive sour crude from Brazil and Iraq.
Another key to the sale was the unions agreeing to provide flexibility on work rules to allow PBF to install more automation and process-control equipment, said Mr. O'Malley. He said he expects to employ about 450 union workers when it reopens, an 18% reduction.
Still, the deal saved the loss of even more workers. "People are going to be using petroleum-based products for decades to come. As long as they are using them, I want Delaware workers employed in good paying jobs to make those products," the governor said.‹
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