ATLANTA/HOUSTON: Delta Air Lines Inc is bringing some jet-fuel production in house, breaking with US carriers’ reliance on outside providers, by acquiring a refinery that Phillips 66 had targeted for shutdown.
The world’s second-biggest airline will pay $180 million for the complex in suburban Philadelphia, according to a statement yesterday.Pennsylvania’s state government is putting up $30 million in assistance to defray the expense.
An airline-owned refinery is an experiment in the US industry, said Ray Neidl, an airline analyst at Maxim Group LLC in New York. Atlanta-based Delta estimated the accord will save $300 million on its annual fuel bill, which was $11.8 billion last year, or about $32 million a day.
“Nothing ventured, nothing gained,” said Neidl, who has a buy rating on Delta shares. “Delta likes to try new things and I’m sure they studied this for months and ran the calculations. Nobody has done something quite like this before.”
Delta is buying the refinery in Trainer,Pennsylvania, through a subsidiary called Monroe Energy LLC, a nod to the airline’s original headquarters in Monroe,Louisiana. Trainer will add to earnings, boost margins and allow the airline to recoup its upfront investment in the first year, Chief Financial Officer Paul Jacobson said in the statement.
Delta fell 1.5% to $10.80 late yesterday in extended trading. Phillips 66 begins trading today after the pipeline- and-refining company’s spinoff from Houston-based ConocoPhillips. The new company also will be based in Houston.
Trainer can refine 185,000 barrels of crude per day, and Delta said it will spend $100 million to convert the refinery to maximize production of jet fuel, of which the airline consumed 3.86 billion gallons last year.
The plant had been idled for months, and without a buyer it would have been closed by the end of May because tighter profit margins are squeezing East Coast refineries. Sunoco Inc. and Valero Energy Corp. are among companies also shutting or planning to sell refineries along the US East Coast, inEuropeand the US Virgin Islands as oil prices rise and demand wanes.
BP Plc will supply crude oil to be refined at the Trainer refinery, and Delta said it will exchange gasoline and other refined products for more jet fuel through multiyear agreements with BP and Phillips 66.
Delta estimates that refining costs account for $2.2 billion of its fuel bill, and those production-related expenses are the fastest growing at the airline, Chief Executive Officer Richard Anderson told reporters yesterday on a conference call.
The deal also will help ensure jet-fuel availability at important Delta hubs, includingNew York’s John F Kennedy International and LaGuardia airports,Andersonsaid. “We have had this matter under study for the better part of the year,”Andersonsaid. “It was clear we needed to exert much more control over the supply chain.”
Delta’s purchase was also “driven somewhat by the alarming rate of shutdowns” of refineries in the northeastern US, President Ed Bastian said.
Fuel accounted for 36% of Delta’s operating costs last year. Delta has hedged 70% of this quarter’s fuel needs pegged to prices at $3.05 to $3.40 a gallon, according to data compiled by Bloomberg.
One challenge for Delta may be showing that it can operate the Trainer refinery more profitably than its previous owner did.
“You do have to question a little bit Delta management’s thought that they can run it better than ConocoPhillips,” said Kyle Cooper, director of research at Houston-based consultant IAF Advisors. “They’ve hopefully done their work and their analysis that says that this hedging cost is going to be lower than their current hedging cost.”
Cory Garcia, an analyst at Raymond James & Associates Inc inHouston, said letting the Trainer plant close might have been a better outcome for the oil industry, which is adding refining capacity outside theUS.
“What you need to see is these less-profitable refineries come out of the market, shut down in order to rationalize or balance the overall supply-demand equation,” said Garcia, who rates ConocoPhillips as market perform.