Analyse the Economic Reasons for Shutting Dowm Clyde Refinery

Executive summary

The essay analyses economic reasons why Shell has decided to shut down its NSW refinery, Clyde and its potential impacts on international and domestic producers. The closure is caused by a combination of both external and internal factors. The excess capacity of overseas producers which pushes down the local price is found to be the most influential external factor. On the other hand, diseconomies of scales due to small size and high cost of production has made Clyde uncompetitive. Exiting cost and the poor return on investment are also important consideration prompting the shutdown of the refinery. As retailers’ demand for petroleum of are relatively inelastic in the short-term, the substitution of Clyde’ supply by imports is expected to be insignificant on the market. However, there can be important changes in the market share between local and international supplier in the long-run, depending on the how Australian domestic industry transforms itself

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Shell is proposing to close Clyde, the second smallest oil refinery in Australia and turn it into an import terminal by 2013. The decision is made as the refinery is argued to be uncompetitive against giant competitors in Asia along with other economic considerations in both long and short term. The closure, however implies that almost a third of national petroleum need will be imported (Aikman, Chambers and Don ,2011), which have important implications on the market share of both domestic and international producers. The essay is to discuss the economic reasons behind the closure of Clyde and its likely impacts on competitors.

The most important external factor causing the closure is the overcapacity of “mega” refineries in the Asia-Pacific. New refinery construction and the collapsed demand of industries in global financial crisis has resulted in spare capacity and excess supply which have substantial downward pressure on price. Given the relatively small size of Australian daily demand for only 850000 petroleum barrels (Department of Resources, Energy and Tourism, 2011 ), the threat from import is so great that local producers are only price takers who now use Singapore petroleum price as its benchmark (The Senate, 2006).

On the one hand, Australian refineries suffer substantial disadvantages from their small scale. Clyde is estimated to produce 4740ML pa while the largest capacity in Asia is approximately 70000 ml (Australian Institute of Petroleum, 2009). Newly constructed, equipped with modern technology, these refineries are able to produce at a massive level. Lower labor cost and specialisation generates economies of scale, hence much lower cost per unit. Moreover, as 58% of crude oil in Australian refineries is imported from Asia (ibid), the transportation