Downstream liquid fuels sector: input by wholesalers, storage sub-sectors and retailers; Liquid fuels pricing: briefing by Department of Energy

Energy

23 July 2013
Chairperson: Mr S Njikelana (ANC)
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Meeting Summary

The Fuel Retailers Association (FRA), the Liquid Fuels Wholesalers Association (LFWA) and the South African Petroleum Retailers Association (SAPRA) briefed the Committee and the Department of Energy (DoE) on challenges and opportunities which came about as a result of the downstream liquid fuels sector (refining of petroleum crude oil and the processing of raw natural gas). The storage sector was also supposed to have briefed the Committee, but no representative from the sector was present. Wholesalers and storage were key aspects of the downstream sector, and they needed to be discussed in greater detail. The status quo in the downstream sector needed to be identified and addressed adequately. South Africa was an importer of crude oil, and that had an impact on the energy sector overall. The DoE also briefed the Committee on the subject and responded to the questions and concerns raised by the presenters.

The Department of Energy stated that the fuels sector in South Africa contributed greatly to the economy, contributing a turnover of ± R300 billion per annum. This contribution also provided a significant contribution to the electricity sector, especially for primary energy costs such as diesel. Geopolitics was a key factor which needed to be considered when discussing the downstream sector, seeing that South Africa imported high volumes of crude oil. In assessing the state of the Downstream Liquid Fuels sector in the country, the DoE said the historical framework of the sector needed to be well understood, and how the sector has evolved over the years. Post-1994 policy developments were of important significance which were:
▪ Energy White Paper Policy, 1998
▪ Liquid Fuels Charter, 2000
▪ End of Sasol ‘Blue Pump’ Agreement, 2003
▪ Petroleum Products Amendment Act, 2003
▪ Phasing out of lead in petrol (Clean Fuels 1), 2006
▪ Petroleum Licensing Regime, 2006
These policy developments were put in place to transform the sector, however transformation in the sector was still happening at an alarmingly slow rate; 78% of dealers were white, and 22% were owned by Indians. 93% of companies were owned by whites, 6% by black people and 1% were owned by Indians.

According to the Fuel Retailers Association, the regulator played an important role in protecting the consumer from high prices and unnecessary costs. Added to that, industry survival and the security of supply were also considered by the regulator; social issues such as the enhancement of Integrated Energy Centres. The problem of ownership between the oil companies and the retailers was a serious concern which needed to be addressed, and the existence of unregulated margins put retailers under immense pressure. Fuel Retailers Association believed that Petroleum Products Act provided the necessary tools to change the lives of retailers positively but the Act needed to be fully implemented, including review and enforcement of all prohibitions provided for in the Act. Margins needed to be controlled; they needed to be regulated. Wholesale prices also needed to be controlled.

According to the South African Petroleum Retailers Association, competition in the industry was brand based. Diesel was not regulated, and this meant that retailers could charge whatever price they wanted. In the previous year, there was a 20% increase in the price of fuel per litre; and increased prices resulted in decreased sales. In addition, about 60% of sites were owned by oil companies. Some of the challenges faced by retailers were rising insurance costs, increased finance costs, increased labour unrest, increased vertical integration, safety and security standards agreements, costs of contamination and/or spillage and the costs of oil companies competing. Armed robberies were also a major contributing factor to losses in fuel sales.

The Liquid Fuels Wholesalers Association distinguished between three types of wholesalers: integrated wholesalers, non-integrated wholesalers and trade wholesalers. The LFWA argued that one of the major hindrances to transformation was that the industry was not very attractive because of the current cost recovery and pricing modes which did not promote “an efficient and wholesaling sector”. In addition, the Moerane Commission needed a holistic review of the tariff and pricing structures.

Members agreed that the presentations were of great detail and depth, however, there was not enough time for Members to tackle all the concerns they would have liked to. Questions raised included whether there were enough storage facilities for Liquid Petroleum Gas (LPG) and how the DoE planned to address storage shortages. Members agreed that the retail industry needed urgent intervention for development to happen. The Durban harbour and the challenges of storage were flagged and Members asked what plans the DoE had in place to address these. What was meant by cross-subsidies? Why was the pricing structure different between rural and urban areas, with rural areas being more expensive? What was DoE’s plans to address the slow process of transformation? How was licensing going to address this? What were the legislative gaps which needed to be tackled? What role did NERSA play in encouraging transformative legislation?
 

