Delta expects immediate payoffs through oil refinery acquisition

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Published: May 2, 2012

Delta Air Lines 737-900. Courtesy, Boeing

Delta Air Lines (DL) anticipates its US northeast operations will easily take up all the fuel available from the oil refinery that the carrier is purchasing and that payoffs of the daring strategy will be almost immediate.

DL announced Monday that its Monroe Energy LLC subsidiary is acquiring an idled Pennsylvania refinery in a $ 180 million deal that includes $ 30 million state assistance from Pennsylvania.

The deal is expected to be completed by end of June and has been described as a smart strategy by one expert who tracks oil market issues for airlines.

“Essentially the supply of incremental gasoline and jet fuel to the Atlantic coast is being monopolized,” Philip Verleger, president and owner of energy and commodity consulting firm PKVerleger LLC told ATW . “By buying this refinery, Delta escapes that and leaves the other airlines at the mercy of very few incremental suppliers.”

The Phillips 66 refinery complex in Trainer, Pa., including pipelines and transportation assets, has crude oil processing capacity for 185,000 barrels per day and Monroe will invest an additional $ 100 million to convert existing infrastructure to maximize jet fuel production. A DL spokesperson told ATW that its Northeast operations will “easily take all fuel we’ll produce at this point in time.”

Production at the refinery, along with multi-year agreements to exchange gasoline, diesel, and other refined products from the refinery for jet fuel, will provide 80% of DL’s jet fuel needs in the US, the carrier said.

Monroe, a wholly owned unit that DL created in 2011, began talks late last year with Conoco (now Phillips 66).

Jet fuel production is expected to begin during the third quarter, resulting in 2012 fuel savings of more than $ 100 million. DL’s consolidated fuel bill last year was $ 9.73 billion, a 28% jump up over 2010 fuel costs. Average fuel price per gallon for the full year, including fuel expense incurred under contract carrier arrangements, jumped 31.3% to $ 3.06.

“Savings will be immediate when we get the plant making jet fuel for us because we capture the ‘crack spread’—the markup that refineries charge airlines for jet fuel. We won’t pay that for fuel we get from Trainer,” a DL spokesperson told ATW .

He described Trainer as “a piece in a total fuel management strategy for us that includes careful procurement, smart hedging and now a production asset. We think Trainer will not only save us money on crack spreads, but also give our hedging efforts more effectiveness since we’ll be bringing physical product to the table.”

“Acquiring the Trainer refinery is an innovative approach to managing our largest expense,” DL CEO Richard Anderson said. “This modest investment, the equivalent of the list price of a new widebody aircraft, will allow Delta to reduce its fuel expense by $ 300 million annually and ensure jet fuel availability in the Northeast.”

Verleger said the move could be enormously profitable for DL. “It’s a logical extension to what the airline industry has been doing,” he said. “The airline industry has gradually taken over the management of its own fuel supply, saving itself billions over the years … this is the next logical step.”

It will also allow DL to “build a fortress hub in New York,” he said. “The way the airlines survive is to build really impregnable hubs. What it is going to do is give [DL] a huge cost advantage over all the other carriers operating in New York.”

Under a three-year agreement, BP will supply crude oil to be refined at the Trainer facility, where DL will employ approximately 400 people. Monroe will report to a board of directors that includes officers from DL. The fuel management team currently reports through finance to DL CFO, Paul Jacobson.

“We expect the Trainer acquisition to be accretive to Delta’s earnings, expand our margins, and to fully recover our investment in the first year of operations,” Jacobson said. “We look forward to closing this transaction and moving quickly to begin capturing its benefits.”

Monroe said it will now enter strategic sourcing and marketing agreements with BP and Phillips 66.

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