August 2008

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers,

Market Power and Fuel Prices: An API Primer
The oil and natural gas industry recognizes the

concerns across the country over the higher energy

costs American consumers and businesses have been

facing this year. It is also aware of the assertion that

the consolidation that has occurred in the industry

over the last decade has led to higher energy prices.

This primer attempts to address those concerns and

offers the proper context in which to view both energy

prices and company mergers.

August 2008

Background Page 1

The Myth of “Big Oil” Page 2

2006 Largest Oil and Gas Companies Page 3

Crude Prices Explain Gasoline Prices Page 4

FTC Finds Firms Behave Competitively Page 5

Refineries Not Highly Concentrated Page 6

Return on Investment for U.S. Refining and S&P Industrials Page 7

Profitability of U.S. Refining and Foreign Refining Page 8

Number of Refineries Decline but Capacity Expands Page 9

Net Income and Investment by Top Energy Companies Page 10

Index of Inventory Levels to Sales Page 11

Global Market for Crude and Refined Products Page 12

Regulator Investigations Page 13

A Dozen Facts You Should Know Page 14

Genealogy of Major U.S. Oil and Gas Producers Page 15-16

Genealogy of Major U.S. Refiners Page 17-18

References Page 19

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Table of Contents
August 2008 Page 1

Background

The Federal Trade Commission (FTC) plays two principle roles in the oversight of the oil

industry. First and foremost, the commission scrutinizes any proposed oil merger, acquisition

or consolidation. Oil industry mergers occur only after careful FTC scrutiny into whether the

consolidation would unduly reduce competition in the market. As part of its antitrust oversight

role, the FTC has required divestitures and even challenged proposed oil company

consolidation, at lower levels of concentration than in any other industry.

In addition to its role as chief antitrust regulator of the oil industry, the FTC also plays a

major role in consumer protection. It has conducted hundreds of exhaustive investigations into

price increases in recent years. None of these probes found evidence of collusion or market

manipulation. Also as part of its role as a consumer watchdog, the FTC conducts continuous

monitoring of gasoline markets for potential anticompetitive conduct. To quote the FTC: “In no

other industry does the FTC maintain a price monitoring project such as its project to monitor

retail gasoline and diesel prices.” (FTC 2005, p.i.)

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer
August 2008 Page 2

It is important to understand how the energy

world has changed. Forty years ago, world oil

reserves were largely the domain of the

investor-owned, international oil companies

(IOC), based principally in the United States.

Most people today assume international oil

companies are little changed from decades

ago, still sitting astride the bulk of these

world oil reserves. That is no longer the case.

Today, world oil reserves are 80 percent

owned by the national oil companies of

foreign governments, many formed during

the past 30 years. Only six percent of

worldwide oil reserves are now held by

investor-owned oil companies.

Faced with such competition, the

investor-owned oil companies have scaled up

within this new world – principally through

mergers and acquisitions – by creating ever

larger efficiencies, greater technological

and project management prowess, and

substantially broader competitive access

to capital markets.

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

In terms of market power, investor-owned

international oil companies (I0Cs) own just

six percent of the world’s oil reserves.

The Myth of “Big Oil” (As a Percent of Proven Reserves)

National Oil Companies (NOCs) Increasingly Control the World’s Oil Reserves

1970 2007

Source: PFC Energy

14% 10%

6%

6%

85% 78%

1%
August 2008 Page 3

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Source: World reserves of 1. 3 trillion barrels as of January 1, 2007 according to Oil and Gas Journal December 24, 2007

Leading companies: Oil and Gas Journal September 17, 2007

2006 Largest Oil and Gas Companies (percent of worldwide reserves)

Even the largest U.S. based international investor-owned company accounts for just a small

fraction of the world’s oil reserves and production. This limits U.S. oil and natural gas

companies’ influence on world crude oil prices. According to the Federal Trade Commission,

“mergers of private oil companies have not significantly affected worldwide concentration

in crude oil. This is important because crude oil prices are the chief determinant of gasoline

prices.” (FTC 2004, p.1)

2006 Largest Oil and Gas Companies (percent of worldwide production)

Source: Estimated world total of 72.4 million barrels a day in 2007 according to Oil and Gas Journal December 24, 2007

Leading companies: Oil and Gas Journal September 17, 2007
August 2008 Page 4

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Historical analysis shows that changes in

crude oil prices explain about 97 percent of

the variation in the pre-tax price of gasoline

between 1918 and 2006. Over that period,

a $1 per barrel increase in the crude oil price

consistently generated an increase in the

gasoline price of about 2.5 cents. Between

January 1999 and summer 2006, crude oil

prices more than quadrupled from $15.50

per barrel to over $65 per barrel. Based on

the historical pattern, gasoline prices would

Movements in crude oil markets explain almost

all of the change in gasoline prices since 1918.

be expected to increase by more than $1.15

per gallon in the same period. The actual

increase in gasoline prices was slightly lower

than this forecast amount. In addition, a

small percentage of the increased cost

of gasoline can be attributed to higher

refiners’ costs to purchase electric power,

inorganic chemicals, and organic chemicals.

