Energy and Climate Change Committee - Minutes of EvidenceHC 340

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Oral Evidence

Taken before the Energy and Climate Change Committee

on Wednesday 12 June 2013

Members present:

Sir Robert Smith (Chair)

Dan Byles

Barry Gardiner

Ian Lavery

Dr Phillip Lee

Mr Peter Lilley

Albert Owen

Christopher Pincher

John Robertson

Dr Alan Whitehead


Examination of Witnesses

Witnesses: David Blakemore, Director General, Phillips 66, Andrew Gardner, Grangemouth Refinery Commercial Manager, Petroineos, Volker Bernd Schultz, CEO, Essar Oil, and Chris Hunt, Director General, UKPIA, gave evidence.

Q1 Chair: Thank you very much for coming to give evidence to us. Please could you, just for the record, give your name and organisation, starting on the left?

David Blakemore: David Blakemore, Phillips 66 Limited.

Andrew Gardner: Andrew Gardner, Petroineos.

Volker Bernd Schultz: Volker Schultz, Essar Oil (UK).

Chris Hunt: Chris Hunt, UKPIA.

Q2 Chair: Before we start I must remind the Committee of my entry in the Register of Members’ Interests to do with the oil and gas industry and, in particular, a shareholding of Shell. Perhaps we could start with your assessment of what you think the main causes are for the decline in UK oil refining.

Chris Hunt: I will start if I may. The main causes for refineries being reduced from 16 in 1970 down to the current seven, up until recently, have been competitive and economic rationalisation of refineries and competitive pressure and so on. It is only recently, with the demise of the Coryton Refinery in Essex, that the cause of that was financial issues in the Petroplus group. Thus far it has been very much a matter of economies and of competition, but going forward, as we have set out in our response to the Committee, the issue is very much the extreme pressure that is going to come from the entire legislative burden on the refining sector in addition to the normal competitive issues.

Can I make very clear to the Committee that you do need refineries somewhere? Crude oil in itself is not much use as a product for consumers, so refineries need to be somewhere, and I guess the basis of our argument is we think there should be refining in the UK as part of that. In our list of asks to Government and our work with the Department of Energy and Climate Change, we are not asking for subsidies. We are not asking for guarantees. We are merely asking that these fine refiners can enter the competitive boxing ring of global competition with both arms free to engage in a fair fight with their competitors and are not hamstrung by the gross amount of legislation we see before us.

Chair: Is that the view of the rest of the panel?

Andrew Gardner: Yes.

David Blakemore: Yes.

Volker Bernd Schultz: Yes. The fundamentals of demand/supply are the big driver, have been the big driver and will continue to be the big driver, such that we will probably still see some further refinery closures in Europe. That might be expected, but the danger is that additional environmental legislation will be put on European refiners that will not impact other refiners globally and will not improve the environment, and that those impacts will be very material, in which case more refineries will have to close and good refineries will have to close. I think that would be very detrimental not only to the environment but also to resilience of sourcing product for the consumers in the UK.

David Blakemore: I would like to build on what Chris Hunt has mentioned. It is a global business. The trade in oil and oil products is a global trade, and so the question is: how do UK and European refineries stand within that global picture? The general demand trend within UK and Europe, and indeed the US, has been a decreasing requirement for petroleum products driven by a number of factors, and the opposite is true in countries like China and India where there is a building demand for petroleum products. The question is how that balance is being met by refining around the world. Within Europe we have some advantages and disadvantages, but versus refineries in America and the Middle East we do have a higher cost base from energy, which is important to us, which is a disadvantage to UK and European refineries. The question is how to balance that with the cost of legislation and making sure that we are not overburdened by that while continuing to improve the standards of air quality, which are important to us all.

Andrew Gardner: I think I agree with all my fellow panellists. The only thing I would say is that I think there are two lenses through which we need to look at this. There is European legislation for the whole European refineries versus the rest of the global supply and demand picture, and then there is also UK legislation that goes beyond European legislation and tightens the UK refineries even further.

Q3 Mr Lilley: I did not understand all that. Are you saying that the supply of refining capacity in the UK has fallen in line with demand? Our understanding was that it had fallen further than demand. Has that happened equally across Europe? If it has happened more in the UK than Europe, what does that tell us about the situation in the UK versus Europe?

Chris Hunt: The issue you raise is quite right. If you look at the capacity of UK refining versus the overall demand in simple terms, it is more than adequate.

Mr Lilley: In the UK?

Chris Hunt: In the UK-

Mr Lilley: Still more than adequate?

Chris Hunt: -and likely across Europe. But when you break down the components, because of the change in the product mix between petrol and diesel, which is one of the biggest drivers, then we make too much petrol in our UK and European refineries and not enough diesel and aviation fuel. Hence the supply position for those two particular key areas is well below 100%, essentially. I think it is about 56% and 48% from memory. If we lose more refineries, then that critical situation will get worse.

We looked at what would be the correct level of refining for the UK, and, when you look at it, there is no clear answer. There is no guaranteed answer. However, we did find in a model published by the international energy agency called MOSES, which looks at supply and demand, that they pitch that if your dependency on imports is above 46%, then it is something you should take very seriously. Currently we are getting near that or at that. If we lose further refineries, we will be beyond that.

The simple answer is that the capacity in itself is okay. However, it is making too much petrol and not enough diesel and aviation fuel. We are importing that from Russia and the Middle East, and that gives us concerns. I think it should give us concerns as a nation on those two products.

Q4 Mr Lilley: That can’t be rectified by introducing new cracking capacity or whatever in the refineries? Do we have too much cracking capacity? I don’t know. [Interruption.] Sorry, is that bad?

Barry Gardiner: Don’t worry, Peter. If you had bothered to read your brief, you would have known, but it doesn’t matter. Go on, keep going. You are doing a grand job.

Mr Lilley: They have the answers, not the brief.

Barry Gardiner: You get on with it. You crack on.

Mr Lilley: Thank you very much.

Chris Hunt: I would defer to my colleagues, but the dramatic increase in demand in diesel versus petrol has been fiscally driven and driven by policies across Europe, particularly on vehicle manufacturing, tail-pipe emissions and so on. In the UK specifically, we had a crossing point where diesel was dominant over petrol. Around 2006 the lines crossed. To make any inroads on correcting that, you can do a certain amount in a refinery. You can’t take a barrel of oil and just say, "I am going to make completely petrol or completely diesel from that barrel". There are limitations with processes as to what you can do, but to do any sort of step modification to refineries in the UK you need hydrocracking technology, and that is probably around £1 billion per refinery. Economically that is not really justified, but I will defer to m’learned colleagues who are refiners themselves.

Volker Bernd Schultz: Yes, if I can just build on that. For a refinery like Stanlow, which is the UK’s second-largest refinery, it would be over £1 billion, and the returns would be below the cost of capital. It would have a considerable impact on our diesel and jet make and it would reduce gasoline probably below 20% and diesel about 40%, but with the current margins we would not be able to remunerate that amount of spend, and then there is the additional uncertainty of environmental legislation impact.

I would like to come back to your previous question on importing diesel and jet and the robustness of that. We will always need imports. I think in the UK we will require imports from different regions. The concern in the long run is that the incremental supply of diesel and jet to the UK will be from the Middle East and from Russia. From a robustness perspective, if everything goes well one can import, but if there are supply disruptions I would have a big concern about meeting the product demands of the UK. I think it needs a healthy mix of refineries that have a choice of running crude-and there is a lot of crude around from many countries-and refining that.

Refiners also have a choice of importing, just like the importers have, but to have a good mix is important because if there were an issue in the Primorsk Harbour or the pipeline leading to it, or an issue in the Straits of Hormuz regarding products from the Middle East, if we did not have sufficient cover in the UK and Europe, I think there could be considerable disruptions.

Q5 Barry Gardiner: Let us just try to quantify what this threat is. The IHS Purvin & Gertz report earlier this year said, "Although long-term net refining margins are projected to average around $2.6 per barrel of oil, this masks the huge potential cash impact of additional required capital and operating expenditure." That is the period 2013 to 2030, and they are talking about £11.4 billion to meet UK and EU legislative measures. They talk about a further up to £2.3 billion for the change in product demand. When we are talking specifically about the change in demand profile from petrol to diesel and jet and so on, we are talking about £2.3 billion.

Why is it that your industry has failed to see the impact of the legislative changes and to respond accordingly? Any other industry is keeping abreast of what is going on at a legislative level. They are looking at what the trends are coming down the road and they will be making their capital investments based on the returns that they know they can make given that regulatory structure. Mr Hunt, you said, "We just don’t want our hands tied behind our backs", but what I would say to you is: why haven’t you had your eyes in front of your head?

Chris Hunt: It is a valid point, but if you look-

Barry Gardiner: What, you mean you have not actually been looking forward and scanning the horizon and making the appropriate capital investment at the right time?

Chris Hunt: We have been very cognisant of legislation as it has been coming through and scanning the horizon. However, it comes back to the simple case that we are in a high-volume, low-margin business with high energy costs and high legislative costs. As businesses, you have to see whether there is enough return in the business, and look forward to the legislative burdens you are going to face to make the necessary investment to counter that. Clearly what we have been saying through many years of lobbying on behalf of the industry, and as evidenced in the IHS Purvin & Gertz report, is that this level of legislative burden is unsupportable in terms of the returns you are going to get. It says in the report that average returns on capital employed could sink to as low as 2.2%, and that clearly is not going to get you to the start line for a £1 billion investment to improve your levels of diesel.

Q6 Barry Gardiner: Tell me what it is that is meaning that refineries in this country are not going to be able to cope with EU legislation but that refineries in Belgium or Holland or Germany or France are going to be able to cope better; or are they all going to be on a level playing field?

Chris Hunt: They are all going to be on a level playing field. The latest figures we have from an organisation called CONCAWE, which is a refining technical body-looking at all the future policies across Europe that are known, the effect that that will have on demand, destruction, introduction of products and so on and the supply/demand imbalance-indicate that you can expect an equivalent of the nine largest refineries in terms of size or 40 smaller refineries to close in the period to 2030.

Q7 Barry Gardiner: Let me just explore this scenario a little bit further with you, because if what you are saying is that across Europe all refineries are going to increased costs and lower rates of return, why are they not going to be able to put that on to the cost of their product? Why will that not then translate through to the consumer?

Andrew Gardner: Because the product will come from either the Middle East, the Far East or America, where there are structural differences in legislation but also differences in the economics of refining.

Q8 Barry Gardiner: What you are saying is that the transport costs from the Middle East or America are outweighed by the legislative burden in the EU, such that we will end up getting product shipped in-

Andrew Gardner: There are two parts to that. I think that is correct at the margins. I don’t want to say that is the full cost, but the Middle East will have structural advantages in terms of feedstock, as well as America because of its locked-in crude supply. Normally the price of Texas crude and Brent crude is very similar; $1 or $2 difference. There was a period this year where there was $15 difference because it was locked in in America because of the excess of shale.

Q9 Barry Gardiner: Looking forward, what is your prediction for the structural differential? Projecting the impacts of the European legislation in full and looking forward at what is likely to happen in those other markets, what do you project as that differential-the average going forward from 2030?

