The downstream segment of the Oil and Gas Industry:

The oil and gas industry has segments like upstream, midstream and downstream. In this article, let’s look at the downstream segment of the industry. In order to understand the downstream segment of the oil and gas industry, one needs to understand the following:

  1. What is downstream – the business characteristics. This deals with what are the typical characteristics of the downstream segment of the petrochemical / oil and gas industry.
  2. Overview of refining. This is needed to understand how refining exactly works and how are some of these end-products obtained.
  3. Including products and participants deals with understanding about oil and gas end-products and who all are the stakeholders in these businesses.
  4. End user consumption is about how these end-products are actually used and what kinds of end-users buy these products.
  5. Wholesale and retail marketing is about the methods to reach out to the market and sell these products on wholesale as well as retail level.

 

  1. What is downstream – the business characteristics

The processing of crude oil and the transportation and sales of the refined products is classified as the downstream segment of the oil and gas industry. Some of the key business sectors are:

  • Refining of oil. This is about processing
  • Supply and trading
  • Wholesale and retail product marketing

 

Effectively, the downstream industry is what provides all end-products to the customers around the globe.  A lot of us are aware of many of these products such as diesel, jet fuel, heating oil, asphalt and gasoline. Some other products which are not very common are synthetic rubber, plastics, lubricants, fertilizers, pesticides. These petrochemicals are what are distributed through the downstream segment of the business. The downstream segment of the business has four key characteristics:

  • Complexity – The process in these cases is fairly complex. These businesses are very inter-linked with each other and create a fairly complex eco-system.
  • Global Perspective – None of these products are sold only in the domestic markets so any one in this line of business has to have a larger overview and a global, broader perspective.
  • End-user focused – The focus on the end-user is paramount in case of these products because these products are to be used by the end-consumer.
  • Margin business – These businesses are based on margins. So the higher the margins can be, without increasing the prices very significantly, the more the downstream businesses are successful.

 

 

Drilling Deeper:

Most of the downstream segment is a business of margins. The difference between the prices that are realized for the products and the cost of the raw material is what is defined as a margin. In this case, the margin is the difference between the price of petrochemicals and the cost of the crude oil.

In this business, while the price of crude does establish the absolute level of the prices of products, it however, may or may not affect refining margins or the margins of marketing. This effectively means that with a fluctuation in the prices of crude, the margins tend to increase or reduce.

For instance, the margins in downstream tend to be squeezed or reduced, when the prices of crude increase and cannot be recovered in the market place. On the other hand, the margins tend to increase or hold, when the prices of crude drop and the marketplace doesn’t adjust to these prices at a pace that’s fast enough. In such cases, the final sales point of the end products remains the same, while the crude prices are low, hence the margins increase / hold.

This segment is fairly complex and has multiple activities going on together. It is also interesting to know how various activities like refining, distribution, packaging, and wholesale as well as retail marketing of petrochemicals interplay with each other in the business segment.

The downstream segment needs a global perspective since the energy supply chain is fairly global in its perspective. It is important to note that the supply and demand create an impact on both product prices as well as feedstock.  So unless one has a global perspective, it will never be possible to realize the business to its full potential.

About Refining:

Crude oils are not uniform. They are instead a mixture of hydrocarbons. Hydrocarbons are organic compounds and are found in thousands in any given mixture of crude oils. Each component of each different compound has its unique physical and chemical properties like boiling temperature, weight, molecular size etc.

It is the job of refineries to convert crude oil into a variety of useful products via different processing units. These numerous processing units use pressure and heat to separate the products. The resulting products of petroleum are often classified as heavy, medium or light petroleum products.

For instance, light petroleum products include LPG (Liquid Petroleum Gas), Gasoline and Naphtha. Each of these is used as a solvent or paint thinner.

Medium products on the other hand are called middle distillates. They include kerosene, related jet aircraft fuels as well as diesel fuel.

Similarly, heavy products include lubricating oils, fuel oils, asphalt, tar, paraffin wax and petroleum coke.

So, effectively, refineries convert crude oil into a variety of useful products.

Some Key Participants in Downstream Segment

Downstream participants include marketing as well as refining divisions of the major oil companies as well as independents that work in the integrated oil segment.

Some of the Global Integrated Refiners in this business are:

  • Chevron
  • Shell
  • ExxonMobil
  • BP
  • Total

Some Major Independent Refiners in the USA are:

  • Tesoro
  • Valero
  • Sunoco

Often independent refiners have a chain of service stations, and these service stations market their products. The only thing that makes these refiners independent is that they have no E&P upstream operations. They work only downstream and accordingly, create business value for the end-user and the marketplace.

End User Consumption

This is the most significant and the final characteristic to be discussed. The end-user consumption is very important and impactful for any downstream business. It is so, because at the end of the day, it is only the end users or customers that give the downstream businesses ultimate value for their ouil and gas products. For instance the most widely known product refined from crude oil globally, is gasoline. If there were no end-users to purchase Gasoline, these businesses would not work at all.

Similarly, some of the most globally bought and required products are fuels like jet fuel, diesel and marine fuel oil. The fuel products for transportantion are very important since they account for 65 % of the demand globally. It is interesting to see that the downstream industry touches every consumer even apart from these fuels.

Additional processing of crude oil produces lubricants, waxes and products with specialty, such as high quality oils. These oils are often used in cosmetics and medicines. So while the sales may be B2B, the fact is that the end product affects the end-consumer.

Similarly, the raw materials from the downstream are used as feedstock. This means these raw materials are procured from crude oil for additional processing in the petrochemical industry. The production of thousands of additional products such as plastics, nylon, polyesters, synthetic rubber, fabric, anti-freeze, pesticides, fertilizers, pharmaceuticals and more, is dependent on this feedstock. If not for this raw material, so many of these products, upon which human life thrives, couldn’t be produced and provided to the end-user.

Last, but not the least, product marketing is the business of supplying and finding customers who either have the internal demand for refined fuels. Or those distribution networks which reach out to the retail customers via wholesale methods. The larger consumers that consume energy products directly often include industrial and petrochemical manufacturers. They also include municipalities, utility service providers, or trucking fleets. Airlines, for instance form a major segment in this section. Similarly, there may be other companies that may possess assets or branded sites for distribution of these products and reaching out to retail customers.

In short, the downstream business segment is a fairly significant segment of business in the Oil and gas industry and it impacts more lives than most people can imagine. However, it is also very complex due to the various steps, the huge range of products it sells and the vast variety of both B2B and B2C end-users that consume its products. Hence, if you decide to invest in this segment, you should have a detailed understanding of not just the industry, but also on how the market place works.