How petrol prices are calculated in South Africa
The petrol retail price is regulated by government and is adjusted every first Wednesday of the month. The calculation of petroleum product prices (petrol, diesel and illuminating paraffin) is done daily by the Central Energy Fund (CEF) on behalf of the Department of Mineral Resources and Energy (DMRE). The monthly price change which is made is essentially an average over a prior period applied to the future month. This means that South Africa fuel prices lag international prices by one month.
The petrol pump price is composed of a number of price elements which can be divided into international and domestic elements. The international element, or Basic Fuel price (BFP), in its simplest form is based on what it would cost a South African importer to buy petrol from an international refinery and to transport the product meeting local specification to South African shores. To this is added various government regulated taxes and levies and allowable margins to arrive at a fully built up price for petrol. Within this price build up are charges for NERSA operations and allowable distribution charges based on magisterial district zoning. The diesel retail price is not regulated although the DMRE presently publishes a wholesale list price for diesel.
After a detailed investigation in 2002, the BFP was implemented in 2003 by the then Department of Minerals and Energy (DME). The BFP replaced the IBLC formula which was previously in place which was composed of both ‘spot’ and ‘posted’ elements – spot prices being the current price at which oil can be bought or sold; posted prices being prices contacted by organisations for purchase and sale over a period that do not readily respond to changing market conditions.
In April 2003 the BFP pricing system was introduced to make free on board (FOB) prices 100% spot based using pricing from centres that were normally suppliers to South Africa in the event of imports. The spot prices used are:
- For petrol: 50% Mediterranean/50% Singapore.
- For diesel and paraffin: 50% Mediterranean/50% Arabian Gulf.
The Basic Fuel Price (BFP)
The BFP formula was an improvement in the way the system links to world markets and is still in use. The DOE is in the process of reviewing the BFP to ensure that assumptions used are still relevant and appropriate. If prices are to be controlled, it is prudent for the control mechanism to be linked to world markets.
The cost of shipping and related costs of importing into South Africa are added to these prices. The resultant dollar basic price is converted to rand at the daily $/R exchange rate ruling at 11:00 South African time. The main difference between the BFP and the IBLC is that the BFP is based on the spot prices quoted daily in specified international markets, whereas the IBLC was based on certain refinery gate postings which were found not to be reflective of actual market prices.
The Pricing System
- The external factors – the dollar price of the product on world markets multiplied by the US$/R exchange rate.
- The internal factors – the rand-based retail and oil company marketing margins, transport costs and taxes and levies.
The external factors move constantly and account for most of the monthly movements in prices. Both the world market price of oil and the exchange rate are outside the control of the industry. The Monthly Pricing System, whereby the controlled prices are changed on the first Wednesday of each month, takes account of movements in these factors. When the various internal factors are adjusted – usually once a year – these movements are also included in the relevant monthly price change.
Movements in the rand-based elements (internal factors) are subject to government control. They comprise adjustments in taxes and levies, transport costs, wholesale margins, retail margins and service costs. The overriding rationale of the control of prices and margins should be to ensure that the various stakeholders in the industry earn fair returns. The returns should be sufficient to encourage the needed investment in the industry, while not being such as to represent over-reward.
Evolution of the pricing system
Marketing profitability was previously governed by the Marketing of Petroleum Activities Return (MPAR) system. This system had its roots in the 1970s when the government of the day applied price control to various industries. Under the MPAR system, an aggregate oil industry marketing profit acceptable to government was between 10% and 20% of assets. Should returns fluctuate within the 10-20% band, then no increase or decrease would be due. Should returns go above 20%, then a margin decrease was indicated. Should the return fall through the 10% ‘floor’, a margin increase was indicated.
When an adjustment was made, the new cents per litre marketing margin was set at a level which would have delivered a 15% return for the year under review.
The MPAR system, as well as the guidelines to determine the service differential (secondary storage and distribution), was applied for the last time in 2004. The then Department of Mineral and Energy Affairs (DME) commenced with a review of the methodologies for setting wholesale, distribution and retail margins of petroleum products to remove hidden costs and cross subsidies between regulated and unregulated activities and between rural and urban retail sites.
The DME was also of the view that this review would assist in preparing the sector for eventual deregulation.
The review proposed the use of regulatory accounts to set appropriate margins for retail petrol. From 2004 until 2011, when the regulatory accounting system (RAS) transitional phase commenced, no regulatory system was in place to determine retail petrol wholesale, secondary storage and secondary distribution margins.
- The industry needs a predictable regulatory system to encourage investment by existing and new entrants.
- The margin needs to sufficiently reward investment across the value chain.
- Investment returns need to be sustainable.
The Regulatory Accounting System
The RAS determines margins for retail petrol only. The main reason is because retail petrol is a regulated product and the price per fuel zone is promulgated in the Government Gazette on a monthly basis.
The transitional phase of the RAS lasted for a period of two years with end-state implementation on 4 December 2013. The transitional phase was necessary to enable market players to prepare for the end-state implementation as this system leads to substantial changes in the way business was done in the past in the fuel industry.
RAS provides a transparent, justifiable and predictable mechanism that will provide acceptable returns to current and future investors in petroleum marketing activities in South Africa during the period in which these activities remain regulated.