Andrew Gardner: The only way I have analysed it is, as in your earlier question, freight costs versus the structural advantage of hydrocarbon, crude and legislation. I think something like three times the freight cost was the structural advantage. It was exactly as you say. People in the Middle East could manufacture and move it into Europe and the UK and still have a $4 or $5 advantage versus us, including the freight costs.

David Blakemore: If I may just add to that, in the written submission to your questions there were many mentions of the new Middle East refineries being built; very large, very efficient refineries with some structural advantages around feedstock. I would just like to build on that. A very recent development has been in the US on the back of the shale gas and shale oil production phenomena. The shale gas has substantially reduced the cost of natural gas in the US. I think it is public information that US natural gas prices are well below half of Europe’s. That is a structural issue, and, for a refiner that does use a lot of energy in its production process, that is a large advantage. It is a structural advantage.

I think there have been public statements on 2012. This is not looking forward, but if an average UK refiner had that natural gas price advantage, it would be worth something like £40 million a year to a UK refinery. That is a structural advantage, and I think Mr Gardner mentioned that on top of that there is a structural advantage appearing, with the shale oil prices being discounted. What that means is that there will be global trade-flows. That is the market, and we have to accept the market. As Chris Hunt said, we are not asking for subsidies or shelter from the market.

On the question of why we haven’t invested in the UK to adjust to the changing supply/demand balance on gasoline and on diesel and jet, you can either invest in the UK to address that at £1 billion-plus per investment-that is not an investment you make lightly-or you have choices to invest in other parts of the world and trade around that imbalance rather than trying to address it from a production perspective within the UK.

Q10 Barry Gardiner: Let’s try to be clear and separate these two out. I think what you are telling me-please correct me if I am wrong-is that the demand profile change would require up to £2.3 billion-worth of investment, but that is investment that is not worth making in plant that you think is going to be uncompetitive anyway because of wider regulatory regimes. Is that correct?

David Blakemore: I certainly would not want to portray a picture that every refinery in the UK and every refinery in Europe is uncompetitive. There is a range of competitiveness within the refineries depending on the historic investment that has been made and the scale, but, even if you have a competitive refinery within the UK or Europe, you have an option: do you want to invest in the UK or Europe in those substantial amounts of money, or, with a finite amount of capital for each company, does that company decide to invest elsewhere?

Q11 Barry Gardiner: It begs the question of whether our regulatory structure is ahead of those other regulatory structures and whether they are likely to catch up. That may go some way to talking about the future that one sees in the market, which has been topical and was on the Today programme earlier today-it was about two thirds of all known reserves having to stay in the ground if we are to meet our target of avoiding dangerous climate change and the stranded assets that may then accrue to the industry as a result. What do you think will be required in the future mix of petrol products for the balance of petrol and diesel in the UK? How is that going to change? What is going to be that future mix?

Volker Bernd Schultz: I think what you will find is that refineries will keep on investing some money into de-bottlenecking units so that you incrementally increase the diesel and jet production and reduce the gasoline. We certainly are spending quite a bit on that. We are re-lifing our refinery as we speak for the next 25 years and spending a lot of money. But to incrementally reduce gasoline and increase diesel and jet, the marginal environment would need to be very different before we could take the risk of spending £1 billion. The bit I would also like to stress is that, if you look at the European refineries, probably two thirds of them are highly competitive even in this international context. If there is a level playing field, they will be competitive and the weakest will close and shut as demand patterns change. That will be a very natural thing.

Q12 Barry Gardiner: Which laws do you want us to do away with?

Volker Bernd Schultz: If there is environmental legislation that is one-sided and very material, so that a large chunk of the European refineries cannot meet their cash requirements any more going forward, refineries that should be more competitive could not carry on operating, and therefore refineries that are much poorer elsewhere in the world will take up the slack. From an environmental perspective, at least in my view, that does not seem like the right thing to do. If there is something that we can drive globally to improve the environmental position, I would absolutely welcome that.

Q13 Barry Gardiner: Given that Christopher Fox suggested that the fuel demands for road transport are uncertain beyond 2030 because of technological innovation and alternative fuels-in fact DECC is suggesting that 65% of the transport fleet will need to be electrified by 2050 to meet carbon reduction targets-how have you factored in those uncertainties in planning the future profile of UK oil refining?

Volker Bernd Schultz: From an Essar Oil (UK) perspective, we are currently planning for the next 25 years. We are investing for 25 years. That is the typical duration before you have to do major re-lifing. By 2030, by all accounts, we believe that probably 80% of the transport fuels will still require oil as the basis. From that perspective, we are doing all the right things to ensure that UK refineries will be competitive and will be doing well.

Q14 Barry Gardiner: Do you think we are going to go from 20% to 65% in 20 years, between 2030 and 2050, to reach the DECC profile of 65% of the transport fleet being electrified?

Mr Lilley: Nobody believes DECC.

Barry Gardiner: That is what I am asking. You don’t, Peter. We know that.

David Blakemore: Maybe I can make a comment. Typically, when you make a large investment, whether it is £1 billion or something-I don’t want to say "smaller", but our industry is very capital-intensive-you take a 15 to 20-year view. That is not to say you do not look beyond 2030. I think we are adjusting our business.

I can talk about our refinery in the UK, which we have had since 1969. We are very proud of it. That is where I started my career. That refinery not only supplies the UK, but we market product almost all around the world. We take product to the US. We take some petroleum products to China. We take to India some specialist products that are non-conventional petroleum products. A UK refinery is not necessarily looked at by my company solely through a lens of UK demand. We are obviously very cognisant of that because that is our home market, but we do look to other areas of the world that are forecast to continue to grow their demand through either economic growth or population drive. But it is a business; we have to obviously have an eye on the future.

Barry Gardiner: I will leave it at that for now and come back to it later.

Q15 Dan Byles: I would like to tease out a bit more the issue of security of supply. It has been referred to by a few of you already. Notwithstanding the changes in the future, at the moment a third of primary energy in the UK is still oil-based products. Over 75% of transport is oil-based products, and the majority of that is still produced in the UK, but we have heard slightly conflicting evidence as to where the security of supply risk might lie. The Downstream Fuel Association have told us that UK refiners’ reliance on sweet North Sea oil represents a risk to security of supply because of the diminishing supply of North Sea oil, whereas Phillips 66 have suggested that it is a high reliance on imports that represents a risk to supply. Those seem like slightly incompatible statements. I would like for you to give us a feel for where you think the balance lies between domestic and imported in order to maximise our security of supply and security of product.

David Blakemore: If I could just make a comment, two or three years ago there was a concern about diminishing supplies of sweet crude. At the end of the day, even in a scenario of diminishing supplies, this is a global market. Diminishing supplies does not mean that supplies to UK and European refiners who rely on sweet crude is in threat; it just means that supply and demand will adjust the price. Very recently, on the back of the explosion in production of US shale oil, they are backing away from their requirement to import light sweet crude. West African producers who have historically looked to the US for their market are now looking elsewhere. That is, for us, an advantage in the UK and Europe.

Q16 Dan Byles: So we will have a more diverse number of sources of light sweet crude.

David Blakemore: Versus maybe three years ago, but even if you take a scenario where there is a declining supply-I must say US shale oil is generally on the sweet side-the market will adjust. It does not mean refiners will wake up and not have anything to process.

Andrew Gardner: My refinery in Grangemouth is on the end of the North Sea pipeline, and there were periods of time when it used to take 100% of its crude supply from the pipeline. With the economics that David talks about now and with minimal investment-it is a structural advantage getting your crude by pipe because the freight is a lot cheaper than by ship-we are now taking significantly more volumes by ship.

Dan Byles: What sort of percentage is the mix?

Andrew Gardner: We are now 60/40.

Dan Byles: 60 North Sea, 40 ship?

Andrew Gardner: No, lower North Sea; as David says, the economics and the supply and demand balance-that very North Sea reliance versus other parts of the world-are part of a daily refiner’s business. They will look at 300 crudes a week and which ones to buy, and as that economics changes or the supply and demand of crude changes you will move. We have moved, historically through the 1980s, from being 100% North Sea to now being 40%, and I believe that will diminish as the quality, price and availability of North Sea crudes diminish.

Q17 Dan Byles: Regardless of whether we refine in the UK, we are going to be importing. The question is-

Andrew Gardner: What you import, yes.

Dan Byles: -whether we are importing in order to refine or whether we are importing the refined products.

Andrew Gardner: Yes.

Q18 Dan Byles: Purely in terms of security of supply, do you see one of those as being more attractive or more secure than the other?

Andrew Gardner: Absolutely. Crude oil is a product that is not the nicest of products, hence why you have £2 billion refineries to turn it into clean products with no sulphur, with no metals, with no impurities. The risk of contamination of crude oil, or messing up crude oil coming in, versus 10 different product streams is absolutely fundamental. You have a scale of crude oil resilience versus multiple-product resilience at much higher specification and much higher requirements. Imports are a key part of this, and I think none of us are saying that imports are the issue. It is about whatever that level is, where they come from and the environmental impact of getting them here, but one thing you have to remember is that imports can arrive in the UK off spec and you need a refiner to bring them back on spec, to take sulphur out or do those sorts of things. On the question you asked, I think crude oil is far more robust and secure than the other products.

Q19 Dan Byles: In terms of security of supply, your view is that importing crude oil and refining it ourselves is the more secure process.

Andrew Gardner: Yes.

Volker Bernd Schultz: The enormity of crude available in the world is there are so many countries, so many qualities. We buy crude from West Africa, from offshore Canada, from the North Sea, from the Mediterranean. It is all there. Once you go down to the product route and you want 10ppm, i.e. basically no sulphur in the product, as we want for environmental reasons in the UK and Europe, then the choices you have to buy that gets much slimmer. The analysis shows that going forward, probably all incremental product will come from Russia or the Middle East. In that sense you are then tied into very limited sources, and if there are any outages then on the refining side in those areas, or geopolitical or weather issues, then we would be at risk in getting those products in.

Q20 Dan Byles: Just how secure are our domestic sources? The Downstream Fuel Association has also told us, "The disruptions in the supply of liquid fuels that have affected the UK in the last 10 years have been overwhelmingly driven by domestic issues and would have become materially worse problems without the ability of importers to effectively respond in times of crisis".

Volker Bernd Schultz: I think the Downstream Fuel Association is correct that supply issues on the crude side typically don’t cause the big issues. If there are refining reliability problems or hurricanes in the US, that is when you get the most problems. I think they are right. The advantage, of course, we have if we have refining in the UK is that we have a choice. We can import or we can run crude. I think the Downstream Fuel Association also talks about the fact that we had an outage early in the year, and, we imported during that phase. It was far more difficult, but you just get logistics and all that going, and our customers, including from the Downstream Fuel Association, were very supportive. We managed that via imports, but it is far more difficult getting the imports going with lots of small parcels and different qualities than getting big parcels in of crude and refining it.

Q21 Dan Byles: But how much of a problem are domestic disruptions? It was not hurricanes in the US they were referring to. They said that UK domestic issues have disrupted the domestic supply of liquid fuels in the UK.

Volker Bernd Schultz: I don’t think there were major problems in terms of outage. We managed to keep the refinery wet by imports, and refineries will always have the choice to import and to refine.

