PUCSL calls for regulation in lubricant industry to halt greasy activity

By Shanuka Tissera

Amendments to the Petroleum Products (Special Provisions) Act have been finalised and approved by the Attorney General. It is expected that both bills will be presented to Parliament shortly for enactment.

Pending the enactment of new legislations, the Cabinet of Ministers has appointed the Public Utilities Commission of Sri Lanka (PUCSL) as the shadow regulator for the petroleum industry. With respect to the Ceylon Petroleum Corporation Act, the Attorney General’s opinion is being awaited.

Whilst PUCSL does not have any legal mandate for regulating the sector, it advises and assists the Ministry of Petroleum Industry on policy and regulatory matter with respect to the liberalisation of the lubricants industry.

The Petroleum Products (Special Provisions) (Amendments) Bill and the CPC (Amendment) Bill have been drafted based on the following principles: Adopting the most appropriate licensing regime in regard to the existing level of competition within the petroleum products market, as well as existing agreements with the Government; protecting the interest of consumers by regulating prices, if and when required until fair competition is established as well as the formulation of quality, safety, operation, environmental and emergency standards; and creating a level playing field and facilitating workable competition by establish non-discriminatory regulated access to essential infrastructure facilities as well as regulation in wholesale and retail markets.

Under the provisions of the Ceylon Petroleum Corporation Act, Minister of Petroleum Industries Susil Premajayantha has published an order in the Gazette saying: “Authority to import, export, self supply or distribute lubricants and greases may be granted by the Government of Sri Lanka (GOSL) to such technically qualified brand parties, providing that such lubricants confirm to quality standards by the Sri Lanka Standards Institution.”

Authorised parties operate under an agreement signed with the Government on payment of an annual registration fee.

“Awareness campaigns have become important over the last few decades. For the industrialists it is a very severe problem; there is no proper regulator for lubricant and petroleum. PUCSL legislation is almost complete and will provide the commission the power to regulate the petroleum sector,” said Chairman PUSCL, in collaboration with Minister of Petroleum Industries Dr. Jayatissa de Costa, PC.

The event marked the official PUCSL leaflet launch for the users of lubricants to enhance their knowledge. This is to be distributed through the market players and the lubricants market report published annually.

Dealing with prices

An issue dealt with on a day-to-day basis in the lubricant industry is long-term prices. Since 1997, prices have been increasing continuously. These will further increase in the future with global growth and the increasing demand in the petroleum sector.

Currently, world demand is weaker in major petroleum consuming countries. Supply side issues such as the turmoil in the Middle East and Eurozone crisis are causing an imbalance in the demand and supply equilibrium.

There is some stability in the petroleum sector and one thing is clear – this is a vital commodity for the whole world. Petrol is price inelastic and affects the Sri Lankan economy heavily. More resources have to be used to pay for the importing of petroleum products, thus Sri Lanka has been oil dependent for a long time with produce coming in from the Middle East.

The CPC’s monopoly status was present until early 2000 and since 2003, it was decided to bring in one more key player for products and distribution. When it comes to key petroleum products, like kerosene and oil, having only two players in the market can lead to problems like price wars, but after the conclusion of the war, the situation in the country is constantly fluctuating between highs and lows.

Uninterrupted supply is needed and before refineries were in place in 1969, all refined products were imported and there were no refineries. Since the mid ’90s, the major players have provided the entire supply. The recent performance of the petroleum sector has affected the Sri Lankan economy and all sectors and the Government has not allowed pricing to be determined solely by the supplier.

Another important issue is that the Ministry of Petroleum has not been highly efficient with respect to the supply of fuel oil for power plants. CPC provides the oil for electricity generation plants. The coverage of electricity has gone beyond 90% of the population and will continue to grow rapidly. Therefore, a new solution is needed.

A good proportion comes from thermal production as hydro is becoming stretched out. There has to be a balance with the importation of products by CPC as it is subsidised by the Government. Crude oil was the bulk of Sri Lankan imports in the ’70s but the structure of imports have changed today. If you look at expenditure, 35% is on crude and 60% on refineries.

“We have to remind ourselves that it requires a large capital handout from the Government. There are petrol sellers outside of the Middle East but we have not been able to get suppliers due to information gaps. Political turmoil has always been common in this region and the sanctions on Iran have affected the ability to obtain crude oil. Crude oil supply cannot be increased in the short-term; therefore we get hit price hikes. The amount of uncertainties are huge, it is of importance but difficult to change,” said Secretary to the Ministry of Petroleum Industries Dr. R.H.S. Samaratunge.

Lubricant industry to date

Sri Lanka is a small price taking country. The lubricant market, with a total of 58,554 KL of lubricants is worth Rs 18.7 billion, and was sold during 2011, out of which 70% of total sales were automotive products, while industrial, marine, and greases accounted for 16%, 6% an 4% respectively.

The market leader held a share of 57%, down from 65% in 2010 and the nearest competitor too saw a reduction in its market share to 11% from 12%. The market share of the remaining participants has increased considerably to 32% (from 23% in 2010). This is a result of several parties who entered the market upon full liberalisation in 2006, consolidating their positions in the markets.

Lubricant performance is affected by several factors; hence the product is price volatile. People must become performance and quality conscious. Compared to South Asian demand, Sri Lanka has 2-3% of the market, a very small share with majority being consumed by India.

Over 70% of consumption is in the automotive sector, while small quantities are also exported to other markets. Since its privatisation, there have been dynamic changes in the market, which is considered a healthy development. Generally however the growth has been constrained by turmoil around the world.

