Tuesday 20th August 2019
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The country’s fuel retailers may be earning close to $400 million a year in excess returns, and few expect any reduction in profitability any time soon, the Commerce Commission says.
An analysis of the capital employed by the firms showed their average returns have consistently exceeded the commission’s estimate of their weighted average cost of capital since Shell sold its local business in 2010.
The regulator says the New Zealand firms’ returns also exceeded those of their international peers since then, with that margin widening to about 15 percentage points in the three years to 2018.
While it is not uncommon for a firm to make excess returns in a competitive market, the commission said it would not expect all firms in a competitive industry to be consistently achieving excess returns, that the high returns would last as long as they have, or that the marginal seller in the industry – Gull – would also achieve “material” excess returns.
The commission estimated 8.6 percent as the upper bound for the industry’s weighted average cost of capital. All players earned at least twice that on average from 2016-2018, with Gull the highest at about 28 percent, followed by a grouping of Waitomo, NPD and GAS at almost 25 percent, and Z Energy at almost 23 percent. Mobil and BP came in at close to 20 percent and 18 percent respectively.
The commission acknowledged the limitations of trying to estimate excess return from a return on capital measure.
But it said they are an indicator and also noted that Gull and the other smaller retailers had achieved the highest returns while investing heavily in new sites and payment systems to collectively grow their market share significantly in recent years.
“Our current view is that evidence of excess returns by the suppliers, who in recent years have been the main source of increased supply of fuel to the retail market, indicates that the retail fuel market is not functioning competitively. Demand is growing slowly, and we have seen little evidence that suggests New Zealand requires more fuel sites,” the commission said in its 424-page draft report.
While some dealer-owned sites are struggling, “our preliminary view is that the majors and these smaller firms are all benefitting from above-competitive levels of retail fuel prices. The cost of this is borne by consumers.”
Shares in Z Energy, the country’s biggest fuel retailer, fell as much as 3.8 percent to $6.36 before closing at $6.41 today.
The government asked the commission to investigate the $10 billion a year retail fuel industry after a 2017 study led by the Ministry of Business, Innovation and Employment found fuel pricing in some parts of the country may not be reasonable.
That work highlighted increasing importer margins, the lack of a liquid wholesale fuel market and the control the major firms have over most of the fuel storage around the country and the competitive advantage that provides against newcomers.
Commission chair Anna Rawlings today noted that her organisation’s work – the first under new market study powers granted last year – were consistent with MBIE’s earlier findings.
It is now seeking feedback on a range of potential options – mostly aimed at increasing competition in the wholesale fuels market by removing restrictive provisions from term fuel contracts and encouraging more switching of supply.
It also wants to increase access to infrastructure controlled by the three major firms, and is keen to see owners of new storage facilities – like Gull and Timaru Oil Services – be able to join the national borrow-and-loan scheme that operates among the majors, providing them with access to fuel across the country while avoiding duplication.
Z Energy chief executive Mike Bennetts said on a conference call that he was surprised by the return on capital the commission had estimated for the company, which he said “at best” had been in the “low-teens” in recent years.
But he said the company had no problem with many of the commission’s proposals, including around posting of premium petrol prices and reform of the way information is shared when determining volume allocations at the Marsden Point refinery.
Competitor access to terminal infrastructure was a more “tricky area” he said, given the investments firms had made to achieve those positions.
But he said the company does favour reform of the historic industry arrangements. He noted that the firm is not recovering its weighted cost of capital on its infrastructure assets and could expect to be advantaged relative to the other major players if the industry and the government can come up with workable means to improve competition in that wholesale segment.
The commission is seeking comments on its proposals by Sept. 13 and aims to submit final recommendations to the government by Dec. 5.
In its paper, the commission noted that it favours options that are feasible and with a cost proportionate to the potential benefit the changes may deliver for consumers.
Rawlings told journalists today some of the options could be taken up by industry itself, which may be faster than regulatory intervention.
Gull general manager Dave Bodger was sceptical that the consultation process would result in an industry consensus, given the lack of consensus to date on any competitive matters.
And while he was yet to examine the commission’s estimates of Gull’s recent returns, he was “unapologetic” for running an efficient business.
Gull, he said, ran a lean business from a single import terminal with a shoe-string staff in order to deliver lower fuel prices wherever it operates.
If it was able to deliver the returns the commission estimates, why do the majors need the scale of marketing promotions and television advertising they rely on, he asked.
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