In 2004 BP carved out its Olefins business and the Lavera (France) and Grangemouth (Scotland) refineries into an entity named Innovene. INEOS purchased this business from BP in 2005. As part of the sale, BP trading provided crude supply, products offtake and inventory financing post acquisition. INEOS went out to the market to seek a replacement for (and improvement on) the arrangement it had with BP. Morgan Stanley (MS) was ultimately selected as the replacement for BP. This transaction was unique in that it involved a full integration between a 3rd party trading organization (MS) and the refinery owner (INEOS). Through this structure, both parties were able to unlock significant commercial value that neither organization was capturing on its own. The structure involved INEOS’ refinery planners, logistics staff and traders being seconded to MS during the term of the agreement. MS created a joint trading book that provided INEOS with robust base supply and hedging services, while allowing both INEOS and MS to share in the significant commercial upside associated with trading around the set of assets. MS was able to greatly expand its European physical crude trading business and INEOS realized increased trading revenues compared to its prior arrangement. This transaction is emblematic of how commercial synergy can be created by a partnership between a refinery owner and a trading organization. The agreement was in place for 4 years, until INEOS formed a 50/50 JV with PetroChina.

In 2008, in continuation of his successful track record growing refining companies, Tom O’Malley engineered the formation of PBF under combined ownership by Petroplus, Blackstone and First Reserve. In 2010 PBF entered into separate transactions to buy Valero’s Paulsboro (NJ), Valero’s Delaware City (DE) and Sunoco’s Toledo (OH) refineries. As is common with early-stage refining companies, PBF decided that structured commodities solutions (intermediation agreements) were the logical alternative to fund working capital and manage supply/offtake for its newly acquired refineries. PBF partnered with MS for these facilities. MS quickly put in place structures in which it would fund inventory and offtake product for Paulsboro and Delaware City, as well as supply crude and fund inventory for Toledo. Under these agreements, PBF obtained pass-through pricing for Toledo crude supply, and market pricing (with upside sharing) for Paulsboro and Delaware City products. PBF eventually grew to the point at which it was positioned to manage product and crude trading itself, after which PBF terminated the Toledo arrangement (replacing it with conventional working capital finance) and converted the Paulsboro and Delaware City arrangements from product offtake to simple inventory funding arrangements. These transactions are a good example of how intermediation agreements can be used by a refinery buyer to obtain start-up working capital finance and supply services from a financial institution or trading organization.

SilverPeak Financial Partners purchased North Atlantic Refining Ltd (NARL) (and its refinery in Come-By-Chance, New Foundland) in 2014. A key element in SilverPeak’s acquisition funding was a products pre-pay and inventory funding agreement with Citi. Another key element in the acquisition’s success was a multi-year physical supply and offtake that  included a fixed fee tolling transaction with a major oil company. The tolling agreement provided the financial stability to support the products prepay by Citi as well as Citi’s funding of inventory. The prepay was structured as a day 1 payment to NARL in exchange for NARL’s delivery of refined product to Citi over the life of the deal. This collective structure is a good example of how the inherent crack spread length of a refinery can be used to lock in fixed revenues, which can support the initial funding needed to acquire the refinery.

In 2004 TransMontaigne (TMG) was a publicly traded company that was a major distributor of refined products in the US Southeast and Midwest. It moved about 350 KBD of gasoline and diesel through 32 terminals in Florida, along Colonial pipeline and on the Mississippi river. In 2005 it began to drop down its terminal assets into its newly formed MLP, TransMontaigne Partners LP (TLP). While the core business of product supply and marketing was profitable, the significant volume of inventory needed to support the business began to cloud the company’s quarterly earnings. The mark-to-market on inventory and hedges had a large impact on its earnings and the company struggled to present a clear picture of its financial health to investors. The company made the decision to partner with Morgan Stanley (MS) to capture synergy between TransMontaigne’s core business and MS’ core skills in trading and finance. The companies entered into a large, structured transaction under which MS managed the supply, hedging and inventory funding activities while TMG managed product sales, and TLP managed the terminal assets. The transaction effectively enabled TMG to shorten its supply chain, buying product delivered into terminal or at the rack, thereby eliminating the financial noise associated with inventory changes and market moves. MS ultimately purchased TMG, taking it private, at which time the structure was changed to reflect the common ownership between the two companies. 

