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Careful investors factor in fuel costs

By Peter V O'Brien

Friday 4th June 2004

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Shareholders in transport company Mainfreight will be relieved to learn that rising fuel costs will have no adverse affect on their company's profitability.

People involved in other sections of the economy will be less happy.

Mainfreight managing director Don Braid was reported this week as saying the cost of fuel was neutral to the company's business.

Price increases were passed on to customers and owner-drivers in the form of surcharges, according to press reports.

Cost increases of every kind are passed on through all business units forming parts of the production and distribution chain unless competitive pressure forces absorption of higher inputs with a consequent impact on margins.

Fuel is part of the cost structure, from producers or importers of raw materials through manufacturers, service providers and retailers to consumers.

A restaurant meal, for example, has fuel as part of its cost. Someone transported every input to the eatery except kitchen and front-of-house expenses.

A percentage margin would be added at each point, so a $1 increase at the start of the chain could become $1.46 at the end, assuming 10%, say, was the margin on cost over four stages to the final consumer.

The first 10% would be 10¢ on $1, but subsequent additions to the previous base become 11¢, 12.1¢, and 13.3¢, producing a rounded $1.46, rather than the $1.40 applicable if only a flat 10¢ was passed on at each stage.

Arguments about percentage and monetary margins were a regular feature of price control hearings before the then Price Tribunal and under the later price-setting functions of the Commerce Commission.

Percentages usually won the day.

The government is part of this system and has been for years.

It increases taxes on alcohol and tobacco each year, either in line with inflation and, in the case of tobacco, as punitive and disincentive measures.

The retail price of a beer or a packet of cigarettes always increases more than the additional tax impost.

The same procedure applies to fuel. An increase in taxes, for whatever purpose, passes down to the pump.

The government would get additional windfalls if the current situation of rising oil prices and a declining New Zealand dollar against the US currency continued in the medium to long-term.

Goods and services tax is levied these days on everything that is consumed in the internal economy, with the final consumer getting no gst credit.

Oil price increases came from general international situations and the decline in the currency raised the cost in New Zealand dollar terms.

GST is a percentage tax, rather than a monetary charge, so the government gets more money.

It obviously gets less when oil prices fall and/or the currency
appreciates, but that happy, sporadic occurrence seems unlikely in the immediate future.

Fuel prices affect all stock exchange-listed companies, to a greater or lesser extent.

Some, like Mainfreight, will find the higher cost neutral, but those at the end of the chain could be under pressure to absorb part or all of the increases.

The economy is more buoyant than during earlier oil price hikes of the 1970s and 1980s, so inflationary fallout from the current situation should have less impact on economic activity.

It is too early to say how retailers, for example, will react. Competition in the sector is severe and margins were being squeezed before the jump in oil prices.

The sector was expected to benefit as last week's budget increased the spending capacity of lower-income families.

It is unfortunate that most publicity about international oil prices and their effect on New Zealand concentrated on the cost of filling private motorists' tanks at service stations.

Private motorists can curtail their travelling if necessary, although few seem leave the vehicle in the garage.

It is difficult to curtail transport in the wider economy, nor to stop using plastics and other materials derived from oil.

Higher oil prices are another of the factors equity investors have to include in their equations, despite a reasonably buoyant local sharemarket.

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