Meeting report

Chairperson’s opening remarks
The Chairperson said the presentations were large in size. The focus of the meeting would be on the downstream component of the liquid fuels sector. In the past, the focus of the Committee had been on refineries or upstream sector. The downstream sector only paid attention to retailers but wholesalers and storage were also key aspects of the downstream sector, and they needed to be discussed in greater detail. The status quo in the downstream sector needed to be identified and addressed adequately. South Africa was an importer of crude oil, and that had an impact on the energy sector overall. Added to that, the pricing issue needed to be considered and linked to the regional context, seeing that South Africa was a member of the South African Development Community (SADC). Whatever happened in the country had some effect on the socio-economic well being of our neighbouring countries. He raised a concern about the absence of representatives from the storage sector.

Department of Energy (DoE): State of the Downstream Liquid Fuels Sector in South Africa  
Mr Tseliso Maqubela, Deputy Director General: Hydrocarbons and Energy Planning, extended an apology from the Director General who was unable to attend the meeting. He explained that the fuels sector in South Africa contributed greatly to the country’s economy, and that the sector contributed a turnover of around R300 billion per annum. This contribution also made a significant contribution to the electricity sector, especially for primary energy costs such as diesel. According to the Monetary Policy Committee, markets had been hit hard as the currency weakened. Geopolitics was also becoming a bit more challenging; the crisis in Egypt, for example, had a serious impact on crude oil pricing. The conflict between Sudan and South-Sudan also had an impact in the rise of fuel prices, as well as the major rail accident in Canada. It was alsohurricane season in North America, and that too would have an impact on the pricing of products. The tightening of sanctions in Iran by the United States contributed significantly to the rising price of crude oil. In the midst of all of this; South Africa needed to look very closely at its national interests, with a strict focus on compliance with fuel specifications. Non-compliance would be dealt with according to the full might of the law. The Department was therefore embarking on a serious road towards better regulation and better access to the country’s energy resources.

Presentation: DoE, State of the Downstream Liquid Fuels Sector in South
Mr Victor Sibiya, DoE Chief Director: Petroleum, Licensing and Compliance Monitoring, said it was important that one understood the context and the history of the sector, which was more than 100 years old. He explained that in the first half of the 1950s, the government-initiated project to produce oil from South Africa’s abundant low-grade coal reserves, saw the formation of the South African Coal, Oil and Gas Corporation Limited, later called Sasol Limited. In 1955 the first oil from the coal synthetic fuel plant Sasol One was constructed. The international oil crisis of 1973 accelerated government’s plans to expand the capacity of Sasol’s oil-from-coal facilities. In 1987 when natural gas condensate was discovered off shore, the Government built a gas-to-liquids plant at Mossel Bay (now owned and operated by PetroSA). In addition, government encouraged private sector initiatives such as investment in local refining capacity. Post-1994, there were significant development in the Downstream Petroleum Sector, these were:
▪ Energy White Paper Policy, 1998
▪ Liquid Fuels Charter, 2000
▪ End of Sasol ‘Blue Pump’ Agreement, 2003
▪ Petroleum Products Amendment Act, 2003
▪ Phasing out of lead in petrol (Clean Fuels 1), 2006
▪ Petroleum Licensing Regime, 2006.
 

Mr Sibiya pointed out that these significant development in policy were put in place in an attempt to transform the sector. The downstream petroleum sector was a significant one in South Africa as the country relied heavily on imported crude oil. This then contributed to the establishment of a refinery capacity at the coast, some considerable distance from the country’s inland industrial hub, the major market for fuel products. The sector therefore contributed about 6.48% to the national Gross Domestic Production (GDP) in 2012, however the slow rates of transformation within the sector where a major concern. The dominant petroleum companies in South Africa are BP, Chevron, Engen, PetroSA, Sasol, Shell and Total SA, and they are major distributors of petroleum products in the country. They operate storage terminals and distribution facilities at the major ports and have distribution facilities throughout South Africa. Since 2006, any person who manufactured, wholesale and/or retail prescribed petroleum products was required to be licensed by the Controller of Petroleum Products. With regard to transformation, 78% of dealers were white, and 22% were owned by Indians. Whites owned 93% of companies, black people 6% and Indians 1%. This was a challenge which the Department was yet to tackle sufficiently. Some of the generic challenges in the Petroleum Downstream sector were:
• Lack of Capacity to negotiate and manage contracts e.g. the structure of royalties and rental payments
• Unreliable product suppliers
• Goodwill was not regulated, therefore the seller was at liberty to charge any price
• No initial training was provided for entrepreneurship and business skills
• Financial constraints
• Low gross profit margins due to high costs of loans to Black retailers
• Some old evergreen agreements with white retailers, property owners and developers.

