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Flint Hills Refinery

Changing hands again

┬ęChris Arend/AlaskaStock.com

Community and business leaders in Fairbanks are very worried about the potential loss of the Flint Hills Resources refinery that operates at North Pole, east of the Interior city. Flint Hills has said that it will close the refinery this summer due to a variety of problems but has also been working on a possible sale. A sale to another owner has been complicated, however, by contamination that was discovered on the property and the financial liabilities that have been created.

The possible loss of the refinery is a blow to the community not just in terms of jobs—Flint Hills employs 126 in Alaska—and taxes paid to local municipalities. The refinery is also important symbolically because it made the Interior largely sufficient in fuel supply, an important consideration given the region’s traditionally cold winters.

Flint Hills has asked the State of Alaska to consider a way to protect a new buyer from lawsuits and penalties over the contamination. State officials are working on this, but issues of liability from pollution are complex and it may take some time.

 

Interior Fuel Needs

Since large oil discoveries were made in the late 1960s on the North Slope and the Trans Alaska Pipeline System (TAPS) was first planned, a key goal of community leaders in Interior Alaska was to encourage development of a refinery in Interior Alaska to supply fuel needs.

There was a strong desire to no longer depend on a long fuel supply chain from Southcentral Alaska and the Pacific Northwest, particularly since large volumes of crude oil were flowing through TAPS right past Fairbanks.

The concern was not so much price, fuel prices in the Interior have never been a bargain, but more the possibility of a fuel supply disruption in an extended transportation system from Southcentral Alaska and the Pacific Northwest.

Flint Hills does not divulge information on quantities of fuel it produces, but according to information published by the state Division of Oil and Gas in 2013 in its Best Interest Finding for a sale of royalty oil, Flint Hills was producing, per day, about 670,000 gallons of jet fuel, 143,000 gallons of gasoline, 41,000 gallons of home heating oil, and 68,000 to 194,000 gallons of other products such as high-sulfur diesel; HAGO, a form of heavy oil used in power generation; naphtha; and asphalt.

The numbers are based on refinery operations at less than full capacity and when Flint Hills was taking about thirty thousand barrels per day of state royalty oil that it purchased to make products. When all three of the refinery’s crude oil processing units were in production, Flint Hills was taking about seventy thousand barrels per day of royalty oil, the only source of crude oil. Currently the company is operating with only one unit.

 

Flint Hills Resources North Pole refinery.

Photo courtesy of Flint Hills Resources

Alaska Refineries

The Flint Hills refinery was originally built in 1976, a venture of Texas-based Earth Resources, an independent company. It began operations in late 1977 at North Pole, east of Fairbanks, following the completion of TAPS start of crude oil production at Prudhoe Bay. A second refinery was built by PetroStar, an Alaska-based company now owned by Arctic Slope Regional Corporation, following construction of the Earth Resources plant. PetroStar also owns a small refinery near Valdez.

Since it started up, the Flint Hills refinery has gone through several changes of ownership, from Earth Resources to Mapco in 1980 and to the Williams Companies, which assumed ownership and operation of Mapco’s assets in 1998. Mapco also developed a number of retail gasoline and diesel outlets to sell products made in the refinery.

In 2004 Williams sold the refinery to Flint Hills Resources, the present owner. Flints Hills is a subsidiary of Koch Industries and operates refineries elsewhere. Flint Hills opted not to purchase the Mapco/Williams retail outlets, and these were sold to Holiday Stationstores, Inc., a privately held US fuels marketing company that works with Flint Hills elsewhere and is based in Minnesota.

Alaska has one other refinery. It has operated since 1968 and is designed to handle the lighter crude oils from Cook Inlet. Located at Nikiski, near Kenai, it is owned by Tesoro Corporation.

 

Crude Oil Issues

Flint Hills is unique among the Alaska refineries in that it is solely dependent on state royalty oil as a source of crude oil. PetroStar and Tesoro buy crude oil from other sources, including the private North Slope producers and, in Tesoro’s case, from Cook Inlet producers and even overseas suppliers.

The state entered into a long-term, twenty-five-year contract to supply royalty crude oil to Earth Resources when the refinery was built. That contract, for thirty-five thousand barrels per day, was eventually assigned to Mapco and then Williams, although both companies also negotiated separate contracts for additional royalty oil. When Flint Hills purchased the refinery in 2004, the state signed a new contract for royalty oil that also included a small premium to the state on top of the previously-negotiated price based on the average prices and payments by the major producers for their royalties. While state officials have argued the premium is not enough to be a significant factor in the refinery’s economics, Flint Hills disagreed, saying that the premium doesn’t help it, either.

A key problem for all of the Alaska refineries, but particularly the Interior refineries, is that the Alaska market isn’t large enough for them to operate as refineries do elsewhere in larger markets where refineries are built large enough to enjoy economies of scale and use all or almost of the crude oil in the making of products. Tesoro’s plant near Kenai is more fully equipped than the Interior refineries, which are smaller and simpler in design, but even Tesoro can’t fully use the “lower end” oil of the crude oil it receives, and often sells this residual oil at a loss.