Dan Byles: Maintaining that flexibility.

Volker Bernd Schultz: You need that flexibility, and the UK needs refiners that can do both and importers. We need a healthy mix. There is the danger that if one side of legislation artificially results in additional refineries closing down, such that you have to import so much more, that you are absolutely at the mercy of the import markets only. That is when I would argue resilience becomes an issue.

Q22 Dan Byles: How much of an issue do we think the changing ownership and fragmenting supply chain is? DECC has raised that as an issue, arguing that supply chain security has decreased because there are more links in the supply chain due to fragmentation of ownership. Do you think that is a genuine issue, or do you think that is a red herring?

Chris Hunt: I think from an overall perspective it is a change. We have seen over the years the fully integrated, end-to-end oil companies somewhat retreating from refining in the market-in some cases completely-but it brings a different business model, and some would argue that the fragmentation, if you look beyond the refinery into the retail and commercial areas, might in some ways be a healthy thing. There are far more players; far more people with different models. I do not necessarily think that is the issue.

You do now have, of course, the fact that there is a different business model among many of the refiners in the UK from the integrated oil major that looks at the geopolitical side of life and has very deep pockets. Some of the players now-obviously they can speak for themselves-have a far more immediate response to their shareholders than maybe the majors have had in the past, but that changes things. I don’t necessarily think that is detrimental at all. In many instances it has been something of a bonus that the chain of command is somewhat smaller and responses are somewhat more rapid.

Volker Bernd Schultz: If I can possibly talk for Essar Oil (UK), we understand our refinery, and that is our business. That is what we focus on. The advantage that we have as an independent refiner is our entire focus is on Stanlow. So everything we do is about, "How can I make Stanlow even safer, even more reliable and even more profitable?" That is what we do. That is our business model, and that is it. The concern regarding the fragmented value chain-one bit we are watching closely where that might become a concern-is regarding the monopoly structure of the infrastructure. If we sell our product into England, we have to use a single pipeline. We are not an owner of that pipeline, so we are trying commercially to ensure we have fair access. If that doesn’t work, then we will figure out a way. There you have an example of where the changed value chain might have an impact. We will see how that develops.

The last point that Chris Hunt alluded to was that if there are major investments to be done, as a small independent company, our balance sheet can’t be as robust. We will be going out into the debt market, and we have to put together a business case and say, "We believe in this business. We are going to invest. We are committed for the next 25 years and more. Please provide some funds". That is a slight difference to the integrated who might have might have money they can just-

Dan Byles: On balance sheet.

Volker Bernd Schultz: For us the balance sheet will be tighter, and so we need to have projects where banks will also support us and believe in us; that what we are doing will show the returns.

Q23 John Robertson: I want to talk about the legislative impacts. Phillips 66, Mr Blakemore: you told us that UK legislation that is not applicable to refineries in other countries, is not based on sound science, and/or favours one technology versus others, disadvantages UK refining. Could you expand on that, please?

David Blakemore: Yes. Operating within the European Union, most of the legislation that impacts our industry is EU legislation. I think it is well targeted and it has been, along with the industry, helping the industry to improve its sustainability, decrease its emissions and so on, of which we are very supportive. Where the UK steps ahead of EU legislation, that can be to the financial detriment of UK refineries. One example, which was also in the written submission of my colleague Andrew Gardner, was that the UK went ahead of EU legislation on sulphur dioxide emissions and, indeed, not only went ahead of it but, at least on the latest discussions that are going on in the EU, will be ahead of the next set of EU legislation. That caused my refinery in Humberside to have to build a new unit that cost north of £30 million. That is not to say-

Q24 John Robertson: Sorry. Why was this rule put in place for you? What was the reason behind it?

David Blakemore: It is difficult for me to say why the UK put in that legislation. They obviously wanted themselves to go ahead of the emissions reduction legislation that was agreed within the EU. I want to make it very clear that we are absolutely for reducing the impact of our business on the environment, but there has to be a balance between the cost and the benefit of that. With a finite amount of money to invest in the refinery, sometimes that is best spent on legislation and improving air quality. But, what we would ask of the UK Government, maybe looking forward, is to be more cognisant of those types of issues. We are quite happy on a level playing field with the rest of the European refining industry, but where the UK steps ahead it can have an impact.

Q25 John Robertson: You mentioned the words "unsound science", and talked about it favouring other technologies. Which ones were you talking about, and what is your back-up for that from the science point of view?

David Blakemore: Sound science comes in many respects. It comes in a cost-benefit analysis. With science on its own, you can say, "Well, it is technologically possible to reduce some emissions, therefore, you should do that". I think the UK and EU accept that that is a balance between the cost-benefit of-

John Robertson: So it wasn’t the science, it was cost.

David Blakemore: No, I don’t think so. We would argue that the balance between the benefit and the cost in this particular instance was wrong. Maybe another example is the legislation that is following the Buncefield incident. We all in industry should learn from those incidents and we should all adapt our processes and our equipment to make sure that does not happen again. We are very supportive of the new direction and legislation that is coming out of the Buncefield incident. What we would argue is that it is being crafted in a way that is too prescriptive. Rather than setting a target for the reducing risk and allowing each business to risk-assess how best to reduce that risk, it is being rather prescriptive in saying, "You must install this type of equipment", which is not necessarily the most cost-effective way of reducing the risk.

John Robertson: But is it the most safety-effective way?

David Blakemore: I would argue it is maybe a way that makes it easiest to see whether it has been implemented. I would say it is not necessarily a safer way of doing it.

Q26 John Robertson: The Petroleum Industry Association has suggested, "The capital expenditure and costs related to legislation would largely eliminate the projected refining margin in UK refineries in the period to 2025". What specific pieces of legislation might cause this and why?

Chris Hunt: There are myriad bits of legislation from EU regulatory policy: the Industrial Emissions Directive, EU ETS carbon trading, the Renewable Energies Directive-there is a whole list in the IHS Purvin & Gertz study, which also gives the capital cost, operational cost and cost in dollars per barrel and the extent to which it is felt that it can or cannot be recovered from cost pass-through. That is the basis of our submission, which says that that largely eliminates, or could eliminate, the projected long-term margin available as assessed by IHS Purvin & Gertz.

Q27 John Robertson: I want to go back to what you said at the very beginning, I think to the first question that was asked of you. You said did not need any financial help. Are you saying now that you need extra financial help to top up for this legislation?

Chris Hunt: No, we are talking about this on a couple of fronts-this goes back also to a question posed by Mr Gardiner on what bits of environmental regulation we would like to see removed. We are not asking to remove any. What we are asking for, within the bounds of the regulation that is being considered, is that a proportionate response is looked for in the UK Government’s response to it and the European-level response to it. For example, there is recognition now, I am pleased to say, both by the Department of Environment and Climate Change and also at the European level, of the very severe challenges that refining faces across Europe. Therefore, it was decided that a European refining forum would be established. This came about principally through the effect of the Petroplus administration when five refineries across Europe effectively closed.

Part of the main remit of that refining forum established by the Commission was to look at something called fitness checks, which are an assessment of the effect of current and intended legislation and regulation on a sector. There has been one done for aluminium, and there will be one done for refining. Our problem is with two key bits of EU regulation going through at the moment-something called article 7A of the Fuel Quality Directive and something under the Industrial Emissions Directive called Refinery Best Available Technique reference documents, or BREF documents. If a proportionate view is taken on both of those, an achievable view, it can have a significant impact on the refining industry across Europe. That can happen if the policy is enacted in a way that does not crucify the industry.

Q28 John Robertson: Okay. Maybe I could bring in Mr Gardner here. Petroineos has suggested that the UK gold-plates EU legislation. Do you agree with that?

Andrew Gardner: I think in certain circumstances, yes. Like we talked about before on the 15-minute sulphur dioxide air quality measure, the EU originally had on the statutes for 2018. It might be going back within the EU, and that is law in the UK. Like Phillips 66, we have spent more than £30 million in Scotland in the last two years putting a new unit in to meet that legislation; £30 million that will not go towards growth-type projects, and what I mean by "growth" is addressing the petrol-diesel type issue.

Q29 John Robertson: My problem is that I understand where you are coming from, but we have to consider your workforce and the general population’s safety as paramount in all cases. If we do things on the gold-plated side, are we not perhaps erring on the side of the safety of the workforce and the general public rather than worrying about what kind of profits you are making?

Andrew Gardner: But in the future there may not be a workforce there, because the companies that own the refinery will invest in other parts of the world. I think another point that does not touch on workforce or safety is that importers are allowed to bring product into the UK duty-suspended. Any UK refiner, if it has to move product around the shores of the UK, has to pay duty on it, and losses on shipping could equate to a $5 a tonne impact.

Q30 John Robertson: What kind of duty are we talking about? Are you talking about taking product from one part of Britain to another part of Britain?

Andrew Gardner: Yes. If we are moving product from, say, Grangemouth into the Humber, that product passes out of Grangemouth. It becomes duty and VAT-able at the minute it passes out of Grangemouth on a ship. A ship typically has losses on it. By the time it turns up in the Humber there is less product there, but it is not only that the hydrocarbon is a loss for the company; there is also the duty on the company.

Q31 John Robertson: Sorry, just so I get this right-the VAT I can understand in a certain way, but if you are coming from Grangemouth to another refinery, does that mean that that refinery is buying your product?

Andrew Gardner: Yes, or it could be an import terminal. It could be an import terminal. It does not necessarily have to be refinery to refinery.

Q32 John Robertson: So, I understand the VAT, but what kind of duty is it?

Andrew Gardner: It is the current duty rates in the UK that is on all petrol, diesel, gas oil-

John Robertson: Okay, that everybody pays.

Andrew Gardner: Yes. But if you are a European refiner you do not have duty on any losses. So you bring it into the UK, and you have a competitive advantage.

Q33 John Robertson: Going back to the fitness check I think you were talking about, according to my note here it is designed to examine the cumulative effect of EU regulation and to consider mitigation measures. Do you have any concerns about these fitness checks-I think you have-and about how they have been set up, and if so, what would you do?

Chris Hunt: Our concern about the fitness check was this. As I explained, it was designed to look at current and proposed legislative impacts on the refining industry, and, as I have said, there has already been one for the aluminium sector. We had a meeting of the refining forum in April where we were hoping that the scope of the fitness checks would be fully discussed and agreed and off we go. It was then revealed that the fitness checks in themselves would only examine existing regulation, i.e. what has already happened, so it would be a very nice exercise in how well we impose that regulation. It will not look at the key bits of regulation that are going through, which as I explained are article 7A of the Fuel Quality Directive and something called the Refinery BREF.

John Robertson: Which is new legislation; it is not in place.

Chris Hunt: It is existing regulation. The Industrial Emissions Directive was transposed into UK in 2011. What it awaits is what is called the Refinery Best Available Technique reference documents, BREF documents, which says what you should do, and the key part that the UK and refining across Europe has been pushing for is something called a "bubble concept". Within a refinery there are many points of emission, and what you can apply is an overall emission limit value to the refinery, but within that bubble the refinery can work out how it is going to achieve that. It can use its best techniques and its most economical way of doing that, rather than imposing on each of those points in a refinery the optimum bit of kit.