Mr Sibiya proposed that a way forward would be that of aligning Liquid Fuels Charter (LFC) to the BBBEE codes of good practice. The establishment of a Charter Council was also necessary. An audit of the transformation in the retail sector needed to be conducted, while licencing could also be used to enforce transformation in the sector to address legislative gaps.

The Chairperson thanked the DoE for the presentation and requested that the following presentation pay specific focus to the storage sector, as no attention had been given to it yet.

Fuel Retailers Association (FRA) perspectives on the fuel retail industry in South Africa
Mr Reggie Sibiya, CEO: Fuel Retailers Association, said the challenges in the Fuel Retailers sector needed to be addressed. He thanked the DoE team for the Department’s endless support to the association. The FRA was part of the Regulatory Accounts System where the sustainability of SMMEs in the downstream chain was ensured. The motoring industry and the DoE were two of the main stakeholders. FRA was there to also collect fuel taxes from the consumers. He said the retail industry was a very complex one, however the opportunities and challenges within this sector needed to be understood and evaluated. The regulator played an important role in protecting the consumer from high prices and unnecessary costs. Added to that, industry survival and the security of supply had also to be considered by the Regulator. There were social issues such as the enhancement of Integrated Energy Centres. However, the biggest challenge was regulatory uncertainty. Te FRA was not sure how retailer margin would affect the sustainability of the Fuel Retail Industry. There were a number of policy and legal instruments which governed the sector, these were:
▪ Franchise Agreements
▪ Petroleum Products Amendment Act
▪ Consumer Protection Act
▪ National Environment Management Act
▪ Labour Relations Act.

Mr Sibiya said Franchise Agreements and the Petroleum Products Amendment Act contradicted each other in many respects, and this meant that the two pieces of legislation needed to be reviewed on a regular basis. He highlighted that the Fuel Retail Industry supported about 4500 SMMEs and created over 70 000 jobs nationally. The Petroleum Products Amendment Act also created a number of opportunities for retailers. These included the licencing of all petroleum activities and the introduction of a balance of power between retailers and wholesalers, to name a few. However, the existence of regulated and unregulated price points within the same value chain put retailer margins under pressure as wholesale prices were unregulated. The retail margin was the most contested portion of the value chain between retailers and oil companies. The retail market was however still the lowest share of the pump build up price. The fuel environment was vertically integrated. The problem of ownership between the oil companies and the retailers was a serious concern which needed to be addressed, and the existence of unregulated and regulated margins put retailers under immense pressure. One of the objectives of the Petroleum Products Act of 1977 (as amended), was to promote the development of SMMEs in the retailing sector, however, vertical integration was prohibited. The pricing model thus needed to be congruent with the other objectives of the Act; the Act prohibited the wholesaler from operating the business and yet pricing allowed wholesalers to earn a profit relating to operating the business. The key objective of the Petroleum Products Act was ensuring availability of liquid fuels in all corners of South Africa.

Mr Sibiya concluded that retailers believe that Petroleum Products Act provided the necessary tools to change the lives of retailers positively but the Act needed to be fully implemented, including review and enforcement of all prohibitions provided for in the Act. Margins needed to be controlled; they needed to be regulated. Wholesale prices also needed to be controlled.

South African Petroleum Retailers Association (SAPRA) briefing
Mr Gerrie Lewies, SAPRA National Chairman, said most of the points in his address had already been discussed by the previous presenters. He explained that the retail fuel industry was a highly regulated industry, and it was part of the Regulatory Accounting System which would be implemented in December 2013. SAPRA represented about 4 200 service stations and approximately 6 000 retail licences had been issued over the years. Competition in the industry was however brand based. Diesel was not regulated, and this meant that retailers could charge whatever price they wanted. In the previous year, there was a 20% increase in the price of fuel per litre; and increased prices resulted in decreased sales. In addition, about 60% of sites were owned by oil companies. Some of the challenges faced by retailers were that increased finance costs, increased labour unrest, increased vertical integration, increased costs of insurance, safety and security standards agreements, costs of contamination and/or spillage and the costs of oil companies competing. Armed robberies were also a major contributing factor to losses in fuel sales.

