Record Crude Price Rise to Eat Into Marketers' Profits

Local oil marketers are set to grow earnings at a slow pace as record crude prices eat into their margins, signalling low dividends for the firms' shareholders.

Crude prices have risen to $120 a barrel, from $50 in January last year, and the record crude prices do not translate into improved profits for the marketers.

Market conditions are such that high crude prices not only translate to decreased consumption, but also leave marketers with reduced profit margins per unit of sales since they do not pass on all the additional costs to consumers.

"The inability of the industry to fully pass on price increases to consumers resulted in depressed margins," reported Total Kenya in March while unveiling their end year results.

Energy analysts, led by investment bankers Goldman Sachs, warn that crude oil could soar to $200 a barrel in as little as six months as supply continues to struggle to meet demand.

The investment firm had predicted a year ago - when oil traded at about $55 a barrel - that it would pass $100, which it reached for the first time in January.

Crude at $200 a barrel will result in painful moments for consumers, fuel inflation and hurt the earnings of local oil marketers with the possibility of the industry sliding into losses looking real.

Oil marketers have been unable to pass on all the additional crude costs to consumers due to increased competition in the market that has seen pricing emerge as an arsenal for market share growth.

This has ignited a pricing war among the top three players - Kenya Shell, Kenol/Kobil and Total Kenya - as they battle to come top on the industry's market share rankings.

Still, the expected spike in crude prices will be made worse by the high cost environment that has gripped the industry over the past three years, egged on by the upfront payment of tax, pipeline capacity constraints and high freight charges.

Kenya Pipeline Company's pumping capacity has been stretched by rising demand for petroleum products in Kenya and export markets such as Uganda, Rwanda and Burundi as the region experiences an economic boom.

The pumping constraints have led to frequent fuel and oil shortages in western Kenya and Uganda as well as push the marketers' costs up as they turn to more expensive road transport.

The business environment for oil marketers was also upset by new tax regulations that require them to pay import duty at points of entry.

This resulted in the need for increased working capital among the industry players due to duty being paid up front, which pushed the industry's borrowings and financing costs upwards.

Freight charges have also followed suit on high fuel expenses and an increase in marine insurance, oil marketers say.

"The oil industry has been hit by extremely high prevailing marine premiums and sea freight," said Jacob Segman the group managing director of Kenol Kobil.

The change in the industry's cost structure has seen earnings in the oil sector grow at a snail pace over the period.

Listed firms Total Kenya and Kenol/Kobil have in recent weeks announced single digit growth in profits as sharp increases in costs continue to munch on the industry's revenues.

Kenol/Kobil, for example, posted a six per cent increase in its half year earnings to March 2008 despite its revenues having nearly doubled at 94 per cent over the period.

Total Kenya posted a 7.8 per cent increase in earnings for its full year ending December 2007.

The single digit growth figures is lower than the double digit growth figures the industry posted in previous years.

The depressed profit outlook at the time saw many big oil players including Mobil and British Petroleum (BP) exit the Kenyan market, citing the "difficult market conditions."

American oil firm Chevron, formerly Caltex, has also put its assets on the auction block following low returns from its Kenyan outfit.