John Robertson: I get the bubble, but the points might be a bit more difficult. I don’t have any questions for you, Mr Schultz, I am sorry, but if you want to come in-

Volker Bernd Schultz: Just on the fitness checks, at a high level, I would always hope the idea would be that before legislation is enacted we understand the impact on the local communities, on the environment and on business. That is the real idea of the fitness checks, such that if legislation is passed, it fits the bill and is well crafted to deliver what it is supposed to do. The fear is that if fitness checks are not done ahead of time, then legislation is not the most effective in delivering what the very good intent initially was.

Q34 John Robertson: The trouble is that Governments have found over the years that if we do not introduce legislation, things do not get done. It is about feeding into your wish to have a say in what is being done. I am sure the Government will have listened to the points you have made.

David Blakemore: Just picking up on that point, you rightly mentioned safety. Safety is paramount in our business, and I can speak for my own company-we often go ahead of local legislation on safety issues. We don’t wait for a Government to legislate on safety issues. If we see something in another part of the world, whether that is in Malaysia or the US, and we think that is the right thing to do for safety, we will go ahead of legislation. I think where I was trying to get to was that legislation such as the carbon floor price does not impact the safety of the workforce, but it does impact the business within the UK. That is just to differentiate-

John Robertson: I never doubted your company one little bit.

David Blakemore: Okay; thank you.

Q35 Albert Owen: Before I come on to the role of Government, can I just have some clarification on earlier answers you gave both Mr Lilley and Mr Gardiner with regards to the differential between petrol and diesel? As I see it now, my constituents and the customers across the United Kingdom are paying more for diesel today than they are for petrol, and that is a considerable matter. At one time it was the other way round, wasn’t it? You said in 2006 there was a crossover, but there was a tax incentive for producing diesel and people switching their cars from petrol to diesel. That is no longer the case because of the economics. I know you are aware of this, but I am just outlining it. Also, on top of that, the large lorries are paying more, so goods are costing more and consumers are paying more for their goods. What is the real problem there? As a consequence of it not being refined in this country, it is being transported in. It is costing us more, and so the consumer is paying more for it. What is the answer?

Andrew Gardner: Refine more, make more diesel inland.

Albert Owen: Say that again, sorry?

Andrew Gardner: Make more diesel in UK refineries. The problem is that the ability to convert your refinery to make more diesel is highly expensive and you need a window within the-

Albert Owen: But it was economical to do it before 2006, because the-

Andrew Gardner: But we did not have the legislative burden. The increase in the legislative burden is ten, fifteen, twentyfold-all for the right reasons, but it just so happens that this part of society is all happening in the same time.

Q36 Albert Owen: The regulation applies equally to petrol and diesel, though.

Andrew Gardner: It does, absolutely it does, but the UK refiners have not been able to economically modify the big investments of their refineries to move out of petrol-making equipment into diesel-making equipment, because their spend is driven to staying in business, i.e. their stay-in-business spend on containment policy or things related to Buncefield and infrastructure, or spend on the sulphur dioxide reductions and things like that. The legislative spend is taking up any free cash and also putting refineries into debt.

Q37 Albert Owen: As a consequence of that, my constituents and constituents across the country, particularly in peripheral areas that use more diesel-you can see the breakdown because they do more mileage-are paying more as a consequence of this.

Andrew Gardner: In theory. There are lots of dynamics. Sometimes the diesel wholesale price is cheaper than petrol, but-

Albert Owen: That is the reality of the situation when you go on to forecourts.

Andrew Gardner: -in general, yes. In general, the supply and demand balance is that in the UK there is lots of petrol and not enough diesel or, if you look at the import statistics, there is a lot more diesel and jet fuel getting imported than petrol.

Q38 Albert Owen: Okay. You are aware that the Government are having a consultation on refineries now. What specifically can Government do to make diesel more competitive and make refineries distil more so that we get less reliance on imports? Is tax incentive needed? Is it about doing away with the gold-plating that we talked about, which is quite interesting? You have some things more that are coming in as well: the emissions performance, and you talked about the carbon floor. Are all these a disincentive for your businesses in the United Kingdom?

Andrew Gardner: I think the answer to that-my personal view and my company’s view-is that a tax incentive probably is not the answer, but it may be different for my colleagues here. I think the gold-plating is one problem, so we should put the UK on a level playing field with Europe, but I also think the main thing we are asking for, as Mr Hunt said, is support us on European legislation and getting this fitness check done, i.e. understanding the impact both at a UK level and a European level on the bow wave of legislation that is about to come. It is about Government support for getting a fitness check to understand what the impact of future legislation is. That is what we are asking for.

Chris Hunt: On your point about petrol and diesel, I think we are unique across Europe currently in that the duty rates and taxation on petrol and diesel are equal, and therefore, there is a perceived advantage that is played off in other areas like VED and other Government fiscal measures on the selection of your vehicle. There was-still is-discussion at European level on an energy tax directive that effectively would try to look at taxation based upon energy content or CO2 content, which would push the cost of diesel up rather than down because diesel is more energy-intensive.

Our ask is to at least take off the shackles so that refiners in the UK and across Europe can look very seriously at addressing some of these issues of supply-demand balance. What we are asking of our Government is clearly on these EU fitness checks. They have to look at the key challenges that we are going to face from EU regulation going forward, not to say, "Well, we’re merely going to look back at the past and see how well we did", but to look particularly at FQD article 7A and Refinery BREF, which are coming up, and examine them. The fitness checks at the moment are not due to be completed until the end of 2014, by which time this FQD 7A and Refinery BREF would have been done and the refiners would have been having to deal with that massive cost.

We are asking that our Government get in there and lobby hard for those fitness checks to be completed, and that they look at the regulation that is facing us, and do it a darn sight quicker than the end of 2014. That is on an EU front. On a UK front I think there has to be a very serious look at stuff like the carbon floor price and so on, and how that affects us, and also things like business rates. If the massive investment that is going to go into refineries is all about environmental issues, there should be fiscal measures to help and maybe reduce some of that impact.

But the key ask is a serious look at all of this regulation that faces us and what we can do about bringing about the sensible result from the European regulation-not its repeal, but a sensible resolution of European regulation so that these folks can get on with their business and, as I say, step into the ring with both arms free and have a decent fight on the competitive front.

Volker Bernd Schultz: The closer we can get to that level playing field-we will never get it perfectly, I understand that-the better it will be and the more refiners there will be. It will be a competitive market, but we will be able to manage that. The problem is if there is one-sided legislation, be it UK or European refiners versus rest-of-world refiners or UK refiners versus importers-it does not matter. There may be more legislation on the environment, and more that can be done to improve the environment across the globe and not only in a region-we need both-but the semblance of a level playing field is the most important bit. If we can’t do that for any reason, then we would have to talk about other implications such as resilience or incentives, but if we can achieve a level playing field, we will be-

Q39 Albert Owen: Have you put this to Government directly before? Is there a need for a consultation, or have they already had the message clearly from you collectively?

Chris Hunt: I think they have the message clearly from us. In the consultation that DECC is undertaking it is clearly enshrined within that. I guess our plea is that we don’t end up with endless consultation and reviews and no action. At the end of this consultation there has to be a refining strategy for the UK that deals with concrete actions.

David Blakemore: I fully agree. We have tried to get the message across, and in parts of government the message has been heard and received. Where I see the issue as being within government, whether it is UK or EU, is that government is organised by Department. There is energy, there is transport, there is climate change, and it is about trying to get them to work together across the boundaries to see the whole picture and not just the picture that they see within their remit. I think if that could be worked on as well, that would make the legislation more effective at a holistic level.

Q40 Albert Owen: Just on that point, do you have difficulties with the two Departments in the United Kingdom of getting a coherent response from Government?

David Blakemore: Maybe I would look to Chris to answer that.

Volker Bernd Schultz: Generally, I personally think the rigour and openness of Government in this recent stage of the refining study has been excellent. I have only been a part of Essar Oil (UK) the last 18 months or so, but during that phase the openness and even us sitting here together now is sending the right signals to our company that the Government take this seriously and are looking for the right solutions. Will there be improvements between agencies? Yes, and we will always interact with them. There is no specific request from Essar Oil (UK) on that front, but overall we are pleased and thankful that we have been invited to have the opportunity to have that conversation with you here.

Q41 Albert Owen: There is one final point that I have to make. Many of the multinational companies have refinery businesses all over the world, and they can move around pretty quick as the economics change. What help can Government give to independent UK-based refinery companies to enter the fray? Let us look positively to the future when we are going to have an expanded refinery business.

Chris Hunt: We are always positive. If we weren’t positive, I think we would have disappeared long ago. We are always positive, and I think our ask is enshrined within our study concluded by IHS Purvin & Gertz and it is in the messages that we give Government now. We want our UK Government to take a far more active role in trying to get some sense into EU-level regulation in particular. Not that we want it repealed-let me emphasise that-but we need sensible outcomes to these regulations.

Q42 Dr Lee: Just to clarify, putting aside any national legislation, is there a common market in refined products in the European Union?

Chris Hunt: You mean do we share products? Yes-

Dr Lee: Is there a common market? I am getting the impression that because we choose to interpret EU legislation in a particular way, we are having to pay more for our refined products. I am asking: as a consequence, is there a common market in refined products?

Chris Hunt: There is. Your question has two answers. I am not a lawyer, so I am not saying that there are two answers deliberately. In terms of the fuel quality, it is by and large common except when you get to the point of biofuels and levels of biofuel subsidy.

Q43 Dr Lee: What about cost? You are telling me that we are having to import diesel because the cost of refining in this country seems to be greater than on the continent; is that right?

Chris Hunt: No.

Volker Bernd Schultz: Europe as a totality is an importer of diesel. This issue we have is not a UK issue.

Q44 Dr Lee: There is no difference between us and other European countries in our interpretation of EU legislation around refined product?

Volker Bernd Schultz: There are certain things like the carbon floor pricing or the rates-

Dr Lee: But that is national.

Volker Bernd Schultz: That is national.

Q45 Dr Lee: My question is: is this about the age-old problem of the British playing it straight and some of our colleagues in Europe not so straight in terms of interpretation of EU legislation?

David Blakemore: If you are asking whether there are barriers to product flow, I think generally the answer would be that it is a free market; product can flow. One UK law that springs to mind, which is not necessarily a different approach from the EU, is that if I want to move product made and refined in the UK from Humberside, my refinery, down to London by ship, I have to pay the duty on that product as I load it on to the ship. We are all aware of the high levels of duty that the UK Government put on product, but I have to pay that when it goes on the ship and that is working capital as it flows down to London and sits in tank.

I have another choice. I can export that product and I can import product from elsewhere, either from Europe or the US, and I can do that without paying excise duty up to the point it goes on the truck in London. That is a very large penalty for moving UK-refined product by ship within the UK. That is, I would say, rather a large barrier.

Q46 Dr Lee: Sure, but my question is about whether there is an additional cost for refining in this country because of the way in which we choose to interpret EU legislation in this area.

Volker Bernd Schultz: Not in product quality.

Q47 Dr Lee: Not in terms of cost. There is no reason for why it would be cheaper to refine elsewhere in Europe and then import as opposed to refining here.

