Competition, bulk buying, and demand forecasts lead to big pump price changes

When traveling around the country with family, gasoline stations are a familiar sight along the way. On the road the drivers will be looking for a gas station with the lowest price per liter.
Indeed, prices vary, and sometimes widely. The differences stem from such things as real estate taxes in the area, rental fees and employee wages, which can differ from station to station and locality to locality.
So even if the gas station buys its fuel at the same price from the oil companies, the retail prices are different. There are even gas stations that sell gas at a price lower than the wholesale price. All the information on different gasoline prices can be viewed at the Web site www.oilpricewatch.com. The Web site updates the retail price of gasoline at gas stations across the country.
According to the Web site, on Sept. 12 the cheapest diesel price offered at filling stations across the country was at an SK gas station in Boseong, South Jeolla province.
The diesel was being retailed at 1,145 won ($1.23) per liter. Since the wholesale price announced on Sept. 5, including tax, was 1,266 won per liter, the retail price at the gas station in Boseong was 121 won cheaper. On the same day there were 2,475 gas stations in the country that were selling diesel at 1,266 won per liter.
There are 11,000 gas stations in the country, which means that one out of every five gas stations sells at retail at a price lower than the wholesale price.
How is this possible? Are gas stations, as an old joke says, trying to sell at a loss and compensate by their sales volume?
The key to the secret is the structure of fuel distribution. That structure is the route that fuel travels from the producer to the retailer and how payments are made between the two.
The gas station receives its fuel through two routes. The first is a direct transaction between oil companies and gas stations. The second is when the fuel is distributed through a middleman.
Those middlemen, or “jobbers,” exist because it is difficult for a refiner to service directly all of Korea’s 11,000 gasoline stations. The middlemen, about 300 companies, fill that gap.
A large agency may supply 30 or so gasoline stations, while a smaller one may service only four or five.
Those extra hands that the gasoline passes through may seem a disadvantage to consumers; another handler means another profit margin and distribution costs, which would raise the gasoline price. But actually there are more cases in which gas stations that receive their supplies through a jobber retail gas at a cheaper price than those who buy direct.
The biggest reason is that oil companies supply gasoline at a lower price to agencies than when they sell directly to gas stations. If the oil companies tried to sell directly to gas stations the same quantity of fuel they distribute to agencies, the companies would have to increase their distribution fleets and the number of their employees. Agencies can purchase the products at a lower price because they buy it in bulk in a single transaction, which cuts back on expenses.
It is said by the industry that agencies don’t make much in the way of profit. Many of them do sell to their clients at prices below the direct wholesale price, allowing the gasoline stations to undercut the refiners’ wholesale prices. But those thin profit margins, as long as they exist, can indeed allow a distributor to make money because of the volume of product they handle.
And the oil companies discriminate in the price they post for distributors. A jobber that services 30 stations, for example, will get a lower price than one who buys enough only for the needs of four stations.
Additional discounts are given to distributors who pay cash rather than get credit terms from the refiner until they distribute their gasoline and use the proceeds to pay the supplier.
Those working on credit use “drafts,” or promissory notes, which say they will pay a stated amount of money to an oil company on a given date. There is an interest rate for that delayed payment, either stated or implicit in the price charged per liter. If the credit is extended for a month or two, the difference in price can be significant compared to a bulk buyer who pays cash on the spot.
There are also cases in which oil companies give a discount to gas stations that they supply directly. This is when competing gas stations are concentrated in the same area. If the oil companies supply gas at a relatively high price, the companies will lose sales because the gas stations they supply will lose business to competing stations nearby. The discounts are a competitive tool for the refiner to keep its clients busy pumping gas.
There are other cases in which oil companies, forecasting future trends in supply and demand, will sell gasoline and diesel fuel at much lower than normal prices. Oil companies study trends for future changes in crude oil as well as gasoline and diesel prices. If they believe oil product prices will drop sharply soon, they sell their output in huge quantities at a price below the normal wholesale price. This is usually the case before winter, when people reduce their vacation driving, which reduces the consumption of gasoline. In other words, gasoline pump prices have several things factored into them, such as the distribution structure, competition and forecasts of the market.
Then how are wholesale prices set? Every week, oil companies such as SK, GS Caltex, S-Oil and Hyundai Oilbank announce the wholesale prices of their products. This practice reflects the ever-changing price of crude oil in the international market. The reason oil products that we purchase do not change every day as they do in the international market is because oil companies purchase crude oil from foreign suppliers only once every three to seven days. When the oil companies set the wholesale price, they factor in the appropriate profit as well as the cost of crude oil and the expenses for refining the crude oil to produce gasoline, diesel and other oil products.
But the most important factor in setting wholesale prices is the price that oil products such as gasoline and diesel are traded at on the international market. The companies, of course, would like to set their prices as high as possible. But they can’t, because their competitors would start importing refined products and undercut those prices. For this reason, oil companies set the wholesale price of oil products in Korea according to product prices in the international market.
What this all means is that the posted wholesale price by oil companies is mostly fictional, other than serving as a relative price benchmark. Because the oil companies, as mentioned above, give several kinds of discounts to different buyers, there is no meaning to the term “the wholesale price.”
Customers can be deceived by all this. If a company announces a wholesale price of 1,400 won per liter and a driver sees a station selling gas at 1,550 won, he might think that’s reasonable. But he does not know what kinds of discounts went into the price the station paid. For that reason, some consumer advocates want “real” wholesale prices revealed.

by Kwon Hyuk-joo