The Petroleum Industry in the UK - Coursework Example

The Petroleum Industry in the U.K. Executive Summary It is important to periodically evaluate the status of the petroleum industry in the U.K. in order to understand its impact upon the operation of the petrol station business. The adverse environmental impact of this industry has been a source of considerable conflict, evoking fierce public resistance and stringent Government regulations. Moreover, European Commission Directives have mandated further refining activity which could potentially increase the carbon dioxide emissions and therefore there is increased pressure to develop means to cope with the adverse environmental impact of carbon dioxide emissions. Despite rising oil prices, there has been a decline in retail margins, thereby making it more difficult for petrol stations to stay in business. Therefore, the development of eco friendly initiatives is likely to ensure that independent firms such as ours will be able to garner larger profits through higher volume of sales. Introduction The U.K. oil industry has been self sufficient since 1980 and produces approximately 2 million barrels of hydrocarbons per day (www.prospects.ac.uk). Natural gas however, supplied 40% of the requirements for fuel in the U.K. The most common brand of petrol used in the UK is Unleaded 95 octane petrol. World reserves of crude oil are estimated at 3 trillion barrels and the UK industry also stocks enough oil and petroleum to provide for 67.5 days of consumption(www.ukpia.com: Supply). However, increased demands and fears of shortages have been pushing up the oil prices in the recent past. However, in view of predicted shortages, efforts are being boosted up through investments in the continental shelf, through speedy completion of existing projects and implementation of new projects since 2001, to enhance oil production. (Kemp, 2001). The petroleum industry in the United Kingdom is represented by a conglomerate of nine major U.K. firms known as UKPIA, that refine crude oil and distribute it for marketing in petrol stations. These firms are Conoco Ltd, Esso Petroleum, Kuwait Petroleum (GB) Ltd, TotalFinaElf UK Ltd, Chevron Texaco, BP Oil UK Ltd., Murco Petroleum Ltd., Petroplus UK and Shell UK Ltd (Crowley 2002). This organization also performs the role of informing its members about existing and proposed legislation on petroleum issues and in formulating the position of the industry on various issues, as well as serving as a database of information that may be accessed by its members. Projected fuel shortages in the UK led to the direction of attention towards the development of the fuel sources along the continental shelf. However, the European Commission issued some Directives which have come into effect since 2005 and could have an impact upon the refining industry in the UK. These Directives effectively mean that refineries will have to increase their refinery processing which is likely to lead to an increased emission of carbon dioxide.(Weirach, 2000) Pump prices The profitability of a petrol station will not necessarily rise with the rising world oil prices. The price of fuel that is available to the average consumer is dependent upon several factors, such as Government taxes and duties, the actual cost of petrol in the open market and the costs and profits of the wholesalers and retailers. As a result of the high duties and taxes, the retail margin is often quite low, as illustrated below, in the breakdown of one litre of unleaded petrol at the average pump price of 92.1 pence in 2006. Cost breakdown: (source: http://www.ukpia.com/Portals/0/Repository/Documents/ UKPIA%20Understanding%20Pump%20Prices%20-%202006.pdf) Pump price 92.1p Duty and VAT 60.9p Product cost 24.6p Gross retail margin 5.7p This may be represented graphically as follows: As a result, retail margins are quite low and they also have to include costs of distribution and storage of fuel, maintenance of premises and staff, as well as marketing and promotion costs. Similar drop in retail margins are also reflected in the United States, where for the petroleum industry as a whole, profits plunged to $3.45 billion, reflecting a drop of 24.6%, while the profits for individual stores dropped to $28,300, which reflects a 26.1% drop and is the lowest profit value since 1997 (www.cstorecentral.com). The intense competition within the UK among existing forms also contributes to the lowering of prices, such that pump prices in the U.K. are the lowest in Europe (www.ukpia.com). The number of petrol stations in the U.K. has declined in the last decade and Crowley has estimated the figures as 12,200 filing stations at the end of 2001 as opposed to 18,000 stations in 1990. Moreover, despite the increase in oil prices in 2006, the escalation of competition in the sector has driven down prices, with businesses suffering further losses because about 60% of the pump prices of petrol comprises excise duty and VAT, which has increased to 70% with increased duty in December 2006. (www.ukpia.com). More and more petrol stations are going out of business, so that the number of stations in 1990 (Year 1) was 18,000, dropped to 12,200 in 2001(Year 2) and reduced further to 9764 in 2005 (Year 3). (www.ukpia.com). This drop in filing stations is illustrated graphically below: There are a wide range of firms in the UK petroleum sector, which number about 200 in all, comprising both multinational firms as well as single retail outlets. The petroleum