Andrew Gardner: It is more the legislative capital that you have to make. It is a burden that you have to pay in a capital sense, not in a per-tonne sense.

Q48 Barry Gardiner: Could I just follow up? I have been looking at the Purvin & Gertz bar charts on what the expected flows are over the next few years. I do not know if you have those to hand, but here are some of the things that strike me. Some of the largest parts of that are the CRC, the energy efficiency carbon reduction commitment that the Government imposed-about £1 billion a year on business-and the carbon floor price. Equally, on the European ETS you seem to be banking on regulatory failure on the part of the authorities, because the amount that the ETS is shown to change over the next seven years is minimal. Yet at the moment it is way, way down below what anybody would expect it to have been, and you are not showing any increase on that. Also, on the IMO MARPOL, surely the International Maritime Organisation obligations will apply across the board internationally, won’t they, not just to the UK and Europe? Why is that shown as one of the largest elements in this when you are looking at comparators across the rest of the world?

Andrew Gardner: I think on the IMO, at the moment, if you take the English Channel to the top of the North Sea as a special region and the Mediterranean as a special region, there is legislation coming in that will tighten up the specification within those regions. That means that most refiners will not be able, without significant investment, to sell the fuel oil into that market that they do just now. In the early stages of that legislation it is particular to these European regions rather than world regions. Other world regions are going to come on to it, so there is talk about the shores of Canada and America and the Caribbean having it as well, these European regions are an early mover.

Q49 Barry Gardiner: But equally, anybody who wants to supply into that market is going to have to-

Andrew Gardner: Has to meet that specification, yes.

Q50 Barry Gardiner: Therefore, it is passable on to the consumer, isn’t it? Because you can only buy in that region if you are operating in that region.

Andrew Gardner: The problem is: what do you do? Fuel oil is the last part of the barrel of crude. You have all your high value, and at the end you have fuel oil. You will have a product that you cannot sell in the end, so you will have to either invest in very expensive technology to take that fuel oil you now can’t sell and break all the molecules up into higher value, which is a further investment that the P&G report probably reflects, or you will take a financial impact in your refinery and you will have to find some way of putting a scrubbing kit or something on your power station so that you are able to burn the fuel oil and-

Q51 Barry Gardiner: Sorry, Mr Gardner, I do not doubt that additional capital investment will be required, and that it will be costly to meet those specifications. What I am saying is that given that anybody operating within the English Channel region or the Mediterranean is going to have to get their supply from there-they are going to have to bunker in those areas-then it is going to be the refineries in those areas supplying those bunkers who will be able to pass those costs on to the shipping companies.

Andrew Gardner: I absolutely agree with you. I think it is a chicken-and-egg situation. We might not have the money to make the investment to make the product.

Q52 Barry Gardiner: That is a commercial decision, and I accept that. I just think it is rather misleading to include it in a chart that is showing international comparators and legislation that is doing you down when actually it will enable you to have a captive market, which is going to have to buy your product in those areas.

Volker Bernd Schultz: Principally, for Essar Oil (UK), we welcome any legislation that is international. We are asking for a level playing field, and if a level playing field can be instigated by things like that-

Q53 Barry Gardiner: No, I understand Mr Gardner’s point. It is not a level playing field, in a sense. It is a very specific-

Volker Bernd Schultz: Because there are local regions in there.

Barry Gardiner: Absolutely, it is localised, yes. No, I understand that, but equally it is something that should be transmissible through to the shipping companies.

Q54 Ian Lavery: Following on from the questions from Mr Owen and Mr Gardiner, I just want to touch on energy prices, particularly energy prices relating to consumers. If there was a reduction of oil refining capacity in the UK, would there be a huge impact on energy prices paid by consumers?

Chris Hunt: From a UK PIA perspective, projections and prognosis on final prices to consumers is somewhere we just do not go, for fairly straightforward reasons of competition law and so on. We would not comment on that.

Ian Lavery: Will anybody comment on that?

Volker Bernd Schultz: I can comment on publicly available information about our company and how that fits together. From that perspective I can. If I just take a high-level view of the price of petrol or diesel, of course the biggest cost then will be excise duty, and that is roughly 80p. Then you have the impact of the crude price, which will probably be over 40p-42p, 45p, depending on the crude price, which is then driven via OPEC and the cartel. Then you have the costs needed for retailing and delivery of the product, and the various analyses that I can look on it will say it is about 5p. Then the remainder will be on the refining side.

If I look at our costs that we have publicly mentioned, the cost that we have to take crude and make it into product is about 3p per litre. That is the cost that it takes for us to produce it. Then if you look at our cash margin, since we took on Stanlow we have ranged from minus 4.4p per litre to 1.9p per litre and are still averaging negative.

In the scheme of things, the refining impact on the product price is not very material versus all the other bits. The bit where it will become more difficult is if there is a massive shortage and you get a resilience issue and you cannot get the supply in. That is a different matter from how the price will adjust to that. But the refining per se is not the big driver of the cost. Even though the 3p per litre cost is big for a consumer, in the scheme of things of the 140p or so it is a minor part.

Ian Lavery: Would anybody else like to comment on that question?

Andrew Gardner: Just clarifying that point, I think the issue will be resilience. If refineries go and you have this longer supply chain and then you have resilience problems, you will have a third-party nation at some point potentially dictating what price they are going to give the UK fuel at. Now, at the moment, in the international market there is plenty of fuel around, the supply and demand balance, but for all the reasons we have talked about this morning, as refineries start to fall off the end that supply and demand balance will tighten. I think where you get to a resilience point of view is where people are willing to pay an extra 1p a litre, 2p a litre, 20p a litre, 40p a litre just to get fuel. Although that 40p is a big burden on the UK public, they will still want to drive their cars, so the UK will go and bid that from third-party countries. I think it clearly is about resilience. If we get to 70% or 80% imports, I think that when the market gets tight could be you could get bubbles of resilience problems-maybe like what happened with natural gas a few years ago-where the price spikes hugely at one time. That could see its way through to the forecourts.

Q55 Ian Lavery: What factors influence prices of products supplied by refineries versus products supplied by importers?

Andrew Gardner: I think they are pretty similar, actually. I think they are all governed by supply and demand economics.

Chris Hunt: I think it comes back to our opening point that importers will import products that refineries make. You need refineries somewhere, so it kind of all washes and works through, but it depends where in the world you are sourcing the product from and so on. You can’t not have refineries. The question is where you want them to be. Our argument is that it is a good thing to have refining in the UK as part of the balance with the importers of product supply and supply robustness in this country.

David Blakemore: Once you get to the product end I would not necessarily differentiate between a refiner and an importer. My company does both. When we have refineries down for planned maintenance we will import product. We sometimes import product into other UK markets. I think on the product side it is a very liquid market, and I would not differentiate between the product produced by a domestic UK refiner and the product that is imported. The price will be set by the market, but as far as resilience is concerned there are obviously very different factors.

Q56 Ian Lavery: Would you agree with the assertion from the Downstream Fuel Association, which has suggested that a stronger reliance on imports would smooth price changes?

Chris Hunt: I find it very difficult to understand the logic there. If you have a series of seven very big, very efficient UK refineries that can both manufacture finished products from crude oil and import-bear in mind that these refineries are responsible for 85% of all the product that is used in the UK-I just think that answer defies logic, to be honest.

Q57 Ian Lavery: Do you think that is right?

Volker Bernd Schultz: I do not understand that.

Q58 Ian Lavery: You do not understand the evidence that the DFA have given in relation to that?

Volker Bernd Schultz: On that product I don’t, no.

Q59 Ian Lavery: Why do you not understand that?

Volker Bernd Schultz: It is the same argument as Chris Hunt made. The refiners still have a big impact on the pricing. We do both. We import and we refine, so I would need to understand the argument. It is not obvious to me.

Q60 Ian Lavery: Finally, what are the cost implications of upgrading infrastructure to accommodate a more appropriate fuel mix, and how might that impact, again, energy prices paid by consumers? I think you discussed that very briefly with Mr Gardiner before. I just wonder if you could elaborate on that, perhaps.

Andrew Gardner: If you have a hydrocracking unit, which takes wax and turns it into diesel-type products; rather than cat cracking, which takes wax and turns it into petrol-type products, the UK needs more hydrocracking capacity. I think a company announced about a month ago that it was going to build a hydrocracker in Europe, and its quoted cost for a small-sized hydrocracker was about $800 million. If you want a medium-sized one, which the UK needs for every refinery, you are talking probably a £1 billion-type level.

Ian Lavery: Huge.

Andrew Gardner: Huge.

Q61 Barry Gardiner: Given the investment requirements that you have just outlined and the potential lower rates of return, do you consider that your share value currently reflects those risks, or have shareholders already discounted them against your share price?

David Blakemore: I think you would have to ask the shareholders.

Q62 Barry Gardiner: I am sure as a company director you would have an opinion as to whether they have been adequately reflected or whether your companies are currently overvalued.

David Blakemore: I am a director of a small part of a big company, so again I cannot answer that question. I think it is a view shareholders need to take.

Q63 Chair: Very well, thank you very much for your evidence. It has been most helpful. If there is anything that occurs to you that you did not say that you thought you should have said, if you could write to us afterwards, that would be great.

David Blakemore: Thank you very much.

<?oasys [pg6,cwe1] ?>Examination of Witnesses

Witnesses: Teresa Sayers, Chief Executive, Downstream Fuel Association, Andrew Owens, CEO, Greenergy International, and Colin Horton, Managing Director, Oikos Storage, gave evidence.

Q64 Chair: Thanks very much for agreeing to give evidence. Maybe for the record you could introduce yourselves, starting on the left.

Colin Horton: I am Colin Horton, Managing Director of Oikos Storage Ltd.

Teresa Sayers: I am Teresa Sayers, CEO of the Downstream Fuel Association.

Andrew Owens: I am Andrew Owens, the Chief Executive and founder of Greenergy, and we are also a member of the Downstream Fuel Association.

Q65 Chair: In DECC’s call for evidence, it suggested that UK import capability plays an important role in maintaining resilient product supplies to the UK and supports jobs and contributes to economic development. Do you agree with DECC’s assessment? What do you think the future prospects are for the import industry?

Andrew Owens: I think that the importers do play an important role. I would like to clarify one thing, however. We are an importer predominantly of diesel, but we are not an importer of petrol, where the industry tends to be super-efficient, low-cost manufacturers of petrol, and a lot of our raw material is actually sourced from UK refineries. I checked the data before I came here, and for the three months up to 14 May, 36% of all our petrol raw materials were bought domestically within the UK, which is our own purchasing equivalent to 14% of the UK market or approximately one whole refinery. The discussion between importer and refinery is not quite true. It is two different kinds of manufacturing. We buy semi-refined raw materials from around the world, including the UK, and bring them up to final grade.

Now, if we look at economics or supply security or investment, which are all different things, I think we get different stories depending on where we are looking in the UK. We also get different stories refinery by refinery. One of the areas we focused on in our submission was that we should not consider refining as a lump, in that within the UK there are some very efficient and good refineries-I think we saw representatives of them-and there are also refineries that one has to wonder about. The blank statement that UK refineries are big and efficient is not true. Some UK refineries are, in fact, very small and inefficient. It is actually about taking a balanced approach between remanufacturing, which is what I would say we do on gasoline, importation-and I do not think anybody is going to make a case that we would ever be able to make the diesel requirements domestically; it is such a big ask from where the industry is-and refining.

