BMI View: Sinopec's involvement in the Coega refinery ends PetroSA's long search for a partner to help finance the refinery's construction. Given Coega's location, we expect the refinery to not just fulfil domestic purposes, but to export some of its products to the wider Sub-Saharan African (SSA) market. Sinopec's decision to invest in Coega appears to be part of its strategy to diversify its refining operations to a region where there could be greater refining margins than in China.

PetroSA, South Africa's national oil company (NOC), announced on May 21 2012 that it had entered into a partnership agreement with Sinopec for the construction of the Coega refinery. The project will be located in the Coega Industrial Development Zone, near Port Elizabeth, on South Africa's south coast.

Also known as Project Mthombo, the Coega refinery will be one of the largest in SSA. It was originally planned to have a refining capacity of 400,000 barrels per day (b/d) and to cost US$9-10bn to build, though Reuters' sources suggest that PetroSA will reduce Coega's planned capacity. Sinopec's involvement promises to bring an end to Coega's funding difficulties, while allowing Sinopec to diversify its refining portfolio beyond the constricted Chinese market.

A Long Time Coming

The Coega refinery had been stuck in the pipeline since it was first conceptualised in 2007 as part of South Africa's Energy Security Master Plan, which envisioned more domestic production of liquid fuels to avoid the energy shortage faced by the country in 2005. However, financing and criticisms from the country's refiners have stalled the project's progress.

Although there is strong political support for Coega's construction, the country's private refiners have questioned the wisdom of Coega, which could provide the country with more refining capacity than domestic consumption calls for. If completed by the scheduled date of 2020, Coega's proposed refining capacity of 400,000b/d would raise South Africa's total refining capacity by 47% to 905,000b/d, leaving the country with an excess of refined oil products. An over-abundance of supply could give the country's refiners even less leverage over fuel prices than they already have, given that fuel prices in South Africa are heavily regulated.

However, it would appear that political support has outweighed concerns from the country's downstream sector. Pressure from politicians on a final decision regarding the Coega refinery stepped up in 2011, with a National Council of Provinces' (the Upper House) report urging the Treasury to draw up a funding programme for the US$9-10bn refinery.

Prior to any funding decision by the Treasury, PetroSA had already been in talks with potential business partners since April 2009, partly to alleviate the considerable financial strain that building a US9-10bn plant would place on South Africa's NOC (see BMI's PetroSA Seeks Partner For Coega Refinery, March 31 2009). While it has been linked to Namibia's Nancor and South Africa's Sasol, no concrete outcomes from these talks had emerged.

Sinopec To The Rescue?

The confirmation of Chinese state-owned Sinopec's involvement in the Coega refinery follows on from the more general Memorandum of Understanding (MoU) that it signed with PetroSA in September 2011. It is likely that Sinopec's investment forms part of the US$20bn earmarked by the Chinese government for investment in South Africa's energy sector.

The amount that Sinopec will commit to the project is not yet clear; the exact investment is likely to be determined after Sinopec Engineering completes its study of the refinery, which would settle what the final capacity and cost of the Coega project would be. According to Reuters, PetroSA has tamed down its ambitions for Coega, which could see its refining capacity reduced from the planned 400,000b/d. The study is expected to take as long as 18 months, which could push back the opening of the refinery from a planned 2016 to as late as 2020.

Export Ambitions

Although Coega will most likely be a smaller refinery than originally envisaged, BMI still expects its final capacity to dwarf that of its nearest competitor in South Africa: the 165,000b/d SAPREF refinery in Durban, which is owned by BP and the Royal Dutch Shell. The refinery will no doubt play its role in providing for the country's energy security, and some of the refinery's products will be directed towards South Africa's growing oil consumption. However, the refinery's location within the Coega Industrial Development Zone (IDZ), which aims to be South Africa's 'foremost investment hotspot' in export-oriented industries, suggests that South Africa also has export ambitions for its refined products.

BP, when challenging the wisdom of developing the Coega project, had rightly pointed out that Coega is at a site that is not linked by pipeline to the fuel-consuming hinterland of Gauteng province. While this could be rectified in the future, it could also be the case that the Coega refinery is aiming to market its products to the growing SSA market (see BMI's Africa Risk/Reward Ratings: Upstream Rhythm and Downstream Blues, April 12 2012). If this is the case, it explains Sinopec's interest in Coega. Despite serving the large Chinese market, China's largest refiner and petrochemicals company has been heavily hit by refining losses, resulting from China's regulation of fuel prices in a high oil price environment. While fuel price reforms are expected in China, the timing and impact of these reforms on Sinopec's downstream profitability are uncertain (see BMI's Global Price Hike Shows Weakness In China's Pricing Mechanism, March 21 2012). Thus, it makes sense for Sinopec to diversify its refining market beyond China to stem domestic losses.

Sinopec's investment in the Coega refinery looks to be a good bet. Coega's location in the IDZ, which is to be served by a deepwater harbour (the Port of Ngqura), will allow the refinery easy access to the crude oil that could be supplied from emerging oil producers in SSA such as Angola and Ghana. Easy port access to crude imports could give the Coega refinery cheaper crude feedstock that would increase Coega's refining margins, a boost to Sinopec's refining segment should the refining environment remain adverse in China.

Copyright 2012 Business Monitor International Ltd. All Rights Reserved.

(Originally published in the June 1, 2012, edition of BMI Middle East and Africa Oil and Gas Insights.)