These costs rose by 20 percent, 25 percent,

and 45 percent, respectively, from 2000

to 2005.

Refinery Crude Oil Acquisition Price and Gasoline Price Less Tax (1918–2006, September)

Notes: 2006 price is weighted average through September; oil values prior to 1947 are U.S. wellhead prices.

Sources: API, 1959, Petroleum Facts and Figures, Petroleum Databook (2005), and EIA/DOE, Monthly Energy Annual.

Oil Gas-tax

$

/

B

arrel

Source: Dahl, April 2007
August 2008 Page 5

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

The oil industry is becoming less vertically

integrated. According to the FTC (2004), the

share of U.S. refining capacity owned by

independent refiners with no production

operations was eight percent in 1990. By

2007, the share was over 21 percent.

Moreover, a 2006 FTC investigation found

“no evidence indicating that refiners make

product output decisions to affect the market

price of gasoline. Instead, the evidence

indicated the refiners responded to market

prices by trying to produce as much highervalued products as possible...The evidence

collected in this investigation indicated that

firms behave competitively.”

The perception that mergers increased the

market power of refineries is not supported

by the evidence. In fact, concentration has

remained low to moderate and vertical

integration has been decreasing, according

to the FTC.
August 2008 Page 6

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

The refining industry is not highly

concentrated due to mergers as some have

claimed. If one compares the share of the

industry attributed to the largest eight firms,

one can see that there are many other

consumer industries with a higher share of

their industry’s total (concentration)

than the refining industry. The U.S.

Commerce Department maintains four- and

eight-firm concentration ratios for all major

industries. The above chart lists the

eight-firm shares for selected consumer

industries for 2002 – the latest data

available. The refinery figure for 2008 is

from the Energy Information Administration,

adjusted for the sale of Krotz Springs from

Valero to Alon.

In 2008 the eight largest refiners comprised

64.9 percent of total U.S refining capacity.

The share data for other industries is the

share of value of shipments that the eight

largest companies comprise. The Commerce

Department’s share for refining was 63.5

percent in 2002. Data for 2008 was used

instead of 2002 to reflect any merger activity

that occurred between 2002 and 2008.

Eight Firm Concentration (2002) – Percent of Market Composed of the Eight Largest Firms

Source: Energy Information Administration for Refineries 2008, adjusted for sale of Krotz Springs from Valero to Alon.

U.S. Department of Commerce for all others.

Many other industries are more highly

concentrated than the refining industry.
August 2008 Page 7

The magnitude of refiner earnings is often

exaggerated. From 1977 to 2006, the rate of

return on investment in U.S. refining averaged

7.7 percent. This compares unfavorably with

returns over the same period of 12.5 percent

for the S&P 500 industrials.

For many years, the rate of return on

investment in U.S. refining lagged behind

the returns for the S&P Industrial average.

It is only in recent years that refiners have

enjoyed higher average earnings. Refiners

need to continually invest, and do so even

when earnings are lower.

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Source: EIA, Performance Profiles of Major Energy Producers, various issues and 2006 S&P figure compiled by PWC from Compustat data.

Return on Investment (net income/net investment in place)

S&P Industrials U.S. Refining
August 2008 Page 8

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Some make the claim that U.S. refineries are

more profitable than foreign refineries to

bolster their belief that the U.S. refinery

industry has too much market power. In fact,

their rates of return on investment averaged

7.6 percent from 1977 to 2006, compared

with 10.4 percent internationally.

This pattern does not support the argument

that refiners were able to abuse their market

power in the U.S. U.S. refineries are the most

complex in the world because they need to

meet some of the most stringent clean fuels

standards.

No evidence is found for the claim that U.S.

refining is more profitable than foreign refining.

Return on Investment for U.S. and Foreign Refining/Marketing (1977–2006)

U.S. Refining/Marketing Foreign Refining/Marketing

R

eturn on Investm

ent %

Source: EIA, Performance Profiles of Major Energy Producers.
August 2008 Page 9

Since 1985, U.S. refining capacity has

increased by 12 percent even though there

are 73 fewer refineries. Because the

infrastructure to bring crude in and get

products out is in place, it is more cost

effective to add on to a refinery than

to build a new one. The elimination of

subsidies under the government price and

allocation controls in 1981 led to the closure

of many smaller, less efficient refineries

throughout the 1980s and 1990s.

