Japan's refining industry ripe for mergers, consolidation

Following deregulation of its downstream petroleum industry, Japan has found itself left with an inefficient, bloated refining and marketing system.

In today's climate of mergers and acquisitions, this leaves the country's refiner-marketers ripe for further consolidation, following the recently announced merger of two major Japanese oil companies-Mitsubishi Oil Co. and Nippon Oil Co.-and the plan to consolidate their refining businesses (OGJ, Nov. 2, 1998, p. 42; and Nov. 9, 1998, Newsletter).

At a November seminar in Tokyo, sponsored by Mitsubishi Research Institute and Energy Security Analysis Inc. (ESAI), several speakers addressed the challenges facing Japan's refiners and marketers.

The problem

Edward Krapels, director of Washington, D.C.-based ESAI, said the former government regulation of Japan's refining industry initially assured the sector's success. But it also led to the current capacity surplus that is crippling the industry, he said.

Krapels pointed out that the leading countries are letting the market determine energy policies, set prices, and select winners and losers. The result is that energy prices in those countries are much lower than in Japan.

At the same time, said Krapels, the operating and maintenance costs of refining and electricity generation are also much lower in those countries.

The solution for Japan is a shift toward what Krapels calls the "market paradigm." Companies that subscribe to this paradigm downsized in the 1980s and are now the most efficient in the world, he says.

No new capacity

Thomas O'Malley, chairman and CEO of U.S. mega-independent Tosco Corp., gave his advice to Japanese refiners at the seminar. And this advice should be well worth listening to, considering that Tosco converted itself from a single-refinery company to the U.S.'s fifth largest refiner in only 6 years (see related story, p. 21).

O'Malley described conditions he believes are necessary for Japan's refiners to survive in a deregulated environment. Among his assertions: Size matters.

He also stressed that Japan's refiners should buy rather than build. A deregulated refining industry does not offer adequate returns to fund expensive new refining complexes, he said.

O'Malley's message to Japanese refiners was blunt and to the point: "As long as Japan continues to have excess refining capacity, financial results in a deregulated environment will remain weak.

"Converting refineries will not work," he said. "They must be closed."

"The weak are destroying the strong," said O'Malley. "There is no solution to the country's 1 million b/d of excess refining capacity except to get rid of it. Until that happens, companies cannot grow and therefore cannot become profitable again."

And under deregulation, he reminded them, "Profitability is the only thing that counts."

Diligence needed

Masamoto Yashiro, chairman of Citicorp Japan and a former Exxon Corp. official, presented a banker's viewpoint on the restructuring needed in Japan's downstream sector.

"Japanese oil companies must concentrate their efforts on recovery by looking at their overall cost structure," he said. "They cannot afford to be complacent.

"Trade-off of supplementary strengths is a mistake," Yashiro stressed. "All areas of a company's business should be profitable."

He suggested Japan's refiners use the three core premises that Exxon adopted in its restructuring during the 1980s: rationalization, prioritization of project investments, and downsizing based on employee performance rather than age.

Japanese managers must be absolutely ruthless in their endeavors to turn their companies around, says Yashiro. "CEOs who are loved by their employees are usually bad CEOs."