Deregulating Pakistan’s oil challenges

Pakistan has been a net importer of both crude oil and refined products (petrol, diesel) since 1947 as crude or refined petroleum products produced locally have never been sufficient to meet the needs of the country. Refineries have struggled to even meet the demand, while the challenge for OMCs has been to secure timely cargoes of refined petroleum products to ensure an uninterrupted fuel-supply chain. However, this has not been without hiccups.

A spectrum of challenges that range from payment delays due to shortage of foreign currency, to competing with much larger orders, to storage capacity within Pakistan. The country’s myriad petroleum universe indeed requires a much-coordinated effort to ensure the wheels of commerce continue to move forward.

Identifying the needs of the country, at least this much has been decided; only Euro-V petrol and diesel can be imported into the country. This is the latest and common standard also used in Europe that mainly differentiates itself by its low sulphur content (10PPM). At this point it would be pertinent to mention that almost no refinery in Pakistan produces Euro-V fuel and their sulphur content is generally well above 500PPM and in some cases even above 1,000PPM. Although the refineries have talked about upgrading and ensuring a world class operation, time bears witness that it has been nothing more than lip service. In fact in some of the local refineries, it has been observed that the product made is not only of a lower standard due to their old design but is also by choice designed to maximise current profits, such as by making diesel which barely passes the flash point requirements. Most of these refineries have been reluctant to upgrade citing commercial challenges. Resultantly, consumers are being supplied with high sulphur products despite the fact that the standards require Euro-V, a standard that is strictly applicable to the importers of refined products, the OMCs.

The oil marketing sector too has gone through a variable change in the past couple of decades. Before the introduction of new players in the oil marketing business, there were a handful of companies with retail presence in the country, limiting the choices for the consumers. These companies had long term agreements with refineries and after local upliftment, they imported the deficit. Bear in mind refineries cannot even meet the local demand. Some of the same OMCs have business interests tied within the refineries. Now this has created a situation, a Catch-22 for those OMCs, like Gas and Oil Pakistan (GO), where we wait for our turn to pick product, not knowing if the promise to supply our share of the fuel will be honoured.

In addition to the issue of lower quality, it is observed that during periods of rising prices, refineries prioritise their established partners, whereas, in a declining price environment, they seek to distribute their allocations to other OMCs with whom they have limited or no prior relationships. For most of the first half of 2024, oil prices were showing a rising trend. Refineries were holding onto their stocks, feeding their long-term partners and making the most of inventory gains resulting from fortnightly announcement of price increases. However, as prices started to decline, as has been observed, refineries started to push their inventory to other OMCs in order to avoid inventory losses, the same OMCs that had been ignored and through their own efforts, had secured international suppliers.

Now when finally refineries are staring the prospect of losses due to increasing stocks and declining returns, OMCs are being bullied into buying surplus stocks. How is it that the refineries due to their miscalculation are pinning the blame on OMCs for increasing stocks? The same stocks that were built up in anticipation of higher prices but now the long-term partners of refineries are not keen on buying this stock, that will sit in their tanks and lose value when the price changes are announced! Not keen on bearing the brunt of losses, refineries are now insisting imports are stopped and their product, that is of low quality, a lot more harmful to the environment, made in inefficient refineries, is picked up by OMCs. The same product that their long-term partners are unwilling to buy. And all this in total disregard to the international contracts that the OMCs have agreed to.

In terms of the pricing regime, previously, petroleum products were priced monthly on the basis of PSO’s achieved costs acting as the benchmark. Over the years, mainly triggered by the price volatility during early COVID in 2020, pricing is now done fortnightly and on the basis of published average fortnightly Platts commonly referred to as MOPAG (Mean of Platts Arabian Gulf).

It should be noted that the local product is not being refused, instead, the refineries are unable to match the international suppliers’ terms and rely on old practices from days when imports were minimal and OMCs were a handful. GO has picked up record volumes from local refineries (well above its history and agreement) as logistically possible. The reality is that most if not all Pakistani refineries are unable to compete on either quality, efficiency or price with imported product. The irony is that even if some of these refineries genuinely wanted to sell their product to companies other than their long-term partners, there is a lack of facilities at these refineries to be able to deliver on the same. This is due to no pipeline connections of refineries with companies other than their regular OMC customers, lack of enough gantries to load tank trucks, and lack of mixed loading facilities (where tankers containing petrol and diesel in different chambers can be filled to send to retail outlets).

In the past, Oil & Gas Regulatory Authority (OGRA) was blamed for not allowing imports and causing a shortage. This time around, when OGRA has permitted the stock buildup, a propaganda campaign targeting importers and OGRA has been initiated.

If one looks at the data on diesel production and its uplifting by companies, it points to the fact that this is less about supply chain and more about pricing, profit maximization and loss minimization. And OGRA’s delay has made it known that it understands these underlying reasons. However, OGRA, being the regulator, needs to play a bigger role in curbing smuggling as this is causing losses of billions of rupees to the OMCs and billions of dollars to the government in the form of lost revenues.

Instead of blaming the OMCs importing, refineries should first focus on making sure that their long-term partners are fulfilling their upliftment obligations and that they make urgent plans to upgrade their refineries to match the Euro-V standard applicable to imports so this issue can be settled for the long term.

One of the positive steps taken towards resolution of the current crises is the Customs Bonded Warehouse Policy for import of Petroleum products. Pakistan is located very close to several sources of refined petroleum products and instead of facing disruptions from port congestion, weather related events, and trying to constantly bring inventory just in time, the new policy will allow a large quantity of product to be held in Pakistan and sold in line with approvals from OGRA. This will also provide a level playing field to the companies limited in some way, shape or form due to their ability to bring in cargos of a certain size. However, this also means an end to any opportunistic sales by the big boys of the industry.

As mentioned earlier, refineries need to upgrade and enhance capacities. Otherwise Pakistan will continue to import refined fuels. Unless we find large oil reserves, the country will depend on imported crude for the foreseeable future. Therefore, it is important to allow market forces take charge. Of course the best way forward to let it happen would be to deregulate the industry and let the refineries compete on commercial terms. Given where we are, I think the only major obstacle to deregulation is IFEM, and fully deregulated price regime could be brought in by phasing out IFEM in a sensible way. Deregulation will ensure better quality products from refineries at commercially competitive terms and force companies to improve their fuel quality and forecourt experience for the end consumer. It will also result in more investment by companies for the long term sustainability of their businesses and result in innovations and new products such as EV charging, better quality fuels, mobile fuelling, etc. ****

The author is Chief Operating Officer and Chief Financial Officer, GO, a partner of Aramco in Pakistan.