Mr Lewies thanked the DoE for their dedicated effort towards the implementation of the Regulatory Accounting System (RAS). He highlighted that SAPRA would continue to work closely with the Dealer Council and the DoE to implement the principles of RAS to help fuel retailers secure their future. All other relevant stakeholders would also be engaged positively to address the challenges facing fuel retailers.

Liquid Fuels Wholesalers Association (LFWA) briefing
Mr Greg Moldenhauer, LFWA Chairman, said the focus of his presentation would be explaining the different types of wholesalers and the constraints to transformation within the sector. According to some licencing information found on the DoE’s website, there were three types of wholesalers:
▪ Integrated Wholesalers – which were the major oil companies which were engaged in refining and wholesaling
▪ Non Integrated Wholesalers- these were independent wholesalers who were engaged in wholesaling with infrastructure
▪ Trade Wholesalers – Independent wholesalers engaged in wholesaling without infrastructure

Mr Moldenhauer explained that previously integrated wholesalers supplied the market from refinery to end user, and averaging and cross subsidies were accepted as the norm when performing all the activities (storage, handling and transport). This methodology created two different types of customers; those whose actual costs were below average costs recovered and those whose actual costs were above the costs recovered. These different types of customers were largely determined by area, mostly urban versus rural. Many Independent Wholesalers have therefore been set up to fail. They incur the actual costs of doing business which they cannot offset with the cross subsidies of doing business in areas where the costs are below the average. The Integrated Wholesalers remain in full control of the margins since they control the product supply and supply chain. Integrated wholesalers partially remunerate the independent wholesalers via rebates or discounts. New entrants to the sector therefore are candidates for failure; deregulation would be a recipe for full disaster. Some of the concerns raised by independent wholesalers were that they were not protected by regulations as fuel retailers, the Wholesale Margin and Service Differential did not include all the costs or the actual costs of servicing the market, and they purchased products at a non-activity based price and sell to retailers at activity based prices. The Wholesale Margin therefore needed to be reviewed, as well as secondary storage and distribution. Cross subsidies must be removed. Independent wholesalers negotiations with integrated wholesalers must be activity based and the playing field between these two must be levelled. One of the major hindrances to transformation was that the industry was not very attractive because of the current cost recovery and pricing modes which did not promote “an efficient and wholesaling sector”. In addition, the Moerane Commission also needed a holistic review on tariff and pricing structures.

National Energy Regulator of South Africa (NERSA) briefing
Mr Arthur Lees-Rolfe, NERSA Executive Manager: Petroleum Pipelines Regulation, commented on storage noting third party access into existing licensing. Out of 163 storage units, 143 were licenced. NERSA also had a tight storage facility in Island View, Durban, and different products were stored there. There were two Liquid Petroleum Gas storage facilities which were under construction, one was in Saldahna Bay. Most oil companies were already being upgraded to accommodate the growing fuel rates. A concern however was that of low storage for day storage. In a study conducted by NERSA, Durban did not have many constraints to tankage; however there were concerns about vessels, as most crude was handled off shore.

Discussion
The Chairperson thanked all the presenters. He said, among other things, the Committee was interested in finding out the legislative gaps in the sector in order to devise ways of addressing them in a timely manner.

Mr J Smalle (DA) agreed that the market was a challenging one, and one which was not easily understood. He asked what type of skills were needed to make the industry more of a success, and whether partnerships with other departments such as the Department of Trade and Industry was a consideration. He agreed that the storage sector was a concern due to independent wholesalers access to storage for development. The burdens that came from regulations were not good. The DoE also needed to set targets or percentage goals as benchmarks for performance and transformation within the sector.

Mr J Selau (ANC) said the DoE had been too soft in respect of regulations and compliance. An inspectorate also needed to be included. He added that the retail business needed urgent intervention; infrastructure in the retail business was currently not encouraging to new entrants.

Ms N Mathibela (ANC) asked whether the small vessel store in Durban could be expanded or whether a bigger storage vessel could be erected. She asked how it was possible that some wholesalers traded without any infrastructure. What was meant by cross subsidies? Why was there a difference in the prices for rural and urban areas; why were the rural areas more expensive?

Mr L Greyling (ID) asked whether there were enough storage facilities for LPG.

Mr Selau asked what was implied by SMME and what role did cooperatives play in the sector. He asked that the DoE outline its plans for addressing the status quo which was unfavourable to new entrants. What were the DoE’s plans to address the slow process of transformation? How was licensing going to address the issue?

