Financial Case study on "Octane Service Station"

Financial Case study on "Octane Service Station"

Financial management issues presented in the case.

Prices are determined by as much by the balance between supply and demand as by costs of production. This can be readily seen by considering the crude oil price movement since January 2004 (Figure).

The price more than quadrupled by mid-2008, not because the cost of crude production had quadrupled, but because global demand for oil grew much faster than the rate of supply increase during this period, creating a tight market. Similarly, oil prices collapsed in the last four months of 2008, not because it suddenly became much cheaper to produce crude oil, but because demand for oil collapsed in the face of the world financial crisis. Because crude oil accounts for most of the production costs of refined products (77 percent in the U.S. example given above), the prices of petroleum products rise in tandem with crude oil prices, but even here there is no one-toone correspondence between crude price and product price changes. This is apparent from comparing the prices of gasoline and diesel in Singapore in Figure 2. Their prices were the same in some months but diverged sharply in May-July 2008. Between January and June 2008, the average of three benchmark crude oil prices rose 45 percent, the price of regular gasoline in Singapore rose 39 percent, and that of diesel rose 55 percent.

The much higher diesel prices reflect greater demand resulting in a much narrower supply-demand gap for diesel than for gasoline, driven in Asia in part by China reportedly building stocks of diesel ahead of the Beijing Olympics and coal shortages requiring more diesel use for power generation. Widespread power shortages generally increase demand for diesel fuel and drive up diesel prices. There are also seasonal variations in demand: gasoline is consumed more during the summer driving season in the northern hemisphere, and conversely demand for heating oil increases in winter. Demand fluctuations in large markets can affect global demand and hence world prices.

Refineries can, to a degree, adjust production of different fuels to better match demand, but conversion of residual fuel oil to gasoline and diesel or a large increase in the production of diesel in the place of gasoline would require new processing units and large investments. Looking to the future, (relatively) low oil prices and the financial crisis are resulting in delays and cancellations of oil projects, raising the specter of a supply shortage once the global economy begins to recover. Underinvestment today could indeed erode spare capacity with economic recovery and oil supply could begin to tighten again, taking the world oil market into a new cycle of high prices.

Analysis required for understanding the financial management issues, identifying alternatives, and making recommendations.

Mechanisms that have been used internationally for promoting sustainable transport include encouraging the conversion to cleaner fuel. For example, in 1997 more than 300 petrol stations in Beijing began selling only unleaded petrol, w hereas in Denmark, the ...