According to the U.S. Energy Information

Administration, current domestic refinery

expansion plans will boost domestic refining

capacity by another 800,000 per day by

2010, the equivalent of four new refineries.

Moreover, a number of refinery modification

or expansions have been announced to

handle increased processing of heavier

crude oils, including oil derived from

Canadian oil sands. This additional crude

from Canada – a reliable, nearby source –

should enhance our domestic energy

security.

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Those who persistently accuse the industry of

holding back supplies overlook the fact that

over the past 10 years, existing refineries have

expanded capacity by the equivalent of building

10 new refineries.

Number of refineries declines but capacity expands

*Operable as of January 1st

Source: DOE
The refining industry’s investment in new

capacity has been consistent with historical

trends and prudent business practice. There

is no evidence that investment has been

purposely delayed in order to increase

gasoline prices and industry earnings.

August 2008 Page 10

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Note: Investment in PP&E taken from cash flows and excludes acquisitions and mergers. Source: EIA/DOE www.eia.doe.gov/emeu/finance/frsdata.html.

*In 2006 these companies accounted for about 44 percent of total U.S. crude and NGL production, 43 percent of natural gas production,

81 percent of U.S. refining capacity and 3 percent of U.S. electricity.

Net Income and Investment in Property, Plant and Equipment of Top Energy Companies*

(1986–2005)

Real Investment in PP&E Real Net Income

In Billions of R

e

al 2

0

0

5

D

ollars

Investment in capital-intensive industries does

not directly track changes in earnings or

prices. Analysis of historical data shows that

annual investment in refining capacity is

more stable than earnings, with changes in

earnings causing a change in investment that

is spread over three years. The pattern is

similar in the durable goods sector where

earnings increased almost 75 percent in

2004, while plant and equipment investment

increased less than one percent. The refining

industry follows prudent business practice by

adding capacity incrementally, allowing time

to gauge the long-term market response to

higher prices. Refinery utilization rates in

1999 to 2006 were in the healthy 90-95

percent range, but were not generally

higher than in 1992-1998.

Source: Dahl, April 2007
August 2008 Page 11

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Some have claimed that oil companies have

held lower levels of gasoline inventories in an

effort to promote price volatility. The ratio

between gasoline inventories and gasoline

sales has fallen steadily since 1980. But the

magnitude and pattern of this decline has

been essentially the same in the gasoline

industry as for the entire manufacturing

sector, suggesting that what is responsible is

continuous improvement in business

practices rather than factors that are unique

to the oil industry. Gasoline prices were less

volatile between 1999 and 2006 than

between 1979 and 1992, when inventory

levels were substantially higher. The

evidence suggests that it is not inventory

levels, but volatile crude oil prices, that

largely explain gasoline price volatility.

Lower gasoline inventories have not increased

price volatility.

Sources: Manufacturing inventories and sales from the Economic Report of the President. Gasoline stocks and sales from the EIA/DOE Annual Energy Review.

Index of Inventory Levels to Sales for Gasoline, Oil Products and Manufacturing (1978–2005)

Gasoline Manufacturing Oil Products

Source: Dahl, April 2007
August 2008 Page 12

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

We are in a global market for both crude and

refined products. Increasing imports and

highly correlated profit margins between

Europe and the East Coast imply the

existence of a robust arbitrage market

across the Atlantic. In the Pacific, where

differences in product specifications might

be thought to reduce arbitrage opportunities,

Asian refiners also act as a moderating

influence by providing surplus product to

U.S. markets as blending stocks.

U.S. refiners cannot control the U.S. gasoline

market. Trade and pricing patterns indicate that

arbitrage moderates inconsistencies between

U.S. and foreign markets.

Source: Dahl, April 2007

The Global Market Flows for Crude and Refined Products
August 2008 Page 13

Many government investigations have

determined that increases in gasoline prices

were the result of market-related factors.

The FTC, in a spring 2006 report on its

investigation into gasoline price increases

and potential price gouging in the aftermath

of Hurricane Katrina, said it found “no

evidence to suggest that refiners Manipulated

prices through any means” and “no evidence

to suggest that refinery expansion decisions

over the past 20 years resulted from either

unilateral or coordinated attempts to

manipulate prices.” The FTC also said

it found “no evidence to suggest that

petroleum pipeline companies made rate or

expansion decisions in order to manipulate

gasoline prices” and “no evidence to suggest

that oil companies reduced inventory” to

manipulate prices. The FTC report did find

15 examples of pricing that might fit a

definition of “price gouging” proposed in

Congress, but it said none of these instances

led to higher prices. “Other factors such as

regional or local market trends... appeared

to explain these firms' prices in nearly all

cases," the report said.