In terms of looking at supply security, we may be in an environment where it looks like there are two industries, but we are very integrated. The refinery industry in the UK is a big supplier to us. We are a big supplier to the refinery industry. We do a lot of common logistics and so on. It is really about a more integrated overview when one is looking towards the optimum structure for the industry’s investments and its long-term health. It is not one or the other; it is both.

Chair: Do you have some views?

Teresa Sayers: Yes. I would like to add that the growth of the import sector is a reflection of the need for the UK to have availability of the products that it uses. I am talking here about the shortage of diesel and jet kerosene. That is principally why you have seen a growth of the importers, which until recently represented 35%, which has increased slightly since the closure of Coryton.

I think also the other added advantage is that we have diversified where we get our products, and also we have the flexibility to respond to short-term outages, which we illustrated in our response, in the UK.

Colin Horton: Oikos believes that it needs to be an integrated approach. I think we need refineries and I think we need storage terminals. On the point made about diesel, there is a structural deficiency in Europe, not just the UK. That is going to come from farther and farther afield: the US, Arabian Gulf, maybe the Far East.

Q66 Chair: If we were to increase the import sector, what kind of additional investment and infrastructure would be required?

Teresa Sayers: If I can just say so, I think the growing reliance on importers should not necessarily in itself be a cause for concern if it corresponds with investment in the infrastructure, which I do believe that we are clearly seeing as the demand grows for that.

Q67 Chair: Do you need incentives to invest in the infrastructure?

Andrew Owens: No, I think the investment is almost at an all-time high. If one walks around the terminals and looks at what is going into these terminals, it is quite impressive. They are not tanks. They are not just tanks. They are actually very high-tech. We have world-leading technology in how we do things and we transform parts of the infrastructure. For instance, if you look at Teesside, maybe three, four, five years ago it had a very fragile supply chain. Now it has one of the most robust and structured supply chains anywhere in the UK. The same is happening on the Thames. We are going through a window at the moment of fragility following the closure of the Coryton Refinery, but it has been covered for. There have not been stock outages, and the reliability has been extremely high over the last year. But come the reopening of the Thames facility, which is now called Thames Oil Port rather than Coryton Refinery, as a manufacturing facility, through blending and other things London and the south-east will have very robust supply logistics with quite a significant surplus capacity compared with what the region could conceivably need.

Colin Horton: We have spent £50 million in the last three years on upgrading the facilities at Oikos. It is post-Buncefield-compliant. As Andrew said, it is state-of-the-art. We can show most of Europe that what we have done is the best in class.

Q68 Chair: Do you have any preference between importing or domestic refinery?

Colin Horton: Obviously, as a storage facility we quite like imports, but as a UK citizen I think there is a strong argument for a balanced approach. We do see this movement of bigger cargoes of diesel coming from further afield, and these cargoes are now at the 80,000-tonne level being mooted, even up to 120,000 tonnes in one case. You have to have the infrastructure to handle that. Refineries do have that, but strangely enough they tend not to have the appropriate storage for such big cargoes. They are orientated towards tanks for crude, but when you have a product tanker coming in they do not have the arrangements that we have. We can take a cargo of 80,000 tonnes in 36 hours.

Q69 Chair: You say state-of-the-art, high-tech terminals. Do you provide other services such as blending?

Colin Horton: Yes, we do. As other terminals do, we provide blending for biofuels and blending for gasoline components. As Andrew referred to, gasoline is much more of a blended product than diesel. Diesel is by first intent generally.

Q70 Dan Byles: This is very interesting. You said a balanced approach was needed. I think everyone would agree with that. What we are trying to tease out is where that balance lies. We are aware that imports are rising. We are aware that there is pressure on our refining capacity. I think as a Committee we want to know how worried we should be and how far that can go before we start to have a problem. There are state-of-the-art facilities; but what is the capacity of those facilities? In terms of the infrastructure capacity for imports, if we were to see increased demand for imports, could the capacity grow quickly enough to meet it?

Colin Horton: Given that in the last three years we have refurbished and rebuilt 150,000 cubes, with generally 10 or 12 throughputs a year, that gives a million-plus cubes of throughput. If you pushed the facility, you could do more. Where I think it is probably more questionable is the inland infrastructure. The previous speaker spoke about the UKOP pipeline system, and Essar referred to this pipeline system that is owned by the four shareholders, to which no one else can get access. Our view is that we can get it ashore and we can maybe reload it to ship, and we can reload it to truck, but getting it into the inland areas is the area where we have concerns.

Andrew Owens: I think the answer is the regional answer. For instance, in the south-east the lion’s share of product comes through terminals. I am not using the word "imported", because I think there is no reason that certain products need to be imported, particularly the gasoline components. In the south-east it is a multiple of demand. The north-east would be another area; the south-west would be another area.

In other parts of the country, it would not be conceivable to look at terminalling as an alternative to refinery. You have quite a big east/west divide in the UK. On the east and south coast it is relatively easy to move ships at the drop of a hat with any component of cargo or any combination of products that is wanted, because of the proximity of Rotterdam and the big break bulk markets. On the west coast it is much harder because the big ships do not fit in or do not want to go there; they are not part of a traded market. When one is looking at the supply chain, almost every location has very specific pros and cons, benefits and weaknesses, and therefore it is much more of a regional look than a national look.

There is one other point I would like to make. When we are looking at this, we need to be looking at diesel and gasoline differently. Quite simply, diesel demand does continue to grow. It is jumpy, and one never quite knows where to start from and where to finish from, but we are looking at the order of 1% a year -maybe a little bit more-growth in diesel. Gasoline petrol is declining. It is jumpy, and it is difficult to know where to start and where to finish when one is doing a percentage, but we are talking in the range of 5% and possibly as high as 7%. This is a very-

Q71 Dan Byles: Per year?

Andrew Owens: Per year.

Dan Byles: That is a very significant reduction.

Andrew Owens: It is very significant indeed.

Q72 Dan Byles: Is that principally due to more fuel efficient vehicles?

Andrew Owens: Yes, it is principally due to technology within the vehicles, which is quite something nowadays. It is not uncommon now for a large car to be quite heavy, safe and fast and powerful and still be able to do 70 miles to the gallon. That is quite something if you own that car, but not if you have to supply the fuel to it.

Dan Byles: Or if you are a Chancellor looking for a tax take, yes.

Andrew Owens: The market is shrinking quite significantly, but it is shrinking in the wrong place. UK refineries built in the ’50s, ’60s and ’70s are very geared to petrol because that was the foreseen fuel at the time.

Q73 Dan Byles: So the very nature of the changing market means that basically, in terms of refineries, we have the wrong assets.

Andrew Owens: Exactly.

Dan Byles: So we are inevitably going to see reduced dependence on our domestic refinery capacity and more import.

Andrew Owens: Exactly. We are having a kind of-

Dan Byles: Is this basically the market at work?

Andrew Owens: It is a Kodak digital camera moment. Basically, what was not explained, I think, in the previous evidence was that the demand for the core product is going away. The traditional way to manage that through the ’80s and ’90s and the early 2000s was to export the surpluses to America or even West Africa. Well, West Africa nowadays is covered from the new Asian refineries, and America is probably going to become an exporter of gasoline quite soon. Both the production advances in America and the demand reductions through technology, which apply there as well, are quite substantial. We need to start off from asking where is the market for the output of the products.

Q74 Dan Byles: Are you happy that the market signals alone will be enough to bring forward the required infrastructure to cope with these changes? You referred to problems with the inland infrastructure, for example. Can Government just leave their hands off, and will this just sort itself out?

Andrew Owens: Commodities are a bit nutty in that they tend to be too high, too low. They are not rational, because they make movements related to all sorts of forces that we can’t understand. But over the long run they tend to be rational. It is always interesting when one looks back over two, three, four or five years; one tends to understand why things were there, but when you are there at that period it all seems completely chaotic and noisy.

Q75 Dan Byles: I am not quite sure how that answers the question. Will the market signals be sufficient to bring forward the required infrastructure to meet this changing demand pattern?

Andrew Owens: Yes, but I would say that there are some risk areas-one has to look at it regionally-where perhaps the gap between a market signal coming in and an action might be too close for comfort.

I think there are other areas to consider. I guess the legislation around the RTFO, which stands for the renewable transport fuels obligation, or the CSO, which stands for the compulsory stock obligation, is extremely off-putting to investment. We are a quite significant investor in the UK. In fact, last year we invested as much as we had invested in, I think, the preceding 18 or 19 years. It was a big year last year. We are one of the partners in the Thames Oil Port ex-Coryton Refinery regeneration. I think it is fair to say that a lot of people in the market probably would not look at coming into the market now, because some of the regulatory rules are a bit difficult. If you are not already up to your neck in it, it is quite difficult to see why you would wade in, but once you are in the marketplace the price signals tend to take you where you need to go.

Q76 Dan Byles: Do we need to worry about this whole security of supply issue? Are we more vulnerable with increased imports over domestic supply?

Andrew Owens: I believe there is a vulnerability in supply security in the UK but not for any of the reasons that have been discussed. I think that we do not hold enough products ultimately.

Dan Byles: For storage?

Andrew Owens: Yes. Everybody has an agenda. I have an agenda; I run a company, and I have to sell things. We have tried to be relatively neutral within the context of still having to run companies. I think the concerns are less infrastructural or legislative. I think if you asked the refiners to list all the legislation that they wanted and then you gave it to them, it would not make any difference. That is my view, because I think the scale of the matter of technological obsolescence and absence of market-

Dan Byles: Some of them are shaking their heads behind you.

Andrew Owens: I know, but I am giving my opinion. It is clear that we have a different opinion. The scale of the gap between the market obsolescence-the change in the market, the decline in fuel-and the wall of competitive pressures from outside the EU, whether it be super-giant refineries in Asia or the fracking gas and low cost in America, is simply of a different order to anything that the legislative burden brings.

Now, that is not to say that the legislative burden is not a burden, and, in fact, I will argue that the legislative burden has been a much bigger burden for us. If you would like proof of the pudding, I would welcome you to visit our terminals and see the investments that have taken place over the last 10 years purely on the grounds of legislation. Then hopefully you would be welcomed to the refineries to see the legislation and the investment that has not taken place. I have bought two refineries in the last two years, closed down, so I am very intimate with the internal condition of those refineries. That is an open welcome at any time.

I think we have to look at the underlying economics, and statements are made that are not correct. UK refineries are not big. They are not efficient. They are medium or small and mostly inefficient with a high cost base. If you benchmark against the leading refiners around the world, that is where they stand. I am not against refining. My background is refining. There is nothing I would like in the business more than to own a refinery, and I have looked at buying refineries on several occasions, but I have not found one that one can make work. Now, some will work and you have representatives of the good refineries in this room, but in the case of the ones that I have looked at, which have gone bust, there is a reason that they were in difficulty and it was not just financial issues within their group. There was structurally something wrong with them. We must not lump them all together.