United Airlines’ jet fuel supply profile was different from most airlines. Some of its largest hubs (Chicago and Denver) were far away from the major supply centers (the USGC and NYH). To improve on supply pricing, United had moved away from buying from traders and marketers on a delivered basis and was engaging in self-supply, purchasing jet fuel in the supply centers, and transporting it on pipelines to its hubs. This strategy was successful but as the airline began to struggle financially in the early 2000’s, the capital requirement associated with the inventory became too burdensome. United and Morgan Stanley (MS) entered into a structured transaction under which MS sourced the supply in the USGC and NYH, transported the jet fuel to the United hubs, and sold the fuel on a delivered basis to United. Demonstrating the synergy that can be created when an oil consumer attaches its demand to a professional trading organization, United was paid a share of the MS trading profits under the structure. In total, United was able to eliminate their working capital funding needs (at better interest rates), reduce hedge-related earnings volatility, and capture part of the trading upside associated with its large fuel demand.

SAF Group, a Canadian investment firm, entered into a strategy to profit from the growth in US crude exports in 2018. As part of this strategy, SAF obtained crude pipeline space from the US Midcontinent to the USGC as well as USGC export terminal space. While SAF had logistics and structuring expertise, it lacked the ability to engage directly in physical supply activities. The company partnered with Citi under a structure in which Citi took assignment of the logistics agreements, supplied crude oil, transported the oil to the USGC, hedged the associated market risks, and sold the crude to a major trader (designated by SAF) for export to international markets. Furthermore, the collateral required for Citi’s arbitrage hedges was in part provided by the offsetting position Citi obtained via the pipeline & terminal assignments, creating a collateral-light structure. This structure illustrates how a company with logistics assets can partner with a bank/trader to obtain (or outsource) essential trading and hedging services as well as how a bank/trader can use the combination of a logistics position plus a hedge to reduce hedge collateral requirements.

In 2003 and 2004, Apache acquired US Gulf of Mexico E&P assets from Shell and Kerr McGee. These assets had a mix of proved developed producing (PDP) reserves and undeveloped reserves. While the PDP reserves produced known and stable cash flow, they offered less developmental upside for the producer. Apache executed a creative strategy with Morgan Stanley (MS) to effectively carve out the PDP reserves from the day 1 acquisition. They did this by having MS buy a royalty interest in the PDP leases directly from Shell and Kerr McGee (the sellers) just prior to Apache’s acquisition. MS did this through a volumetric production payment (VPP), under which MS made a day 1 payment to the sellers, in exchange for the sellers delivering to MS a set schedule of hydrocarbons over a defined tenor. VPPs are non-recourse structures that rely only on the E&P asset for repayment. Through this structure, Apache was able to reshape the asset it bought from the sellers. They avoided having to invest capital in the less interesting PDP assets and improved their overall returns on the transaction. 

Chesapeake, like many producers, sourced capital from a variety of providers. One of the avenues it used was to sell a royalty interest in proved developed producing (PDP) reserves through a volumetric production payment (VPP). Under the VPP structures, Morgan Stanley (MS) purchased and paid (up front) for a defined volume to be delivered from the PDP leases or wells. To recover its up-front investment, MS received a scheduled quantity of hydrocarbons for a defined period in the future. These VPP structures provided an effective means for Chesapeake to diversify its funding sources.

Commercially active oil market participants generally use futures hedges to manage price risk on underlying physical positions. As market prices move, the hedger is economically neutral (with physical and futures mark to market offsetting each other). However, with extreme market moves, the hedger can end up having to post significant amounts of collateral to the futures exchange to cover its futures mark to market. This ties up funding. A liquidity swap can be used to provide an external source of funding for this exchange margin. Under the structure, a bank takes assignment of the hedger’s out of the money futures contracts and replaces that position with a matching over the counter (OTC) position. This lets the client maintain its underlying hedge position but eliminates the collateral posting to the futures exchange. The amount of collateral the client will need to post to the bank (for the OTC position) is a function of the credit allocation available to the client from the bank. This structure can be enhanced if the hedger is able to assign to the bank the underlying physical position (that first generated the hedging need). Under this scenario, the bank obtains a physical position that offsets the OTC exposure to the client. This combination of assets can provide the hedger with a greatly reduced collateral posting requirement compared to what would be required with the stand-alone OTC contract. These liquidity swaps have been executed numerous times recently, often utilizing the combination of offsetting physical positions (supply, transport and/or offtake agreements) with the OTC contracts to reduce collateral requirements.