Valero’s Dismal Earnings Had One Important Bright Spot: Renewable Diesel.

Source: By Avi Salzman, Barrons • Posted: Sunday, October 25, 2020

Valero announced that 40% of the money it is spending on growth projects in 2020 and 2021 will now go into renewable diesel, up from an earlier estimate of 30%. Luke Sharrett/Bloomberg

Like other refiners, Valero Energy has seen its core business of processing crude to turn it into products like gasoline fall hard during the pandemic. But one part of Valero’s business is accelerating, and it could point the way toward a more profitable future for refiners even as the world begins to transition away from oil.

Valero (VLO) reported a $464 million third-quarter loss, or $1.14 a share, on Thursday, versus $609 million in earnings in the quarter a year ago. The result was slightly better than what analysts had expected, but the stock was about flat on the day. It is down 56% this year.

One bright spot for Valero was its renewable diesel business. The company is in a joint venture with a company called Diamond Green Diesel that produces diesel fuel from recycled animal fats and used cooking oil and corn oil at a refinery in Norco, La.

In the third quarter, Valero’s renewable diesel segment reported $184 million of operating income, compared with $65 million for the third quarter of 2019. Renewable diesel sales volumes averaged 870,000 gallons a day in the third quarter of 2020, an increase of 232,000 gallons versus the third quarter of 2019.

Diamond Green Diesel is working on expanding the plant so that it can process 675 million gallons a year by next year, up from 275 million gallons. And it’s looking to open another renewables plant at a Valero refinery in Texas.

Valero announced that 40% of the money it is spending on growth projects in 2020 and 2021 will now go into renewable diesel, up from an earlier estimate of 30%.

The chemistry of renewable diesel is similar to diesel made from petroleum, and it emits less carbon. It performs similarly to other diesels, so it can be blended in high amounts—much more than biodiesel—another form of renewable fuel that is refined differently.

California jump-started the renewable diesel trend when its Low Carbon Fuel Standard program went into effect in 2011. Refiners and fuel importers have to buy credits if their fuel emits too much carbon, so they have incentives to produce low-carbon fuels like renewable diesel. California’s standards have steadily risen, causing the cost of credits to go up, too.

Renewable diesel still makes up less than 1% of the global diesel market, but it’s growing fast as more countries try to reduce carbon emissions and curb climate change.

Other refiners also see big opportunities in renewable diesel. Phillips 66 (PSX) announced in August that it would transition its San Francisco refinery into a renewables plant. It says the transition will cost $750 million, but it anticipates returns of at least 30%.

Some analysts are cautiously optimistic about the trend.

“The plan increases Phillips’ exposure to a segment that offers higher potential growth and returns relative to the traditional refining business,” Morgan Stanley analyst Benny Wong wrote after the August announcement. “The move also adds to Phillips’ ESG story which we anticipate will continue to be increasingly important to investors. However while the prospects of better growth and returns are exciting, we believe focus will be on execution, particularly around obtaining final regulatory approval.”

Permits have been a problem before for these plants. Phillips canceled another proposed plant in Washington state this year because of permitting delays. There are other questions.

“The ability to secure reliable feedstock at a competitive cost will also be key,” Wong wrote. “And finally, we believe investors will need time to fully buy into project economics that are supported by government subsidies.”

Write to Avi Salzman at