Blog Post

19 Mar
By: Ferdinand Musungu 0

WHY OPEN TENDER SYSTEM IS THE BEST MODEL FOR PETROLEUM SECTOR IN KENYA

KEPSA held an engagement with the State Department of Petroleum on 13th March 2020 at Serena Hotel. The meeting aimed at helping the private sector understand the impact of the current oil conflict between Russia and Saudi Arabia to the businesses and the country.

KEPSA CEO, Ms. Carole Karuga, while welcoming members and stakeholders present to the meeting, observed that Kenya has both downstream and upstream sectors. Downstream is the sale and supply of petroleum products while Upstream is the extraction of petroleum. She noted that both sector players will be effected in a way. Ms. Karuga added that the forum will help to understand the effects either positive or negative of each sector player.

The Principal Secretary, State Department of Petroleum in the Ministry of Mining and Petroleum, PS Andrew Kamau, gave a presentation focusing on Open Tender System (OTS), and how petroleum pump pricing is done. He informed the meeting that Kenya imports refined petroleum products through the OTS. The importation of petroleum products through the OTS allows Oil Marketing Companies(OMCs) to access petroleum products at the same price and therefore ensure competition in the petroleum market. He noted the OTS is run through monthly tenders, it entails sourcing of petroleum predominantly from the spot market whereby petroleum is sourced from the open market without any prior contracts. PS Kamau added that the industry recognizes that OTS is an effective supply system that creates a competitive and transparent means of availing the product to Kenyans, through the economics of scale. He concluded by giving the various formula they use to calculate the final pump price of petroleum products.

In his remarks, Mr. Mutuma Marangu gave the genesis of the conflict between Russia and Saudi Arabia. He informed the meeting that the Organization of the Petroleum Exporting Countries (OPEC) held an extraordinary meeting on 5th March 2020 and agreed to reduce the production of oil to maintain the oil prices due to reduced demand because of the Corona Virus. However, he pointed out that Russia refused to cut its production and in return, Saudi Arabia increased its production. 

The reasoning behind Russia’s refusal to cut its oil production is that since 2016, United States America (USA) has been increasing its oil production and she is not affected by the measures put by OPEC countries. By the end of 2016, the USA was producing 9.5 million barrels per day while by the end of February 2020 the USA was producing 13 million barrels per day. Russia felt that despite the pressure to reduce oil production the USA has been increasing its production to hurt the Russian economy. To caution its producers Russia has given some subsidies to its oil-producing companies.

Russia Produces 11 million barrels per day while Saudi Arabia used to produce 4.9 million barrels per day and has now increased to 12 million barrels per day.

To stabilize the market, Mr. Mutuma noted that Saudi Arabia and Russia have to decide to reduce the production of oil until such a time the Corona Virus is subdued. He added it is a good situation for Kenya economically in the short term.

KEPSA Chairman, Mr. Nik Nesbitt while giving his remarks, inquired whether the country will consider oil hedging, which is used to reduce or eliminate a country’s exposure to fluctuating international oil prices as a contractual tool allowing a country to fix or cap an oil price at a certain level or period.

In his response, PS Kamau noted that with the fluctuating oil prices in the international market noting that in case we enter into a contractual agreement and the oil prices go down we will be forced to buy at the agreed price. In case the demand reduces for example, in the current situation, because of the coronavirus we are forced to maintain importation according to the agreed contractual agreement which will cause losses to the country and private sector in the petroleum sector.

Ms. Elsie Mbugua gave more insight into the derivative. She informed participants that a derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset (like a security) or set of assets (like an index). Common underlying instruments include bonds, commodities, currencies, interest rates, market indexes, and stocks. Ms. Mbugua noted that derivative can be done in two ways standard and over the counter. The standard is where prices are decided during the contractual agreement for example hedging while Over The Counter(OTC) is where the price is open or bilateral for example the OTS we use to purchase petroleum products where the price is based on the current market price. She concluded that each method has its advantages and disadvantage.

In his closing remarks, The KEPSA Energy and Extractive Sector Board Chairman, Eng. James Mwangi appreciated participants, notably PS Kamau for his professional insight into the petroleum industry and how actions in the sector affect the private sector. Eng. Mwangi observed that the OTS has brought price stability in the country hence considered it the best model for the country. He added that since PS Kamau took over the State Department, most players in the sector have seen a lot of positive changes within a short time because of his continuous willingness to engage stakeholders and coming up with clear policy direction.

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