sector is estimated to employ about 260,000 people in the UK, of which the distribution is as follows: (a)155,000 by contractors and the supply chain (b) 30,000 directly by operators and (c) 75,000 in jobs created through the economic activities generated by the petroleum business – represented graphically below: Environmental issues Oil and gas reserves on the planet are being depleted quickly. The current crisis in the Middle East is the direct result of America’s struggle to find and capture the remaining sources of oil. Paul Roberts(2004) believes that the race for the few remaining large reserves of oil and natural gas is likely to be the most critical geopolitical theme of the 21st century. America has set up military bases in African countries such as Nigeria, Cameroon and Chad in order to protect its oil interests in that region. There is a similar oil war going on in the developing world, as China and Japan battle to grab the existing oil reserves available in the Siberian region. China has emerged as the second largest oil user after the United States and it has been involved in a stiff, diplomatic battle with Japan over access to the big oil fields in Siberia. Japan depends entirely on imported oil and it has been lobbying with Russia for a 2300 mile pipeline from Siberia to coastal Japan, offering to finance the $5 billion pipeline with additional investments of $7 billion to develop the fields and $2 billion to finance Russia’s social projects. Simultaneously China is pushing for a 1,400 mile pipeline due south from the same oil fields to Daqing. It has also approached the Saudis to try and grab some of the oil resources there by offering in exchange, sophisticated missiles and weaponry which America and the United States have refused to sell to Saudi Arabia. The petroleum industry is considered to be one of the industry’s main polluters, therefore there is increased concern about environmental protection during petroleum activities ( Muvrin et al, 2006). The release of fossil fuels associated with the petroleum refining process and pollutants released from automobile exhaust have had a detrimental effect on the environment, since they have increased the pace of global warming. One recent example of an environmental disaster that was caused in the petroleum industry was the explosion of the storage tank at Buncefield Oil depot where 43 people were injured and several left homeless, apart from generating a huge polluting vapor cloud, which caused considerable environmental damage (www.news.bbc.co.uk). In assessing the industry’s impact upon the environment, the Government has taken some initiative in environment management through the preparation of the UKOOA Sustainability update and progress report 2005, combined with the Offshore Oil and Pollution Prevention and Control Regulations 2005, which are geared towards achieving and maintaining a sustainable strategy in management of petroleum products vis a vis the environment (www.prospects.ac.uk). As a part of this strategy, some of the measures that have been introduced are the introduction of thermally efficient platforms, reduction of carbon dioxide emissions through simultaneous production of steam and electricity, coordination with organizations dealing with conservation and the development of new technology to maximize output from existing fields. As pointed out by Tippee (2003), most of the petroleum production in the U.K. is located offshore and many of these oil and gas operators are adopting a policy of cooperation with the Government and North sea neighbours with changing taxation patterns. Furthermore, there is also increasing opportunity for new independent firms, as larger oil companies phase out their operations and dispose of non core assets. Foster Wheeler conducted a study on behalf of the UK Environment Agency, which reviewed industry performance and the impact of European Commission directives. The Report also corroborated the low retail margins available to UK retailers of petroleum products and has concluded that surplus production may be responsible for low profit margins (Weirauch, 2000). This Report also discusses the two phased European Commission’s Auto Oil Program. The first stage of this program aims to reduce the adverse environmental impact of petroleum products by requiring operational and crude slate changes , together with hydrotreater revamp work at the point of use stage of the product. (Weirauch, 2000). The second stage of this program requires the increase in refining activity which is projected to produce a 2-4% increase in carbon dioxide emissions and corresponding increases in emissions of sulpher dioxide. However, the Foster Wheeler report has also recommended some measures to contain such undesirable emissions to reduce their adverse environmental impact, as follows (Weirauch, 2000): (a) substituting fuel oil firing with natural gas (b) reducing by 1% the sulpher in the fuel oil fired in refineries, which can be achieved by substituting heavier vacuum residues with atmospheric residues. (c) Abating of key stacks by wet gas scrubbing with caustic soda. (d) Lastly, the National Emissions Ceiling Directive proposed by the European Union also contains measures to reduce emissions, albeit they are more expensive options. (e) In reducing carbon dioxide emissions, the report recommends combustion of those fuels that have high hydrogen/carbon ratios, such as natural gas, LPG or refinery fuel gas. However, the National Emissions Ceiling