The Value of Operational Flexibility in Uncertain Supply and Demand Environments with Oil Refining Applications

Petroleum oil refining is a series of complex processes that transforms crude oils with a wide range of quality characteristics into refined finished petroleum products sold to an end market. It begins with a distillation process that separates crude oil composed of a mixture of hydrocarbons into different fractions according to their boiling ranges. The fractions are then processed in various chemical and thermal units to improve quality and become components, intermediates, or semi-finished products that must be blended in certain proportions to make final petroleum products that meet the end market specifications. A refinery's profitability is largely determined by its ability to process crudes of diverse quality, and is also greatly influenced by the price movement on the input (crude oil) and output (petroleum product) markets. A main challenge faced by refineries is that crucial decisions such as crude oil procurement and initial refining are made in the face of output price uncertainty. In this paper, we present a stylized two-stage stochastic programming model to investigate the interconnection among crude procurement (mix of crude oils and quantity), intermediate processing (conversion from heavy to light fraction), and blending decisions for a profit maximizing refiner. Our emphasis is to understand how those decisions are affected by conditions of input and output markets and the refinery's processing capability, especially its two types of operational flexibility, namely, crude oil mixing in crude procurement and conversion of heavy (low-quality) fraction to light (high-quality) fraction in refining. We offer insights on the impact of market conditions on the values of conversion and mixing flexibility and the value-enhancement and value-diminution relationship between the two types of flexibility.

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Dr. N. Mishra 

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