Imports: A total of 22,060 Kilo Litres of finished lubricants and greases worth Rs. 3,708 million were imported in 2011; automatic, industrial, marine and grease segments account for 11%, 4% and 12% respectively of the total imports. Base oils worth Rs. 4,753 million and additives worth Rs. 1,244 million were imported by the two parties authorised to blend and produce lubricants and greases

Exports: During 2011, 5,189 Kilo Litres of lubricant was exported to regional markets. This is a 63% increase with respect to 2010. There exists greater potential for such exports, especially in view of bilateral/multilateral concessionary trade agreements between Sri Lankan and other countries.

Production: During 2011, approximately 64% (33,400KL) of lubricant required was produced locally. Around 87% of blending was carried out at the lubricant blending plant of Chevron located at Kolonnawa, while the balance 13% was produced at the lubricant blending plant belonging to IOC located at China Bay. Local blending is done mainly to gain the advantage from the prevailing import tariff differential between raw materials and finished lubricants.

Government revenue: The Government received income from the authorised parties by way of a biannual fixed fee and in some cases a variable registration fee. This is equivalent to Rs. 1 million or 0.5% of total invoiced sales for that period, depending on which is higher, subject to a maximum of Rs. 5 million. In 2011, the Government received a total income of Rs. 51.6 million compared to Rs. 46.1 million in 2010.

Review of regulatory environment from industry player perspective

Currently, there are 14 licensed players, comprising of multinational, regional and local players including a state owned company. The market size is 55 million litres as per 2010 PUCSL report.

The lubricants industry faces many challenges today under the present local regulatory environment and the Petroleum Industry Act, which has the power to regulate the market, is yet to be enacted. The regulatory power under the Ministry of Petroleum created a conflict of interest since CPC competes with the other license holders. An issue needing immediate regulatory intervention is product adulteration and re-packing, estimated to be greater value than 5% of the total market. Mixing of original products purchased from licensed players with cheap solvents and sold as genuine products of licensed parties under the same brand is damaging the sector. Cases of cheaper brands being filled into expensive branded drums are deceiving retailers.

Chevron Lubricants Lanka PLC CEO/MD Kishu Gomes explained the changes being witnessed in the market today.

“In terms of the Petroleum Act, soon it is to be confirmed. Hopefully now it will become part of our law which is critical to the sustainability of this market. While there are 14 licensed parties, there are more who are marketing, buying, using, repacking, and retailing products.”

Examples: Hyundai Engineering has been granted permission to directly import lubricants for their own consumption. Imported brand SK Lubricants – Korea: one million litres per annum for two years so far). The Lalan Group of companies that directly imports thermic/heat transfer oil (more than 90% base oil content) for their own and customers’ consumption – over 100,000 litres annually.  “We are not lacking in quality and capability; we have everything that we require as a country, there has to be an end to this mal practice. Over Rs. 20 million has been spent in the last two years by Chevron to stop this unfavourable activity. The regulators need to look into all aspects and make it a punishable offence. The situation is very serious and has negative implications on society.”

The business case

Revenue opportunity to the Government: Estimated to be the value of over five million litres plus taxes and duties, sales commission, VAT, etc.

Honouring obligation to licensed players by the regulator: Economic impact and competitive investment climate in Sri Lanka.

Environmental protection/stewardship: Eliminating hazardous waste disposal, damaging the environment and causing health issues.

Why do we need independent regulation? Simply to ensure fairness to all stakeholders and end-users. This event marked the launch of the first education programme for the end user. It does not make economic sense that the Government can be the policymaker and regulator. Policymaking done by the Government can cause a conflict of interest, which is why PUCSL wishes to educate the end users as this would be fair and beneficial towards the consumer.

Price regulation: The cost reflective pricing methodology is the same as the Electricity Act. Recovery of reasonable costs incurred in authorised activities will be permitted. Sometimes the Government may need the service providers to subsidise prices depending on social factors.  If this happens, the Government should compensate for the subsidies. During price setting, PUCSL will do a public presentation. Once this new regime is introduced,

efficiency is set to.  

Consumer protection: The commission shall protect the rights of consumers against the marketing of goods and services which are hazardous to life and property, and against unfair trade practices.

“Even though we do not have the mandate yet, we want to educate individuals and a statement of rights and obligations of consumers will be published,” said Director General PUCSL Damitha Kumarasinghe.

Once the act is in place for the petroleum industry, greater awareness will be created among suppliers in this sector. The commission’s duty is to ensure fairness, which will happen through transparency.

Global demand

One-third of the global demand for base oil comes from the Asia pacific region: China with 5,500 KMT, Sri Lankan demand is approximately 50 Kilo Metric tons, Bangladesh is 61 KMT. The quality of the finished lubricant depends on the quality of the base oil.

All modern engines require multi-grade technology. Engine oil technology is moving towards lower viscosity grades. If the correct engine oil is not used in modern engines, there can be severe premature engine failures. Small engines like motorcycles also require modern additive chemistry and high quality base oils. The use of virgin base oils will maintain a high required quality.

Sri Lanka must take this industry to higher levels in parallel with new advancements in engine technology. Recycled base oils is a step back in technology, not forward.

“We see the direction, but need the action today. Together then we can create a sustainable environment for the better of Sri Lanka. In the international market, the quality of lubricants is governed by the standards published by American Petroleum Institute and Japan Automobile Standards Organisation. The Sri Lanka Standards Institute has developed Sri Lankan Standards for main lubricant categories and greases, which have been stipulated as the minimum standards for lubricants and greases in Sri Lanka. PUCSL has coordinated the preparation of Sri Lanka Standards by the Sri Lanka Standards Institute and served as a member of the Standards Committee,” asserted PUCSL Consultant Raja Amaratunga.