As the shipping industry prepares to implement tough International Maritime Organization (IMO) norms in the new year, refiners’ hopes of generating higher revenue from diesel sales look dim against what was anticipated a year ago. Refiners are attributing this to a slowdown in fuel demand.

Under regulations issued in October 2016 by IMO, the marine sector must reduce sulphur emissions by 80% by switching to lower sulphur fuels. Sulphur content in marine fuels will have to be reduced to 0.5% from the present 3.5%. Higher sulphur content in fuel is a major contributor to air pollution.

There are essentially two ways to do this: one, to clean up fuel oil by installing scrubbers—also known as marine exhaust equipment. But Indian refiners do not produce much fuel oil. The other alternative to high sulphur fuel oil is diesel, the Indian refiners’ preferred option, and the reason they anticipated an increase in diesel demand.

High-speed diesel of the kind produced by Indian refiners have reduced level of sulphur as necessitated by the Bharat Stage emission standards. Hence, the new IMO rule was expected to boost the gross refining margins of refiners such as Reliance Industries, Nayara Energy, Indian Oil Corp. Ltd, Bharat Petroleum Corp. Ltd and Hindustan Petroleum Corp. Ltd. But in the absence of a global recovery in oil demand, analysts anticipate that gross refining margins would remain suppressed for a few more months. Anticipating higher diesel demand post mandatory implementation of the new IMO norms on 1 January, refineries across the world added capacity. Demand, however, has not kept pace.

Higher demand was expected to improve diesel’s ‘crack spread’—the difference between the price of crude oil and petroleum products extracted from it—to as high as $20-30 a barrel by FY21.

Consumption of diesel as a marine fuel is expected to increase from 0.75mnbpd (million barrels per day) to 3.3mnbpd in 2020. This would result in additional demand of 2.6mnbpd of diesel. Since refineries may not be able to meet this incremental demand due to limited refining capacity, it may lead to a spike in diesel margins racks, ultimately improving overall refining margins.

“Since we don’t make fuel oil, we are in an advantageous position. We get the benefit of IMO if the gasoil (petrol) prices go up; then you expect better economics which everyone expected for gasoil cracks to be substantially higher," said B. Anand, CEO, Nayara Energy.

Fuel oil, also called furnace oil, is another by-product of crude oil distillation. It is used in ships, power plants and other industrial plants. Diesel typically forms 40% of the output for a complex refinery in Asia—45% for RIL and refineries at Paradip (IOCL), Bina (BPCL) and Bhatinda (HPCL). Gross refining marginsat such plants could improve by $4-6 per barrel from next fiscal.

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