Directive has not yet been accepted by the Member States. In its explanatory memorandum, the Commission has set targets for reduction of the number of days with ozone levels from 120 mg/m3 from around 30 to around 20 in worst affected areas from 2010. The UKPIA however opposes the number of days that have been set out for exceeding of the standard, arguing that the NECD should be linked with the Gothenburg Protocol, so that uniformity is introduced to meet the requirements of the Ozone Directive in the worst affected states. Muvrin et al (2006)have discussed the benefits of using injection technology to deal with the environmental pollution generated by petroleum related activities. The biggest problem in petroleum related activity is the generation of waste. However, through the use of injection technology, the industry waste is injected into underground geological formations within which it originates and therefore it may be safely removed from the biosphere and exposure to humans. Since this method is already being used with some degree of success in Croatia, the authors recommend its use on a wider scale in order to deal with the negative environmental impact in the industry. They also suggest that the use of such technology could provide a solution to the greenhouse gas problem. Corbett et al (2007) have pointed out that an increased concern and attention to environmental issues is also reflected in the business agenda of several Companies – for example, the Shell Company which sets out criteria of respect for all people, engagement with shareholders, minimizing negative impact on the environment while improving product use and developing new energy sources. Corbett et al (2007) have also pointed out the growing trend among big petroleum companies to develop alternative energy sources, with Shell setting up a separate division named Shell Renewables with the sole aim of developing alternative energy sources. Shell is also one of the largest wind power developers, as well as a leading developer of next generation solar technology. They have developed a technology known as Copper Indium Diselenide thin film technology, which allows solar cells to develop faster by using the CIS which is a metal solution for spraying onto glass sheets in layers and has a black appearance (Corbett et al, 2007). An environmental survey carried out by the United Nations to map the solar and wind resources of 13 countries has identified thousands of megawatts of potential renewable energy available in Asia, Africa and South America.(www.ale-e.blogspot.com), while China alone has potential for generation of 100,000 megawatts of power. The challenge with wind power is that it is available only when the wind blows, while solar energy is available only through the day, but they are cost effective sources of energy that can be developed by the third world countries. Roberts (2004) believes that the best solution in the interim is energy efficiency, especially for countries such as the United States and China BP has launched several initiatives in Alternative Energy through solar, wind, hydrogen and natural gas generation (Edwards 2006). Chevron Texaco is playing a significant role in the development of geothermal energy through its acquisition of Unocal, while other renewable energy resources that are being explored also include biomass, all of which constitute cleaner fuels that are not so damaging to the environment because they do not produce carbon dioxide or sulpher dioxide emissions which are the main culprits in environmental pollution (Corbett et al, 2007). Biodiesel in particular could prove to be an effective replacement for the current petroleum based fuels because it can replace the petroleum diesel without engine modification and it is available from a plant known as jatorpha available in plenty in India.. Hydropower is another potential source of large supplies of electricity which can be used to power and fuel various activities, especially in developing countries, together with tidal power and biogas. Corbett et al (2007) also discuss the use of photo voltaics in the oil industry, with the introduction of PV in oil facilities forming a valuable renewable energy resource. The UK based BP solar has also been a major player in the PV industry and has been involved in green advertising and marketing. Wind energy is at an advanced stage of development and is being used in many countries in the form of wind turbines, therefore the only requirement is for strengthening and linking of electricity grids with the sources of wind power. Corporate sustainability The development of alternative energy sources and reduction of adverse environmental impact are now increasingly becoming part and parcel of the corporate social responsibility expected from corporations, due to growing pressures from the public. Wilson (n.d.) states that the issue of corporate social responsibility must include such concepts as sustainability, sustainable development and sustainable enterprise management. In view of the increasing polluting effect on the environment, especially from disasters such as the Buncefield Oil depot explosion. However, he also highlights the peculiar problems corporations face in enforcing corporate social responsibility in undeveloped countries from which a considerable portion of oil resources are extracted, where Governmental regulations and public disapproval is not strong enough to enforce corporate social responsibility. This also poses a