PrintSend to friend

Few industries are as crucial to the overall economy as fuel distribution – without it things would literally grind to a halt. In the aftermath of last February's devastating earthquake, long queues of vehicles formed at those service stations in Santiago which were able to operate despite the power outage. Further south, nearer the epicenter, desperate drivers resorted to lowering plastic containers into tanks buried beneath service station forecourts to access fuel supplies.

Six months on it is back to business as usual at Chile’s service stations, but the competition is heating up amongst the four firms that dominate the market.

By far the largest fuels distributor in Chile is Copec, originally Compañía de Petróleos de Chile. Created by the government in the 1930s to guarantee fuel supplies for Chileans, the company is today a subsidiary of Empresas Copec, one of the country's largest industrial conglomerates, whose interests range from electricity and natural gas to forestry and fishing. With 629 service stations in Chile, the company had a 64% share of the liquid fuels market in 2009, according to the company’s annual report.

Three others control the rest of the market: Shell Chile, a subsidiary of the Anglo-Dutch oil major, has about 14%; Colombia's Organización Terpel 11%; and Brazil's national oil company Petrobras 9%. The rest is divided between a series of smaller players.

Around 85% of the fuel consumed in Chile is produced at refineries run by state oil company, Enap. In order to avoid accusations of profiteering at the price of Chilean drivers, the company sells its fuels at import parity prices, which are adjusted weekly to reflect changes in fuel prices in the U.S., shipping costs and the exchange rate.

Despite a government-operated mechanism to offset rapid rises, or falls, in fuel prices, these can still move sharply from week to week. This can cause major headaches for retailers, according to Sidney Houston, general manager of the Chilean association of fuel distributors, Adico.

With some far-flung service stations several days drive from the nearest refinery, prices can change while the fuel is en route. “Firms have a gun to their head guessing how prices will change,” said Houston.

Enap’s pricing system is also a nightmare for retailers like Copec and Petrobras, which import fuel as well as buying from the state-owned refiner, said an executive from one major distributor who asked to remain anonymous.

It can take 20 days or more between securing a shipment of diesel and selling it on the service station forecourt, during which time retail prices can move radically.

Chile’s fuel distributors would import significantly more fuel if they had greater certainty about Enap’s fuel prices, said the executive.

But the risk they bear is small compared to Enap which must wager huge sums every week as it imports crude oil without knowing how much it will get for its refined products.

In 2008, the situation got out of hand. As the world economy went into meltdown, oil prices slumped and demand stalled just as Enap was holding huge stocks of imported crude and diesel. Annual losses came in at close to US$1 billion.

Under new leadership, the state-owned company renegotiated fuel supply contracts with all of its major customers which encourage these to commit to volumes over the long term in exchange for more attractive prices, thereby sharing some of Enap’s risk.

The firm returned to the black in 2009 as refining margins improved, posting net profits of US$242 million, but then the earthquake struck in February halting operations at both of Enap’s refineries and causing serious damage to its Bío Bío refinery, which was only restarted in May.

Squeezed by fuel taxes

Although Chile’s main distributors manage huge volumes, profit margins in the retail business are relatively slim, sometimes as little as 3%, said Juan José Ponce, an analyst at investment firm LarrainVial who follows Copec's stock on the Santiago bourse.

While fuel sales account for more than two thirds of the conglomerate's consolidated revenues, they represented less than 30% of its profits last year, most of which were produced by Arauco, the group's forestry arm.

At Adico, Houston blames the sector’s slim pickings on Chile’s fuel taxes which are amongst the highest in South America. According to Enap, taxes accounts for more than 48% of its wholesale gasoline prices and 27% of diesel prices.

“The higher the fuel tax, the lower the margins,” Houston laments.

But others are less concerned. Fuel taxes are a fact of life throughout Latin America and are more of a burden to motorists than the retailers.