Q77 Dan Byles: Thank you very much. I do not want to go too much more into this because we are running very late, but for the Downstream Fuel Association, I quoted you earlier. You have told us that UK refiners’ reliance on sweet North Sea oil represented a risk to UK security of supply, as that stuff has run out. Do you just want to talk a little bit about that, very briefly, and why you think that?

Teresa Sayers: Yes, because, as was mentioned earlier, there is a reliance on that particular type of crude for the UK configuration in refineries. Albeit that there may be additional availability coming online, as we have described, it still represents a relatively small percentage of overall crude production. I think we should not lose sight of the fact that just as we import finished products and blending components here into the UK, we also are very reliant on the importation of crude.

Q78 Dan Byles: Because we are geared to what we used to get out of the North Sea, we arguably have the wrong assets now if we are looking forward. Is that basically what you are saying?

Teresa Sayers: We are at a disadvantage, absolutely.

Andrew Owens: It is an economic issue as much as an availability issue. Sweet crudes tend to be more expensive than sour crudes, and they tend to spike when there are issues with crude supply. In the olden days when refineries were vertically integrated, if we had an issue with crude and crude prices spiked and product prices did not, making the refinery uneconomic, the upstream arm of the business would benefit from that, so it was possible to consider that the refinery would still run. In the modern times now when the refinery is a merchant, why would a private business run when the crude oil costs more than the product? That is why it is important to have a balanced approach. It is not about infrastructure, it is about business. If you have a privately owned industry, which is what we have, and if you have a merchant refining industry, then so long as the supply interruption is around products, that is good because there will be margin to run the refinery, but if the supply interruption is around crude, irrespective of the availability of the crude the refineries will become economic as the crude will cost more than the product. Then the question has to be asked: why would the owners of the refinery want to run in that environment? That is why a blend of both is a good way forward. It protects against product-related issues and it protects against crude-related issues, which can also exist.

Q79 Barry Gardiner: Ms Sayers, what is the future mix going to look like? Your organisation has told us that currently it is out of sync and out of balance.

Teresa Sayers: Sorry, is that the future mix of product demand and, indeed, capacity?

Barry Gardiner: Well, yes, and indeed capacity.

Teresa Sayers: Well, in terms of product demand, dieselisation of the car park is continuing, and the future demands will be largely dependent on technologies and how they develop in respect of future products. In respect of what the market should look like, we believe that the market will reach its own equilibrium and that it is best left to the market to settle itself out. Undoubtedly, I think there may be one or two refiners who may not make it in the longer term, but that will improve the situation for the remainder because, as we have said in our submission, not all refineries are the same and they should not be considered the same.

Q80 Barry Gardiner: Okay. You heard what the earlier witnesses said about their lack of confidence in their ability to compete against other markets that may wish to supply product into the UK. Do you think those concerns are valid? Do you think that refineries in the UK or in Europe in general are going to be undermined by Middle Eastern and American supplies?

Teresa Sayers: I think the competitiveness of UK refining-a lot has been discussed this morning about legislation and the effects of that, but there are lots of other factors that have an enormous effect on how competitive they are. We have talked about their reliance on particular types of crude. We know that UK refining is quite old in terms of its technology. They are competing in a global world against mega-refineries that are extremely efficient. Also, there are labour costs and the location of refineries to consider. There are a whole number of contributing factors, so undoubtedly they do face a challenging future.

Andrew Owens: It is a world market, and when people make forecasts about the future they tend to look like they know what the future is, but people do not know what the future is. The viability of the refineries will depend on how profitable refining is globally. If we find great demand and growth in parts of the world that is greater than the speed at which refineries can be produced, and the whole global refinery environment is profitable, one would imagine that a high proportion of the refineries would be viable. If, on the other hand, there is over-capacity of refining on a global scale, and certainly over-capacity on the domestic scale, so that it is the most economic and competitive operators that get the first bite of the cherry, then, no, we are not going to see the least efficient refineries in the UK be able to compete.

In terms of market share, our view is that the market share of refineries in the UK on gasoline will increase with time. We certainly plan that our operations from the gasoline perspective will decline. Diesel is different, for the reasons that we have discussed before. What cannot be ignored is the demand for the product within the market, so on that perspective, with gasoline going down, I would propose that it would be very difficult for all the refineries to participate in the UK market if there was no external market for them.

Colin Horton: I think the cost of upgrading to produce more diesel is a real burden for north-west European refiners, not just the UK refiners. I cannot see anything that is going to stop that. Maybe one or two of the bigger major oil companies may invest, as one of the previous speakers talked about, but I just see the diesel coming in from further afield in bigger ships. I do not see any way that that is going to change.

Q81 Barry Gardiner: You said, in a neat side-step to my question, that you felt the market would adjust appropriately to the mix. What I had asked you, of course was what that mix was going to be. Now, I take it that Mr Owens partially answered that by saying anybody who thinks they know the future probably has it wrong. Let me ask you, then, about the importance of the regulatory signals that Government can give. Again, you will have heard the interchange that I had with the previous witnesses about DECC’s projections of electric vehicles, for example, needing to make up 65% of vehicles, yet we heard that the plans that the refineries have only go to the extent having, I think, 20% of in the next 30 years. They are banking on 80% still being on fuel that is not electric. Do you think it is important, then, that Government should begin to set medium as well as long-term targets? A 2050 target that says we have to have 65% at that stage should perhaps be complemented by a 2030 target that says that we need electrification of vehicles to be at that stage, so that the markets can begin to take account of that and see how they are going to phase their own investment plans and their own supply chains.

Teresa Sayers: Any targets need to have the technologies alongside them. Those technologies need to be sufficiently advanced to be able to make any targets achievable. In any legislation, what any market player would ask for is certainty about the horizon of that legislation. What we sometimes struggle with is the lack of certainty and the lack of length of horizon. I think with the sufficient lead-in time and the technology that can be advanced sufficiently to meet those targets, we should be able to adapt.

Q82 Barry Gardiner: Well, again, you are just going by my question a little there, aren’t you, Ms Sayers? I accept exactly what you say; of course, there has to be the technological capacity to do this, but you will also know that regulatory signals can incentivise investment in creating that technical capacity.

Teresa Sayers: Yes.

Barry Gardiner: What I am specifically asking you is, do you believe that in addition to 2050 targets for the electrification of vehicles, it would be helpful to the industry to see where the Government are aiming that we should be in the medium as well as in the long-term time scale?

Andrew Owens: For companies making investments, the core regime, the core target, is three to eight years. When a regulatory environment or an incentive or any kind of behavioural signal is given out, it can take 18 months-plus of memo writing to understand it. Then it can take 18 months, if one decides one likes the look of the memos, to build, let contracts and make investments. It is quite unusual that something will come on stream in less than three years, three to four years. Then one wants a five-year run at the asset, so the core point of visibility is three to eight years. What the regulations or the targets are in 15 to 20 years I do not think is going to really influence anybody. It is that core first decade is the absolute determination of structure.

Q83 Barry Gardiner: You say it will not influence if it is beyond that eight-year period, but if it is about a shift of technology in order to incentivise that technology, perhaps it may do so, because of course it takes time for that technology to get past its demonstrator phases and all the other aspects of its life to get to full commercial operation, doesn’t it?

Andrew Owens: Well, I agree with that, but I was talking about building a tank or a jetty, so from our perspective it is a-

Barry Gardiner: No, I understand, you were specifically about your own industry, yes.

Andrew Owens: Yes.

Q84 John Robertson: What are the key pieces of legislation for the importing and storage sectors?

Colin Horton: There are the local planning requirements, there is the hazardous substance consent, there is the LAPPC, there is-

Q85 John Robertson: What is that? Just assume I do not know anything.

Colin Horton: Sorry, local authority pollution prevention control with regard to gasoline components. There are the post-Buncefield recommendations. There is the legislation relating to jetty operations that the MMO and the PLA impose on us, and so it goes on. I just think of the headline ones, frankly.

Q86 John Robertson: This is probably a silly question, but do any of these regulations apply negatively on your business?

Colin Horton: I think yes is the answer. I will give you two examples. One is that we were liable to the Port of London Authority for operations on the jetties. The introduction of another organisation called the MMO has now resulted in us having to get two licences for the same piece of work. Another example is that the HSE insisted on our redevelopment to put a particular piece of kit in. We argued very strongly that this kit did not need to go in. We had put the very latest, highest standard of safety overflow devices on the tanks, but they insisted we put an overflow on those tanks. Less than a year later, they are now giving guidance out that you do not necessarily need to put the overflows on these tanks. Now, I suspect Greenergy and us incurred-certainly we incurred-over £250,000 just on that piece of kit that they have now identified that they do not think they need.

Andrew Owens: I think people want to behave well. I have not really come across too many people who do not want to behave well and do the right thing. It is not a business that wants to do harm. I think sometimes the regulatory environment can lead to the wrong thing happening, but there is no mechanism to counter that. Sometimes, the funding that has to go into that is, of course, drawing funding away from doing things that would be better to do. There is a kind of absolutism in some agencies that is not always-

Q87 John Robertson: Legislation can be amended. Is there any particular legislation you think is in urgent need?

Colin Horton: I personally think that it is the hazardous substances consent licences that we have to apply for through the local authorities, the local council. Now, it is frankly beyond their technical abilities. I am not denigrating them. I am just saying that they are confronted with a licence application that, frankly, they do not have a clue about, and they would be the first to admit it. I just think that there needs to be a better way. Whether it should be the HSE that guide these things through or another agency I do not know, but the local authority does not seem to be the most able of organisations to deal with it. What happens is that a planning application from us that should take maybe four or five months ends up taking over a year.

Andrew Owens: Yes, I totally agree with that. The legislation that has the biggest impact is the RTFO legislation, which is the renewable transport fuels obligation, and the CSO legislation because it is partial in the way it falls down and very unpredictable. The other area, I think-

Q88 John Robertson: How would you change it, or how would you like to change it?

Andrew Owens: I think year-end flexibility is important, because what happens today with the way the targets are set is that if you are short, the penalties are splendid. If you are long, your efforts are worthless. It is very min/max in what one has to achieve. I will give you an example. Just last month we had a "reject" on a large proportion of our certificates because there was a mismatch of one litre over a whole run. Now, we do 13.5 billion litres a year, and it was one litre. It was a rounding error-we rounded up but the rules said you had to round down. Because of that, all sorts of stuff was let loose in the company: worry, concern, worry, concern. Why should there be so much stress in organisations? Why should an organisation be operating under fear, because we fear the RTFO and the CSO, when a litre can lead to such tremendous fears?

Q89 John Robertson: How much do you think that would cost the company?

Andrew Owens: The risk on that one litre-it was resolved, by the way-would have been in the order of £5 million. It was an expensive litre. We would have resolved it in the end, because one always does, but why? This is a regulatory environment that is quite difficult.

On the other regulations, I think, well, it is life. What I would ask for in that area is non-partial application. If you look at, for instance, our terminals, they have post-Buncefield tertiary containment, and they have concrete this, that, the other. If you come down to the Thames Oil Port, it has piles of clay or piles of chalk. It is very clear that we have been put under a regulatory "must-do" environment that is not applied to the refineries. We own tankage terminals ourselves and Colin runs a tankage terminal as well, and I would like to hear what you think about that.