The Chairperson referred to the shortage of suitable sites and the challenges to transferability and asked what role municipalities played in addressing this. To what extend had licensing been used to enforce transformation? What were the legislative gaps which needed to be tackled? What role did NERSA play in encouraging transformative legislation? What were the exact storage constraints in Durban and what plans were there to resolve them?

Mr Maqubela said the DoE team would be responding to the questions posed. He agreed that the sector was a fairly complex one, and regulation was not an easy issue to tackle. The DoE has however created a petroleum regulation branch to respond to regulation matters. The 1998 White Paper spoke about ‘orderly liberalisation’, therefore diesel was a policy matter. The DoE however was devising fuel efficiency initiatives, and these might lead to dropped sales volumes. He requested that the DoE be allowed to come back in two months to brief the Committee on the situation in Durban.

Mr Robert Maake, DoE Director: Fuel Pricing and Supply, DoE commented that the DoE was busy developing alternatives to crude oil. Oil supplies were increasing from Nigeria, Angola and Saudi Arabia. However, policy matters such as diesel were being addressed by the Department’s pricing policies. He reiterated the concern that the industry was vertically integrated and this resulted in retail margin split.

Mr Hein Baard, DoE Fuel Pricing Specialist, said the Regulatory Accounting System was implemented in December 2012, and it was an activity-based system. Wholesale was ring-fenced and storage facilities were also ring-fenced. These systems were there to recover costs and a return on these assets. On the question on rural versus urban price differences, the main difference in costs was the difference in price structure in transport costs. Primary costs were high from inland to rural areas.

Mr Victor Sibiya, in his response, said it was important that the history and the structure of the sector be understood, and this posed a challenge for the DoE in enforcing the law when it came to transformation. He added that in the past, strong national oil companies cushioned the change which the government wanted to implement. Now, the DoE was forcing relationships with the private sector as the petroleum sector was a very strategic one in the fuels sector and transformation needed to be handled sensitively. On the question on licensing, he said there were four different types of wholesalers, and each had a separate licence. The DoE however would be bringing together these licences under one licence. As for how licensing contributed to transformation, he said licensing was started in 2006, and those who were already operating were deemed to be licence holders, most of whom were white owners. This therefore had not contributed to the lack of transformation. One gap in legislation was that wholesalers were currently treated as being the same, and this needed to be changed.

Mr Maqubela replied to the question on transformation and said the DoE had a plan in place and players in the sector would see the plan as it unfolded. He said the DoE did not want to speak too much about the plan as it was still under way.

Mr Reggie Sibiya thanked the Committee for listening and understanding the issues raised by the FRA. He said deregulation would not necessarily lead to prices dropping, he suggested that the public be educated on the matter of deregulation. On the question on cooperatives, the DoE was in favour of an integrated energy sector in order to create and efficient network. Regardless, security of supply needed to be sustained.

Mr Moldenhauer said there were two types of wholesalers, integrated and non-integrated. Integrated wholesaler refines products and imports them, a non-integrated wholesaler were independent wholesalers. Independent wholesalers were wholesalers which did not have assets. On the question of cross-subsidies, the costs of running a depot were recovered by averages; some depots were large and extremely efficient, while small depots were usually less efficient and were usually found in rural areas. Costs to run depots in rural areas were very high. Wholesalers with no infrastructure, operated through supply agreements with very beneficial pricing mechanisms.

Mr Lees-Rolfe replied about storage of LPG, and said there was currently a large storage area coming available for LPG, a full depot facility would be built outside Port Elizabeth. On the question of Durban harbour and the use of small vessels, he said the harbour could be made bigger but the existing tankers would be extremely limited. The focus at the moment was on the folding arms for moving around the pipelines.

The Chairperson thanked all presenters. He said liquid fuels pricing would be linked to Energy Pricing at another meeting because there was not enough time. There were still a lot of unanswered questions as there was not enough time to tackle all of them. The Downstream Sector had a turnover of about R300 billion and needed more attention. He added that the Committee needed to know the extent to which the DoE had implemented the Moerane Commission recommendations. The Committee also wanted to know the extent to which the DoE had handled labour issues. He said a number of very interesting issues had been raised throughout the meeting.

The meeting is adjourned

[Apologies: Mr S Radebe (ANC), Mr K Moloto (ANC), Prof S Mayathula (ANC)]

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