Approximately 300,000 tons of liquefied petroleum gas (LPG) is manufactured and sold in South Africa each year, generating a turnover of about R1,5 bn. Manufacturing occurs at all local refineries, from both crude oil and coal. LPG is not a by-product of the refining process, but a primary product in its own right. Once produced, LPG is sold and distributed either in bulk or in cylinders along a supply chain. End users of LPG vary cross the spectrum from industrial users and farmers - who meet space and process heating and certain machinery needs, to hotels, restaurants and resorts - that operate a range of appliances such as geysers, ovens, hobs and water heaters, and home users - for which it is often a primary energy source for cooking, lighting, refrigeration and space heating, in leisure activity and everyday life. LPG is a lesser-used, but desired fuel source in low-income households with a definite regional use patterns, especially in areas where coal is unavailable or expensive. Increasingly, motorists around the world are also using or switching to LPG as an alternative to petrol or diesel, and this trend is also beginning in South Africa.
More background to LPG in South Africa:
In 1995 South Africa was only using about 6.4kgs of LPG per capita per annum. This is substantially more than much of Africa, except for countries in North Africa - which use about 10 times that amount, and some other notable exceptions such as Gabon and Senegal. More recently, other African countries have begun using LPG in conjunction with other energy sources, such as PV, in order to meet energy needs general, and particularly in unelectrified households. Botswana is a good example of this, particularly because most of the LPG in Botswana is imported from South Africa. Although the regulated refinery gate price does not apply to this exported product, LPG sells far more cheaply in Botswana than in South Africa. Affordability, therefore, seems to be an important factor in the growth of the LPG market there.
Similarly, there has also been significant growth in the LPG market in China over the last decade - with demand increasing by about 18% per annum over that time. The main reason for this appears to have been the lifting of government price controls, which then allowed importing of product. However, another important factor appears to have been the availability of and accessibility to affordable LPG appliances. The high price of crude oil over the past few years, to which the domestic price of LPG is connected, via the international LPG price, has created intense competition in the Chinese market. Nevertheless, many rural Chinese farmers still find LPG unaffordable.
LPG usage in Sri Lanka has also increased significantly over the past few years. Most interestingly for South Africa, this has occurred at the same time as the growth in the use of photovoltaics (PV) to meet the energy needs of Sri Lankans not connected to the electricity grid. As PV meets mainly lighting and entertainment needs, LPG is a complimentary energy source for meeting cooking, refrigeration and space heating needs. However, other factors that have assisted this growth are the negotiation of mutually satisfactory distribution agreements between oil companies and distributors, and competitively priced equipment suppliers that offer customers affordable deals.
While LPG consumption has already grown quickly in several emerging markets, per capita LPG consumption in most developing regions remains substantially below consumption patterns in well-established markets such as Japan, North America, and Western Europe. But the utilization of LPG is rising in domestic and commercial markets of many developing countries where access to LPG is expanded and markets liberalized. Some analysts therefore believe that, despite a potential threat from the natural gas market, significant growth potential for LPG remains in most regions of the world.
Despite the clean-burning usefulness and versatility of LPG, and the high demand for energy solutions in South Africa, LPG is not widely used in South Africa. Producer companies such as Afrox, Easigas, BP, TFE Tepco and Exel are of the view that LPG is capital intensive and requires investment in bulk tankers, bulk storage facilities, filling plants, scales, cylinders, cylinder delivery vehicles and installation on customers premises. This high level of investment must be weighed against the elasticity of the local LPG market. As the price of LPG fluctuates in relation to international oil prices, so the market changes. With an increase in the international price of LPG, domestic gas consumption decreases as consumers move down the energy chain towards IP, coal and fuelwood. However as income increases, domestic consumer move up the energy chain. In order to create constant demand for LPG, this sensitivity to international oil prices must be taken into account.
Other factors in the existing LPG value chain must also be taken into account in considering how to ensure sufficient growth along the whole supply chain to ensure sustainability for the LPG market. Many small or emerging gas dealers believe that exclusive arrangements between distributors and retailers and the producer companies create a barrier to their entry of the market. The current lack of relationship between industry players and SME's affects the supply chain and end users in other ways. For example, producers and distributors do not assist aspirant dealers to learn about the profitable running of a gas business. This results in the SME dealers competing in the only way they know best - price war. Therefore, while the retail price of LPG and cylinders has increased by about 30 % in the last two years, SME dealer's claim that their profit margins have shrunk.
Another problem to consider is that of the cost of LPG cylinders, and the rules that relate to cylinders in the South African market. Although much LPG is supplied in bulk, a significant portion of the market is supplied in producer branded cylinders. The ownership of all except the smallest of cylinders (6kgs and less) never passes from the producer company to the user of the cylinder. Rather, a deposit is paid for the use of the cylinder to the producer company. This deposit is passed on the next user down the supply chain. This significantly affects the price of LPG, particularly for low income, new entrants to the market. As most cylinders remain in circulation, it is not clear where the deposits all collect, and what the advantages and disadvantages are of the current system. Part of the reason for this deposit system is that an LPG cylinder may only be filled from the same company's larger cylinders. The rationale behind this rule appears to be that of safety and responsibility. For example, if a cylinder explodes, the source of that cylinder will be held responsible. If this concern is able to be addressed differently, the affect of the cost of the cylinder on the price and the market may be more fully considered.
Value Added Tax (VAT) is currently charged on LPG, but it is not charged on IP. As LPG is a direct competitor with paraffin in the low-income market, the vatable status of LPG to all end users needs to be reviewed, especially since households are the only group of LPG users that can not claim the VAT back on their LPG purchases. Other users can claim it back because it is considered an operational input. This disparity may affect the pricing of LPG along the supply chain.
National regulation of the LPG price is proposed. In terms of the Government's White Paper on Energy, whilst the government believes that competitive market forces should determine prices, it is also of the view that as long as price control is applied, the import parity pricing approach should be retained. Government has also stated that any move away from price control will occur in a phased process, initially removing control of industry margins, at wholesale and retail level and thereafter allowing price determined on a competitive and commercial basis.
In South Africa and other countries, a price differential is often used to promote the use of certain products. The reasons for wishing to promote use of certain liquid fuels are usually to achieve another objective, such as the use of more efficient or cleaner fuels. In addressing pricing issues concerning LPG, consideration must be given as to how pricing policies will provide an opportunity to influence the fuel mix in order to support economic activities, constrain leisure activities, meet basic needs and address poverty alleviation. Pricing of LPG can be used positively to promote an economically and environmentally sustainable use of energy sources.
Recently the Minister has confirmed that it is the Department's intention to achieve security of supply and diversification of energy sources in line with the White Paper. This goal is to be achieved by, among other initiatives, the regulation of paraffin and LPG prices, a VAT exemption review, and the implementation of the Basic Fuels Price. Most of these initiatives have already been implemented. It seems that DME believes now is the right time to implement pricing in the LPG market, with the expectation of promoting growth and sustainability for all value-adding players in the supply chain, and particularly current and potential low-income users.