Colin Horton: I completely agree. We see that the regulatory environment we are working in is tougher than that imposed on the refinery sector. It is a bigger spend. They have tankage that is 40 to 50 years old. They can’t necessarily do some of the things that we are doing on new builds but they seem to be getting a lighter touch than our dealings with the regulatory authorities.

John Robertson: Let us move on. We have evidence from just-

Q90 Chair: Can I just ask, is there a different authority that deals with you if you are a refinery from if you are-

Colin Horton: No, they are the same agencies.

Andrew Owens: Even the same person.

Colin Horton: Again, the overflow is a classic example, this added dimension that we had to put on. The refineries simply had not had to do it, even in the period-now, whether they built any tanks in that short period I do not know, but certainly I suspect that no overflows have been installed on any of their tankage while this sort of wind was prevailing.

Q91 John Robertson: I am always conscious of the safety aspect of all this. Do you feel, then, that you should be allowed to work under the same conditions as them, or that they should have to come up to the standards that you have?

Colin Horton: The post-Buncefield recommendations were very sound, very sound, and we and Greenergy have applied them, and they make the environment a lot safer. I think all we are asking for is the same set of regulations be applied evenly and fairly across the piece.

Q92 John Robertson: Okay. Evidence from Christopher Fox suggests that the volume of storage of petroleum products would need to increase if more oil fuels were imported. Do you agree with that?

Colin Horton: I will answer that. It is a combination of additional tankage and, as Andrew said earlier, the regional changes-I think on the Thames we are probably in balance or thereabouts, where I think other regions may have to have some more tankage if they are going to increase. With lot of these facilities, when they are built to the standards of Plymouth and Oikos we can put more through the assets. We simply can sweat the assets. There is a considerable amount of slack in the system.

Q93 John Robertson: Okay, that seems fair. What impact, in terms of security of supply and environment implications, would longer storage periods have?

Colin Horton: Longer storage periods?

John Robertson: In theory, if you build bigger tanks you will store it for longer; therefore, would it have a knock-on effect?

Andrew Owens: Supply security day-to-day matters and resilience come from flexibility that tends to be smaller. The more vessels that are on the water at any particular time, the more the supply chain can respond to different signals of demand or activity or incident within the UK. We have to differentiate between what is a robust supply chain under normal disruptions that one could imagine and what is a robust supply chain under severe global emergency, which is a different thing.

Q94 John Robertson: We have heard over the years in this Select Committee that the UK’s storage is poor and we do not store up as much as other countries do. This is obviously a knock-on effect from that. Should we be storing a lot more, and if so, again, we have this knock-on security problem, do we not?

Andrew Owens: We have a situation to date with the CSO regulations, which are a burden on the consumer to no benefit that create a feeling of security that is not there. Nothing compares to having a million tonnes of product stored somewhere for strategic reasons, except for having 2 million tonnes of product. Fundamentally, storing onshore product for strategic purposes builds security. Now, no private business is going to do that.

Q95 John Robertson: Can I ask a question? This "product" you keep talking about-and you made a statement earlier on that we do not hold enough products-is this what you make from the crude? I am not quite sure what you mean by "product".

Andrew Owens: Petrol and diesel.

Teresa Sayers: Petrol and diesel, yes.

Colin Horton: And jet.

John Robertson: Okay.

Colin Horton: Andrew and I were intimately involved on the Sunday that Buncefield exploded, and I can tell you that the following weeks were very, very tight. Andrew’s point about the smaller ships meant that it was like a stacking effect when planes comes in. We could divert the ships to other terminals and other locations. You can’t get away from the fact that you need strategic stock in the UK, whether it be crude or whether it be product. You need to hold product.

Q96 Chair: In DECC’s call for evidence, do you think there is any aspect that is missing from what they have called for?

Andrew Owens: I do not think they said enough about market and cost of living.

Q97 Chair: Markets and cost of living: do you want to expand on that?

Andrew Owens: Well, for the reasons that everybody else has given, it is difficult for private companies to talk about prices, but I would have thought civil servants could research what effect investments have on the underlying cost of living and fuel costs in the UK. They are quite substantial. When terminals are modernised and expanded and made more efficient, the consumer tends to benefit from that. It is tough to go into much more detail than that, really.

Q98 Chair: Any other suggestions? Are there any steps the Government should be taking on the critical infrastructure of pipelines, terminals and jetties that support the industry?1

Colin Horton: There are two pipeline systems operating. There are some local lines, but there are two pipelines. The GPSS line, which is the Government system, can only run distillates, jet and diesel. It cannot run gasoline. Then there is the UKOP, which is owned by the four shareholders and only the four shareholders can gain access to rights on that line. Again, they have done it with telecoms; why can’t they do it with pipelines where the wholesale line is used and users can either go on to the line or not if they want to pay the price? I do think that that should be looked at.

Chair: Would you agree?

Andrew Owens: I think free access is a positive. I do not think it is as important in the UK as it might be in other countries, because most of the population live close to a port. The viability of ports is important and one longer-term risk, perhaps, is that some oil ports are under pressure to be converted into other uses. That is a possible issue.

Quite often in commodities, the opposite to the instinctive first reaction is the case. One of the things that one might like to consider is that fewer strong refineries with market might be more robust for supply security than more supported refineries that are basically weakening each other. Fundamentally, if one looks at the gasoline projections and petrol projections-on balance, we have petrol refineries in the UK, not all of them but most of them-the market is declining very, very quickly, and what are we trying to do? As a member of society, one could feel a lot happier with a million tonnes of product perhaps stored for strategic reasons in a dysfunctional way, because I think we have to be careful that things are not knocked down. If you look at what is happening or likely to happen with some of the closures, the sites could be levelled, and then we would be losing the valuable asset, which is, in fact, the storage, in a country where we do not have that much storage.

Q99 Chair: We have already touched on the different regulations. Is there anything else they should be doing to level the playing field between refineries, importers and storage terminals?

Colin Horton: I think I have covered it in my concerns.

Andrew Owens: Scratched record-CSO and an agency. This is a very important aspect of enhancing supply security and also fairness to the consumers.

Teresa Sayers: DECC is currently consulting in respect of a CSO entity for the UK and we would urge the Committee to support that on behalf of the industry.

Q100 Barry Gardiner: How might an increase in imported petroleum products in the UK impact on the energy prices that our consumers are going to be paying?

Andrew Owens: I tried to answer that before without answering it. I think it is difficult, but it is clear that where modern investments have been made, consumers in those areas have benefited.

Colin Horton: I am not close enough to have an opinion, I am afraid. I do not understand it.

Teresa Sayers: The DFA does not comment in respect of price, unfortunately.

Q101 Barry Gardiner: Mr Owens, give me yours again in less cloud. Well, let me ask you this. What factors influence the prices of products that are supplied by refineries versus products supplied by importers?

Andrew Owens: A fungible, competitive, modern, low-cost market. "Importers" sounds too simple. They are not really importers. They are technology companies. There is quite a lot of technology involved both in the administration but also in the supply chain, right through to the service station. Like any new entrant into a traditional market-you could look at easyJet or Ryanair-it transforms the business. I think of ourselves as being an easyJet or a Ryanair. I think it is a disruptive, productive, security-enhancing business model and that business model leads to the same benefits that most revamped business models lead to in most industries.

Q102 Barry Gardiner: Okay, let me ask you this. Is it more or less technically difficult, and therefore more or less expensive, to transport crude or differentiated product?

Andrew Owens: It is the same in a big vessel. The transportation cost is not a major part of the cost.

Colin Horton: There are dedicated ships for crude, which we are handling perfectly well. Equally, with the clean products that we are talking about-the gasoline and diesel and components-there are dedicated ships in the traffic. I do not see a difference between them.

Q103 Barry Gardiner: No difference in the transportation cost?

Colin Horton: In the transportation costs?

Barry Gardiner: That is what I asked.

Colin Horton: Sorry, obviously with a VLCC of crude moving 200,000 tonnes, I suspect that the freight rate is quite low. With the dedicated product carriers, the cost is higher but the importers and the traders are looking to moving in bigger parcels, thereby bringing the freight cost down.

Andrew Owens: Exactly. It depends on the size of the ship. On a similar-sized ship to similar-sized ship basis, the gap is not as significant as one might think, but if it is a large ship, you have to ask where the ship is coming from. A large ship is not going to be coming from Rotterdam or Scandinavia. A large ship is going to be coming a long way, and it is probably coming from an area where the underlying refining is that much more competitive.

Q104 Barry Gardiner: But you also have differential costs of the technology on board the ships and, therefore, differential costs of the cost of the ships and, therefore, differential on the freight that they will charge in order to return their cost of capital.

Andrew Owens: Yes, you have all of those things, but the bigger issue is the running cost of the terminal.

Q105 Barry Gardiner: Okay. If the UK were to rely more on imports and terminals, would changes in infrastructure be required and, if they would be required, what would be the cost implications for downstream consumers of those changes in infrastructure-new-built capacity, perhaps?

Andrew Owens: Well, I think the UK consumer will rely less on that, because as I mentioned to you, my view is that more of the domestic gasoline will come from domestic refineries as the market shrinks. There is nothing to stop a UK refiner being competitive in components for gasoline compared with a French refiner or a Scandinavian refiner. They do not do it, so that is a commercial barrier, not a structural barrier. As time comes on and as the market becomes more independent and less vertically integrated, one would imagine that it would become more and more merchant. As it becomes more and more merchant, more of the UK raw materials should stay in the UK. The diesel is a different thing. The diesel will be what the diesel will be. It is rather difficult to imagine that investments can take place that can turn the diesel production situation around in the UK.

Q106 Barry Gardiner: Ms Sayers, I was going to ask you about the evidence that your association had given that suggested that a stronger reliance on importers will smooth price changes, but that would not be appropriate because you do not talk about price, do you, you just told me?

Teresa Sayers: No, we do not.

Barry Gardiner: Why did you-

Andrew Owens: I think you can read the paragraph, because I do not think it says that.

Teresa Sayers: I did not quite say that. What I think I said-well, what I know I said and what was quoted-is that what we believe in is that a robust infrastructure with importers can act as a catalyst for efficiency gains on a global scale and drive down prices. That is what we said.

Q107 Barry Gardiner: The future of your industry and any necessary changes that you may have to take to cope with the difference in overall supplier capacity by the refineries you can only see-the three of you as you sit here-being beneficial to prices to UK consumers.

Andrew Owens: If we talk about the supply of fuel against imaginable problems and normal business as usual, that is correct. If we want to talk about supply security against major global international events, that is not something that private companies will deliver, and that is a policy matter.

Chair: Thank you very much for your evidence. It has been most helpful. As I said to the last set of witnesses, if there is anything you think needs expanding upon that occurs to you later, if you could write to us that would be most welcome. Thanks again.

[1] Note from Volker Bernd Schultz: “Government should ensure that guaranteed, transparent and competitive access is available to critical inland infrastructure such as national and regional pipelines and inland egress terminals. A potential monopoly position on such strategically vital national infrastructure should not be allowed to exist.”

Prepared 25th July 2013