The Flint Hills and two PetroStar refineries cannot use all of the crude oil, either, but they are allowed by TAPS owners to return their unused residual oil to the pipeline. These plants essentially use the higher, more valuable, parts of the crude oil to make products, mainly jet fuel, gasoline, and diesel, but when they return unused, lower-quality residual oil to TAPS, the effect is to slightly diminish the overall blended quality of the oil flowing through the pipeline. The Flint Hills and PetroStar refineries pay a penalty for this to the other TAPS shippers, mostly North Slope producers, who send their oil through TAPS. The penalty has varied over the years and has increased recently, which had become a concern to Flint Hills.

The ability to send the unused portion of the oil, the residual, back to TAPS is an advantage, although the financial penalty is paid, because the refinery does not have to find a use for the residual—it is just blended back in with the crude oil in TAPS. The Tesoro refinery, which is on the Kenai Peninsula and far from the pipeline, does not have this advantage. When it purchases North Slope crude oil, Tesoro must ship the oil itself from Valdez to Nikiski (the company uses its own small shuttle tankers) and must also find a use for the lower-end residual oil left after products are made by Tesoro. Sometimes the residual can be sold for a small profit and sometimes it must be sold at a loss.

Tesoro’s major product is gasoline along with jet fuel. It is the largest supplier of gasoline in Southcentral Alaska. Flints Hills, for its part, is primarily a jet fuel producer, much of which is shipped to Anchorage, but is also the major supplier of gasoline and heating oil in the Interior. That includes supplying heating oil to the Yukon River communities that are served by barge from Nenana on the Tanana River southwest of Fairbanks. The fuel is trucked from the Flint Hills refinery to Nenana.

PetroStar has meanwhile carved out a niche as a major supplier of jet fuel to military bases, such as Eielson Air Force Base near Fairbanks, although the company also serves marine customers from Valdez.

 

Flint Hills Resources workers creating efficiencies at the North Pole Refinery.

Photo courtesy of Flint Hills Resources

 

Commercial Challenges

The major commercial challenges for the Flint Hills refinery are well known, and some of these are shared by PetroStar. Chief among Flint Hills’ challenges is that the refinery is relatively simple (and is sometimes called a “topping plant”) with the ability to make only certain products. It makes jet fuel, its primary product, as well as gasoline, a heating oil (akin to diesel), and a few other products including asphalt, which is important for highway maintenance and construction. Flint Hills opted not to install the equipment necessary to make ultra-low sulfur diesel, or ULS diesel, which is required for use by trucks operating on highways and some off-road equipment. Tesoro did make the investment to manufacture ULS diesel, as did Petro Star at its Valdez refinery. Flint Hills offers ULS to its customers, but purchases the product from others, such as Tesoro or PetroStar.

However, the major commercial problem for Flint Hills has been the steady erosion of its large market share in jet fuel sales to commercial airlines operating through Ted Stevens Anchorage International Airport. The airlines, many of which are joined together in a bulk fuels-purchasing consortium, have been importing increasing amounts of foreign jet fuel, which is less expensive. The airline consortium has invested in additional bulk fuel storage capacity at the Anchorage airport to store imported fuel, and improvements at the Port of Anchorage, where fuel is unloaded, have helped facilitate this. The effect, however, has been a gradual loss of the jet fuel business for Flint Hills, which caused the company to first close one, and then two, of its three crude oil process units at the North Pole refinery, leaving only one unit in operation. Now that may close as well.

The loss of the jet fuel market has resulted in reducing Flint Hills’ fuel shipments on the Alaska Railroad. Fuel transportation for Flint Hills has been one of the railroad’s most profitable sources of freight revenue, so the trickle-down effect of the refinery’s problems have affected the railroad. If the refinery closes, the total loss of the business will result in no southbound fuel shipments for the railroad, although there would be more northbound fuel to supply the Interior communities. The northbound fuel volumes—largely expected to be gasoline and diesel—will not make up for the loss of southbound shipments of jet fuel, railroad officials have said.

Meanwhile, if the refinery shuts down in June, there will be substantial changes in the way fuel is transported and distributed in the Interior. PetroStar does not make gasoline at its North Pole plant, so gasoline will have to be shipped into the Interior. It’s likely that quantities of heating oil will also have to be shipped north.

No fuel shortages are foreseen, but there could be some higher costs due to the extra transportation. It is likely that changes will have to be made in storage facilities, because the sizes and locations of bulk storage tanks that exist for the fuel being distributed from the refinery may be different than for fuel shipped north by rail or truck.

Fuel to the Yukon River communities may come increasingly via a different route as well, through the Bering Sea and lower Yukon upriver, rather than by rail or truck to Nenana, and then downriver.

The spill at the refinery involves sulfolane, a chemical commonly used in gasoline production. It seeped into the soil at the refinery during the years that Williams owned and operated the plant. This was acknowledged to Flint Hills when the refinery was purchased and Williams posted a $40 million insurance policy to help pay for any contamination. However, the spill on the refinery property has spread beyond the property and is continuing to spread. How that is dealt with, as well as the contamination of residential water wells in the area, are among the issues Flint Hills and state officials are now dealing with.

Mike Bradner is editor and publisher of the Alaska Legislative Digest and Alaska Economic Report.

This first appeared in the May 2014 print edition of Alaska Business Monthly magazine.

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