With little room to compete on price, Chile’s fuel distributors have concentrated on other methods to boost sales. They have done this largely by offering motorists a range of additional goods and services, including food and drink.

Convenience stores

Each of Chile’s main fuel distributors now operates its own brand of convenience stores, many of which are open around the clock and have become a major retailing force in their own right.

Copec’s 215 stores, operating under the Pronto and Punto brands depending on the size of the operation, represent the largest chain of convenience stores in the country.

These stores now offer a much wider selection of goods and services than just soft drinks and motor oils. Motorists can purchase hot meals, drinks, magazines, CDs and even charcoal. At some stores you can also have a shower, surf the web and pay your bills.

As fuel retailers bid to squeeze more pesos from each customer, the stores are now a crucial part of their business.

“The development and expansion [of convenience stores] has been fundamental to the company’s strategy of adding value to fuel sales,” Copec said in its annual report.

Compared to fuel sales, the stores add little to the company’s bottom line, but the idea is to lure drivers into the service station since a good proportion of them will also top up their tank.

This means appearances matter: the stores are clean, warm and brightly lit and furnished with comfortable chairs.

Companies are even using them to showcase their green credentials. One of Copec’s newest service stations in the town of San Fernando uses three kinds of renewable energy: solar panels, a wind turbine and geothermal energy.

Investing in Chile

This level of investment in infrastructure reflects the potential distributors see in Chile’s fuel market. As incomes have risen over the last two decades so has car ownership and with it fuel consumption. Per capita consumption, however, remains way below levels seen in the U.S. or even Argentina and Brazil and is expected to continue growing firmly over the next decade.

That makes Chile an attractive proposition for investors and the last three years have seen two major changes in ownership. In 2007, Terpel bought Spanish firm Repsol YPF’s fuel distribution businesses in Chile, including 206 service stations, for US$210 million. The next year, Petrobras paid US$400 million for ExxonMobil’s distribution assets, including 230 service stations operated under the Esso brand.

The deals partly reflect the desire of international oil companies to concentrate on the more profitable upstream part of the business. Before exiting Chile, ExxonMobil had already sold its distribution businesses in Brazil and Venezuela.

Meanwhile, regional players Petrobras and Terpel, already selling fuel in several South American countries, were keen to add Chile to their portfolio. In fact, Petrobras had been looking for an opportunity to enter the market for eight years before its deal with ExxonMobil.

Colombian expansion

In the latest market shake-up, Copec announced in May that it had signed a major deal designed to give it control of Terpel. The company paid US$240 million in cash to buy a 47.2% stake in the Colombian holding firm Proenergía from two subsidiaries of U.S.-based energy investment group AEI, formerly known as Ashmore Energy International.

A shareholders' pact with a third AEI vehicle will give Copec control of Sociedad de Inversiones en Energía (SIE), a Proenergía subsidiary which has majority control over Terpel.

Copec now plans to list Proenergía in Bogota and launch a public share offer for an additional 5% of the company, a move which would consolidate its control over Terpel.

Given Copec’s market share in Chile, LarrainVial’s Ponce says the deal makes sense. “Expanding their presence in Chile is difficult because of competition rules… so the idea is to diversify internationally,” the analyst explains.

The group's forestry business has already followed this strategy, buying up pine and eucalyptus plantations throughout Argentina, Brazil and Uruguay as suitable land grows scarce in Chile.

The Terpel deal will make Copec a leading force in the region's fuel markets with a significant presence in Ecuador, Mexico and Peru as well as Colombia, where Terpel is the largest player in the market with a share of almost 40% through 1,200 service stations, which is double the number Copec operates in Chile.

Following the successful crackdown on leftwing insurgency under President Álvaro Uribe, Colombia's economy is seen as one of the most attractive in the region, boasting a well-educated workforce and stable investment rules.

And with a population three times the size of Chile's, the potential for growth is huge, notes Ponce.

