This morning’s news that Delta had acquired an oil refinery in Pennsylvania is another example of vertical integration beyond what we have seen in recent years. It is however beyond of what I – as a predictor of extensive vertical re-integration – had expected. The question is what is the effective driver for this blunt move by the Delta leadership.

In the Reuter’s release, Delta is quoted as: “What we’re tackling here today is the jet crack spread, which you cannot hedge in the marketplace effectively. It’s the fastest single growing cost in our book of expense at Delta.” Effectively, Delta is entering into operational decisions in its upstream supply chain to effectively secure supply. Crude oil can be cracked into many different products, and the mix of products is subject to the decisions of the refiner. The refiners run complex optimization algorithms that are mainly driven by commodity prices. Effectively, this implies that a company like Delta does not just supply from a commodity jet fuel market, but competes for capacity with other fuel markets. In the last decade, an excess of refinery capacity has emerged due to a variety of reasons. Consequently, the oil companies have divested from their refineries and private equity has entered. Many refineries have been closed and supply and demand is moving towards balance again. However, if overall supply and demand are balanced, it means that the interactions between different fuel markets become stronger. And apparently the best way to handle this is to ensure availability of the fuel you need.

Paying 150 million dollars for a refinery is then a relative small investment, less than half of a single 747 airplane. Hence, the balance sheet effects – often argued in support of outsourcing – are minor for Delta. It also has apparently secured expertise for operating the refinery, and has made agreements with BP to ensure the refinery gets supplied by oil, and the distribution of jet fuel is assured by making the refinery part of a network.

A few years ago, we studied with a number of students the general direction that supply chains were moving to. The main conclusion was: vertical integration, mainly driven by scarce energy and scarce resources.We suspected this would be de facto vertical integration (not in one company, but in a single controlled supply chain), due to stock market pressure to limit assets. It now appears that de jure vertical integration may be the actual move. The cheap price at which many assets are for sale right now might further drive this.