conflict in terms of the profitability that drives most firms, since the driving force that governs operation of firms is profitability, while the development and use of renewable resources and alternative sources of energy may be a more expensive option. Conclusions On the basis of the above, it may be noted that the detrimental environmental impact is the major reason for the pressures on the petroleum industry. The development of alternative energy sources and conformity with increasingly stringent regulations by Government have further reduced the margins of profitability available to petrol stations and may serve to explain the decline in the number of stations that are currently in operation within the U.K. The fact that several large corporations are closing out some of their operations leaves more room for independent operators to enter the petroleum industry, however the process of research and development of alternative energy sources in order to comply with Government regulations is costly process. Moreover, the increased taxes, duties and VAT comprise a major part of the expenses in operating a petrol station, leaving a thin margin of profits, despite rising oil prices worldwide. Traditional methods that have been used for refining, distribution and marketing of petroleum products have become increasingly inappropriate in an environment where corporate social responsibility and the development of sustainable environmental options are being mandated. There are several alternative sources of energy that are being developed and in view of new Directives and Government regulations, it appears necessary that every petrol station must of necessity take steps to introduce eco-friendly measures in operation. On this basis, the following recommendations may be made: (a) A move towards amalgamation of our individual firm with other small firms, in order to pool resources and compensate for the limited retail margins (b) The direction of resources into development of eco friendly measures, such as the use of PV products (c) Exercising greater care in management and operation in order to prevent any kind of environmental disasters (d) Providing enhanced guidance and direction to employees of the firm to promote efficient operation to prevent accidents (e) Exploring alternative sources of energy and marketing them in greater quantity as opposed to oil products, since they are more eco friendly. (f) Dealing with competition from other firms by considering mergers with other firms in other European countries where pump prices are higher so that the margin of profitability can be increased through sale of green products. In view of reduced retail margins and extensive competition in the UK which forces down the pump prices, it is therefore necessary for our firm to direct more attention to developing eco friendly products. Our firm must also consider mergers with other firms for mutual benefit and ensure that our products are marketed in other states of the European Union where higher prices can pull in higher profits., However, to a large extent, the development of an effective marketing campaign that highlights the corporate social responsibility of our firm through the development of eco friendly alternatives is especially likely to enhance profitability through increased sales, since members of the public will frequent such green firms. Bibliography * BBC News report, 2006. “Buncefield Tank was overflowing.” [online] available at: http://news.bbc.co.uk/1/hi/uk/4752819.stm * Corbett, Patrick, Kerr, Sandy, Richards, Bryce, Side, Jon and Davies, David, 2007. “Petroleum industry and renewables.” First Break, 25 * Crowley, B, 2002. “United Kingdom Petroleum Industry Association. Hydrocarbon Processing.” (International edition), 81(11): 17 * Edwards, L, 2006. “Alternative energy, Growing low carbon power” cited in Corbett, Patrick, Kerr, Sandy, Richards, Bryce, Side, Jon and Davies, David, 2007. “Petroleum industry and renewables.” First Break, 25 * Kemp, Alexander, 2001. “Grounds for optimism exist on UKCS. World Oil, 222(12): 42-3 * Muvrin, B, Kristafor, Z, Simon, K, Maurovic, L and Karasalihovic, D, 2006. “Injection technology for sustainable environmental protection in the petroleum industry.” Management of Natural resources, Sustainable Development and Ecological Hazards, 809. * “Oil, gas and petroleum: as it is.” [online] available at: http://www.prospects.ac.uk/cms/ShowPage/Home_page/Explore_job_sectors/Oil__gas_and_petroleum/as_it_is/p!elkbfg * “Ozone” [online] Available at: http://www.ukpia.com/industry_issues/environment_air_quality_health_safety/ozone.aspx * “Supply, demand and petroleum prices” [online] available at: http://www.ukpia.com/Portals/0/Repository/Documents/UKPIA%20Fuel%20prices%20brief%208.06.pdf * Tippee, Bob, 2003. “UKOOA’s May: Operators adapt to a new phase in UK offshore life cycle.” Oil and Gas Journal, 101(18): 22-24 * “Understanding Pump prices.” [online] available at: http://www.ukpia.com/Portals/0/Repository/Documents/UKPIA%20Understanding%20Pump%20Prices%20-%202006.pdf * Weirauch, Wendy, 2000. “Environmental rules impact UK refining.” Hydrocarbon processing (International edition), 79(8) : 23 * Wilson, Richard, No Date. “Corporate Social responsibility in the Petroleum Industry.” [online] available at: http://www.ey.com/global/Content.nsf/UK/ECU_-_Library_-_02_CSR__in_the_Petroleum_Industry * www.cstorecentral.com/register/resource/pressrel/pr051302.asp. 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