"Federal gasoline price gouging legislation,

in addition to being difficult to enforce,

could cause more problems for consumers

than it solves. Competitive market forces

should be allowed to determine the price

of gasoline drivers pay at the pump."

– FTC’s Spring 2006 Report

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Repeated investigations by the FTC have never

found any evidence of collusion between

companies within the industry.
August 2008 Page 14

A Dozen Facts You Should Know About

Antitrust and the U.S. Oil Industry (June 2007)

By Timothy J. Muris (Former Chairman of the FTC, 2001-2004) and Richard G. Parker (Former

Chairman of the FTC, Bureau of Competition, 1999-2001). Both currently in private practice at

O’Melveny & Myers.

Fact 1: Economic learning and antitrust enforcement have

evolved: We now know that big is no longer necessarily

bad.

Fact 2: The antitrust authorities scrutinize the petroleum

industry more closely than any other.

Fact 3: The American petroleum industry is NOT highly

concentrated.

Fact 4: Refiners have expanded domestic and global capacity

significantly.

Fact 5: Refineries operate at or near their practical maximum

utilization rates.

Fact 6: Inventory practices have reduced costs and benefited

consumers.

Fact 7: The profitability of the petroleum industry is

commensurate with other industries over the long run.

Fact 8: The FTC applies tougher standards to mergers in the

oil industry than to mergers elsewhere.

Fact 9: Empirical analyses of the price effects of oil mergers

provide

no basis for applying more stringent merger standards.

Fact 10: Market forces provide the most effective mechanism

for quickly and efficiently alleviating price spikes.

Fact 11: Price-gouging legislation would harm, rather than

benefit, consumers.

Fact 12: There are constructive legislative alternatives that will

benefit consumers.

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer
August 2008 Page 15

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Genealogy of Major U.S. Oil and Gas Producers (Page 1 of 2)

Sources: For additional details about these mergers and acquisitions see Energy Information Agency,

"Mergers and Acquisitions," http://www.eia.doe.gov/emeu/finance/mergers /summary.html.
August 2008 Page 16

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Genealogy of Major U.S. Oil and Gas Producers (Page 2 of 2)

Sources: For additional details about these mergers and acquisitions see Energy Information Agency,

"Mergers and Acquisitions," http://www.eia.doe.gov/emeu/finance/mergers /summary.html.
August 2008 Page 17

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Genealogy of Major U.S. Refiners (Page 1 of 2)

Sources: For additional details about these mergers and acquisitions see Energy Information Agency,

"Mergers and Acquisitions," http://www.eia.doe.gov/emeu/finance/mergers /summary.html.
August 2008 Page 18

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

Genealogy of Major U.S. Refiners (Page 2 of 2)

Sources: For additional details about these mergers and acquisitions see Energy Information Agency,

"Mergers and Acquisitions," http://www.eia.doe.gov/emeu/finance/mergers /summary.html.
August 2008 Page 19

America’s Oil and Natural Gas Industry

The Facts About Oil Industry Mergers, Market Power and Fuel Prices:

An API Primer

References

Dahl, Carol (2007) “What Goes Down Must Come Up, A Review of the Factors Behind

Increasing Gasoline Prices, 1999-2006.” Colorado School of Mines, Golden, CO, April.

This research supported by API.

Muris, Timothy J. and Parker, Richard G. (2007) “A Dozen Facts You Should Know About

Antitrust and the Oil Industry.” Washington, DC, June.

U.S. Federal Trade Commission (FTC) (2005) “Gasoline Price Changes: The Dynamics

of Supply, Demand, and Competition.” Washington, DC, June.

U.S. Federal Trade Commission (FTC) (2006) “Investigation of Gasoline Price Manipulation

and Post-Katrina Gasoline Price Increases.” Washington, DC, Spring.

U.S. Federal Trade Commission (FTC) (2004) “The Petroleum Industry: Mergers, Structural

Change, and Antitrust Enforcement.” Washington, DC, August.

U.S. Federal Trade Commission (FTC) (2007) “Report on Spring/Summer 2006 Nationwide

Gasoline Price Increases.” Washington, DC, August.

U.S. Federal Trade Commission (FTC) (2004) “Statement of Federal Trade Commission

Chairman Timothy J. Muris on the GAO Study on 1990s Oil Mergers and Concentration

Released Today.” Washington, DC, May 27.

U.S. Government Accountability Office (GAO) (2004) “Energy Markets: Effects of Mergers

and Market Concentration in the US Petroleum Industry.” Washington, DC, May.
API Creative: 2008-126B |August 2008 | PDF

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