"Colombia is a very attractive market which will develop in the coming years in a way similar to Chile in the last 20 years,” said Copec CEO Lorenzo Gazmuri in a letter to employees announcing the Terpel acquisition.

Copec is not the first Chilean company to spot the country's potential. Retailers Cencosud and Falabella have already made in-roads, building department stores, malls and supermarkets while airline LAN plans to run cargo and passenger services in partnership with local flyer Aeroasis.

Terpel for sale

Copec’s acquisition of Terpel will also have major implications for Chile’s fuel market. Competition rules make it impossible for Copec to hold onto Terpel's Chilean operations which would give it a market share of almost 75%.

Announcing the deal, Copec made it clear that it had no plans to retain Terpel's Chilean operations and asked Chile’s anti-trust regulator for a two-year grace period while it determines how to unload the service stations and other businesses. Until it does, Terpel will continue to operate independently of Copec in Chile.

The announcement has sparked a welter of speculation about who will buy the former Repsol YPF business with no shortage of potential suitors. Topping the list is Petrobras which has made little secret of its desire to expand in Chile as part of its strategy to consolidate its regional position.

Copec, however, would probably be wary of helping Petrobras increase its market share, said Ponce, adding such a deal would create a much larger rival than Copec has ever faced, although one just a third of its size.

Another possible buyer is Gasco, controlled by Chilean energy group CGE, which has a range of interests, including LPG distribution and power generation. Fuel retailing would be a natural fit with its existing businesses and it has strong links with Copec: the two are partners in the Santiago-based gas utility Metrogas.

The dark horse in the race is Enap. Following the decline of its production assets in Chile’s southernmost Magallanes region and some unsuccessful forays into E&P abroad, the company now seems set to concentrate on its domestic refining business.

Moving downstream into fuel distribution and retailing sounds like a logical step: the slimmer but more stable margins of retail would compensate for the inherent volatility of the refining business.

Enap is already present in the retail markets of Ecuador and Peru through the Primax chain of service stations, a joint venture with Peru's Romero group. This guarantees a market for the surplus gasoline produced at its Chilean refineries.

Nevertheless, analysts say the probability of the state-owned refiner moving into retail is slim, at least in the short to medium term.

For a start, the benefits are not clear cut. As Chile's sole refiner, Enap’s clients would demand that it adhere tightly to rules governing the commercial relationship between its refining business and service stations.

Moreover, the relatively small volumes handled by Terpel would offer only a minimal hedge to Enap’s huge refining operation.

Nor is Enap in financial conditions to make such a move. The board recently reappointed CEO Rodrigo Azócar but, following huge losses two years ago, the company is laboring under crippling debts of around US$4 billion, making new acquisitions difficult.

Energy Minister Ricardo Raineri, who chairs Enap’s board, has indicated a move into retailing could be attractive, but Chile's new government wants to concentrate on ending the losses and modernizing the company's corporate governance.

The ministry is studying introducing private capital into the business by selling assets or listing on the Santiago Stock Exchange, which would suggest the government wants to limit rather than expand state participation in the sector.

Alternatively, Copec may find interest from another investor from outside Chile: Colombia’s own state oil firm, Ecopetrol, is in the midst of a major international expansion, notes Ponce.

Whatever happens, more competition is good for Chile’s motorists but they will soon have to get used to yet another name change.

Tom Azzopardi is a freelance journalist based in Santiago

Editor’s Note:  On August 5, shortly after this edition of bUSiness CHILE closed, the Chilean newspaper Diario Financiero reported that Anglo-Dutch oil firm Shell announced in an internal memo that it has begun a “strategic revision” of its assets in Chile to determine the potential interest in the market. “The decision to review the downstream business in Chile is in line with Shell’s global strategy of concentrating its presence in fewer markets, but bigger ones,” the statement said, according to the newspaper report. Shell has previously announced its intention to divest up to US$ 8 billion in assets globally by 2011

                                Gross Margin on Fuel Sales in Santiago