Carlyle sees gold in old oil refinery

The Philadelphia Energy Solutions refinery in Philadelphia, where the Carlyle Group hopes to tap cheap Pennsylvania shale gas and growing supplies of North Dakota shale oil.
The Philadelphia Energy Solutions refinery in Philadelphia, where the Carlyle Group hopes to tap cheap Pennsylvania shale gas and growing supplies of North Dakota shale oil.

Philadelphia - Phil Rinaldi looked out the window of a company car at the sprawling oil refinery that straddles the Schuykill River. The property covers an area nearly twice the size of New York City's Central Park, and it is home to clusters of pipes, processing towers and storage tanks along with big stretches of empty dirt.

The site, situated next to a baseball field, is what Rinaldi calls his own "field of dreams" where he hopes to build a high-speed railroad terminal to unload shale oil and a power plant that would run on shale gas. And he believes that both of those will lure new industrial companies here to help build up what the oil company Sunoco had until recently planned to close down.

"We want to make this a destination," Rinaldi said.

Rinaldi is working for Carlyle Group, the Washington-based private equity firm that earlier this year acquired about a two-thirds interest in this imperiled oil refinery, whose history dates to 1866. The day after Labor Day 2011, Sunoco had announced it would shut down the plant as part of a strategy to exit its refining business, where the company had lost about $800 million over three years.

What did Carlyle see? Opportunity, said Rinaldi, and a chance to turn it around by tapping energy resources that even a year earlier weren't readily available: cheap Pennsylvania shale gas and growing supplies of North Dakota shale oil. The private equity firm's commitment to invest and pursue those supplies has saved about 850 jobs at the south Philadelphia refinery and transform it into a hub of rejuvenated industry.

"So far everybody's happy," said Jim Savage, president of the United Steelworkers local 10-1. "The alternative was the death penalty."

The rescue of the refinery is a political tale as well as a business one. For weeks, the USW's Savage knocked on the doors of members of Congress. The local congressman, Rep. Bob Brady, D-Pa., lobbied Sunoco executives and the White House to save jobs.

In the middle of the presidential campaign, his call did not fall on deaf ears. White House economic adviser Gene Sperling urged Sunoco to find a way to keep the plant open and prevent a big loss of gasoline supplies for the northeast. The Environmental Protection Agency made a deal that will allow Carlyle to expand the plant without having to go through the demanding, public and time-consuming process known as new source review.

Several months later, the dealmakers seem happy. The joint venture recently asked a contractor to train 84 new workers. On Dec. 8, the USW celebrated at Philadelphia's IATSE ballroom with dinner and dancing to the music of a local band, the Urban Guerrilla Orchestra. The group also gave Brady the first Bob Brady Working Class Hero Award.

"Just as Rocky Balboa is known as a mythical Philadelphia hero for fighting against all odds, Bob Brady is a true hero for fighting to preserve jobs, lives and livelihoods," said Carlyle managing director David Marchick in a letter read at the event.

New trends in the oil business had threatened to shut down Sunoco's 330,000-barrel-a-day-Philadelphia refinery. Sunoco relied heavily on relatively expensive light sweet crude oil - which is low in sulfur and relatively easy to refine into gasoline and heating oil.

That had become a big disadvantage. The surge in U.S. oil supplies derived from shale and the pipeline bottleneck in the hub at Cushing, Okla., had driven down the price of the U.S. benchmark crude, West Texas Intermediate used by many Midwest and Gulf Coast refiners. But the Philadelphia refinery imported oil primarily from West and North Africa that is linked to the much higher London benchmark, Brent crude. The gap between the benchmarks is about $23 a barrel.

Meanwhile, the ability to crank up prices to motorists had ebbed. According to an open letter from Sunoco chief executive Brian P. MacDonald published in March in the Philadelphia Inquirer, the demand for gasoline on the East Coast had declined 12 percent since 2007 and is expected to fall further.

MacDonald also pointed to overcapacity in the refining industry. "With our losses projected to continue, the threat to the company was so grave that we were forced to make a very difficult choice," MacDonald said in the ad.

The ad didn't tell the whole story. Sunoco was telling investors that it could boost its lackluster stock price by shedding all five of its refineries, exiting that cyclical business. The remaining business would consist of 4,700 gas stations and a pipeline, which had been set up as a master limited partnership with certain tax advantages. Sunoco owns 34 percent interest of the partnership, which produces steady, predictable profits. The restructuring would make Sunoco takeover bait, and indeed the company was later sold to Dallas-based Energy Transfer Partners, a pipeline operator.

Sunoco "could be a more appropriate acquisition target for a master limited partnership once the refineries are idled," said a Sept. 8, 2011, report by Citigroup analyst Faisel Khan.

Sunoco retained Credit Suisse to sell the Philadelphia refinery and says that the firm contacted more than 150 potential buyers, without luck. Carlyle was one of those.

Becoming the middle man

As the deadline for closure approached, the political pressure grew. Jobs were at stake. But there was another worry. Sunoco, which planned to close its Marcus Hook, Pa., refinery too, was knocking a total of 505,000 barrels a day of capacity out of the market. Conoco Phillips decided to sell or close a refinery in Trainer, Pa. And a joint venture led by Hess, after losing $1.3 billion in three years, shut down a giant refinery in the U.S. Virgin Island St. Croix that once served the East Coast market. Analysts were predicting substantial price increases just as the summer driving season was kicking in - in an election year.

Savage was desperate. "We visited every senator from Maryland to Maine," he said. "Plus if some senator from New Mexico or Colorado was on a related committee, we met with them, too." He noted that the northeast uses 75 percent of the country's heating oil and that half of that was produced at the three Pennsylvania refineries.

Access to cheaper U.S. crude would "change the business model," said Rinaldi, a refining and fertilizer industry veteran who helped turn around a poorly performing refinery in Coffeyville, Kan., a decade ago.

Rinaldi said in September that Bakken crude would account for nearly 50,000 barrels a day of the refinery's supplies. Those cheaper supplies are already pushing down the price of West African crude, Rinaldi added.

Even bigger amounts of Bakken oil could arrive if the refinery builds a high-speed facility, which Rinaldi said could unload two 120-car trains a day., each carrying more than 70,000 barrels.


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