ISLAMABAD: Days before its dissolution, the cabinet of former prime minister Imran Khan approved a change in mechanism of high-speed diesel (HSD) prices to replace the fixed negotiated premium of long-term supplier Kuwait Petroleum Company (KPC) with a higher market-based weighted average.

The change was approved through circulation by the federal cabinet on the basis of an earlier decision of the Economic Coordination Committee (ECC) to ensure diesel availability during the harvesting season amid volatile international markets. This allows an increase in premium charged to Pakistani importers by spot traders for an interim period of three months — April-June.

In a communication to the Petroleum Division and Oil and Gas Regulatory Authority (Ogra), the Cabinet Division has conveyed the “ratification” of the ECC decision by the federal cabinet with a directive to report the implementation status of the decision to it.

Record shows the cabinet was informed that the Petroleum Division had after consultations with Ogra in a series of meetings concluded that the KPC premium should be excluded from price computation for the period from April to June 2022.

Accordingly, the premium on HSD import has now been benchmarked on Pakistan State Oil’s average tendered premiums for the previous fortnight.

In case there is no tender by the PSO in a particular fortnight, the premium from previous tender would be used for calculating HSD’s ex-refinery price. However, this arrangement may lead to some benefits for the PSO and local refineries, which would be adjusted by Ogra for recovery through inland freight equalisation mechanism (IFEM). “This mechanism would be reviewed on the recommendation of Ogra on a fortnightly basis,” the Cabinet Division said.

The ECC had in a special single-point meeting on March 25 cleared the mechanism to address a challenging market situation and avoid the shortage of HSD even if it was procured at a higher premium as a part of the additional impact of higher premium would be adjusted within the IFEM by the regulator and the remaining would be picked up by the government. The new mechanism would practically come into force after price review due on April 15.

Prices of all petroleum products, including HSD, have already been frozen for four months by the former prime minister. Under the decision, the HSD price calculation would not be based on the premium being charged by Kuwait Petroleum Company, PSO’s long-term supplier, but on average of the prevailing market-based premium.

Under the existing pricing mechanism for HSD and petrol, the base price is fixed on the basis of 15 days’ average FOB (freight on board) prices of the Arab Gulf market (published in the Platts Oilgram). For this base price, PSO’s last available average import premium and incidental charges (including bank charges for letters of credit, wharfage, port charges, etc) are added to arrive at C&F (cost and freight) prices for finalising the local consumer prices.

The premium (freight and supplier’s margin) is a lump sum cost of the supplier/exporter, which is either negotiated or offered in a tender process. The PSO, being a public sector company, is obligated to procure imports under the Public Procurement Regulatory Authority (PPRA) rules and regulations.

As per the existing arrangements, the PSO imports its petrol requirements entirely through spot tendering, while the bulk of its HSD imports is made from KPC on the basis of a long-term agreement, which is revised or reviewed biannually.

The premium on a long-term basis is less than the tendered premium. Presently, the KPC premium for PSO’s HSD cargoes for January-June is $2.40 per barrel. In case, the KPC is unable to meet PSO’s HSD demand, the additional imports are procured from the spot market. When the PSO procures from both sources (KPC and spot market), the weighted average of KPC and spot premium is used as a benchmark to calculate consumer prices.

However, the Oil Companies Advisory Council (OCAC) had informed the government that the HSD premium for the industry had been historically higher than PSO’s, implying that the industry was importing HSD at a relatively higher premium as compared to PSO’s benchmark premium. Due to this, the remaining OMCs are at a disadvantage.

This difference has now risen significantly due to the prevailing geopolitical situation. PSO’s tender for the second fortnight of March opened at $8.45 per barrel, whereas premiums are even higher in the open market. The situation was such that the PSO did not receive any offer in their HSD tender for the first fortnight of April and the subsequent tender came with a $12 per barrel.

Since the current HSD price was benchmarked on the basis of substantial imports by the PSO from the KPC ($2.4 per barrel), any oil marketing company importing at the PSO-tendered premium ($8.45 per barrel) would incur a loss of up to Rs6.8 per litre, creating an unsustainable position for importers. “Therefore, there is a need for urgent review of the benchmarking process to save the industry from collapse,” the Petroleum Division had pleaded, insisting that OMCs would be unable to import HSD leading to a potential shortage across the country.

Published in Dawn, April 11th, 2022