Thu | May 23, 2019

Zia Mian | Petrojam: A reality check!

Published:Sunday | February 17, 2019 | 12:17 AM

With the harmonisation of common external tariffs (CET) in 1993, the ‘partial liberalisation’ of the petroleum sector was complete. Prices and margins beyond the ‘refinery gate’ were decontrolled and opening hours for retail outlets were deregulated. Subsidies on kerosene were also removed. The haulage contractors’ margins became the responsibility of the marketers.

Following the removal of subsidies on kerosene, its demand dropped significantly. This proved the point that I had made for many years, that subsidised kerosene sales were erroneously assumed to be mainly for household consumption. Kerosene’s primary use had been for adulteration and illegal blending into petrol (thus improving the profitability of rogue gas stations).

Although the country’s refining capacity was way below the domestic demand (for economic and technical reasons that we would discuss in a forthcoming article), the refinery was now protected through a fiscal regime of protective tariffs against imported refined petroleum products.

A 10 per cent protection for the refinery feed stock (semi-finished products and crude oil) restricted the market in terms of free and unencumbered import of refined products from non-CARICOM Caribbean sources.

This also extended a protection to the Trinidad and Tobago refineries while the natural sources of refined products for Jamaica were Aruba, Curaçao, and Venezuela. The tax differential also provided an advantage to the Kingston refinery and ultimately became a likely source of abuse!

A major asset of value at the Kingston refinery was its industry loading rack and associated terminalling/storage facilities.

Although the liberalisation allowed independent marketing companies (Esso, Shell, and Texaco) to import refined products for distribution, they lacked adequate storage and import facilities in the southern part of the island. Esso and Shell, however, established small import facilities in Montego Bay and were able to supply to capture about 15 per cent of the market (mainly aviation).

They did request hospitality from the Kingston refinery but were refused commercial access to the Kingston refinery terminal.

As the domestic market was small, construction of new terminals in the south was considered uneconomic. Consequently, despite liberalisation, the Kingston refinery remained the dominant supplier of petroleum products, satisfying about 80 per cent of the country’s market demand, mostly through import of fully refined products.

In other words, the refinery’s major operation was storage and terminal. The refining part was marginal and ran below economic efficiency. We had somewhat transitioned to an oligopolistic petroleum market structure.

As the Government lacked institutional capacity and oversight, the refinery management had a free hand in running its operations. It used the refinery unit as an umbrella to do what suited its immediate objectives!

Multinationals made strategic commercial decisions and embarked on divestments of their assets. Today, none of the original three companies have presence in Jamaica.

PRIVATISE PETROLEUM SECTOR

Since the mid-1980s, the impact of the Washington Consensus on the World Bank lending operations and conditionality had been in full swing. As part of a conditionality of the current phase of the World Bank’s Private Development Adjustment Loan to Jamaica, the Government had agreed to bring the Kingston refinery to the ‘point of sale’ by June 30, 1994.

Since the mid-1980s, adjustment programme under the National Investment Bank of Jamaica (NIBJ) had been coordinating Jamaica’s privatization programme. The refinery privatisation also fell in its lap. The NIBJ enterprise team, with the help of consultants, started preparing Petrojam/Petroleum Corporation of Jamaica (PCJ) and its subsidiaries for privatisation.

In the meanwhile, the refinery management, in association with the Tripetrol Oil Trading Inc S.A., (a company with exploration and production operations in Latin America, principally in Ecuador) submitted an unsolicited bid for a management buy-out (MBO).

The Government was advised not to sell the refinery to the management as it would have difficulty in raising necessary finances or pay for the required expertise.

The MBO proposal entailed:

1. An offer of US$50 million, for 80 per cent minimum of the shares of Petrojam Ltd. and all its subsidiaries;

2. Payment either in cash, five-year bonds, debt for equity swap, or any combination at the Government’s pleasure;

3. Commitment to invest US$ 100-130 million for a hydro-cracker (to deal with the surplus fuel oil); and

4. A broad-based ownership through the involvement of the industry (Jamaica Gasoline Retailers Association – JGRA), building societies, etc.

The government informed the management that it would be required to submit a bid just like anyone else, and no special treatment could be afforded to the management.

However, the MBO had the advantage of inside information, which was not available to potential outside bidders. In addition, the management had a free hand in the preparation of an ‘information memorandum’ and could orchestrate the information to its own advantage (a clear case of conflict of interest!)

PACKAGES FOR SOME ASSETS

Arthur D. Little (ADL), a consulting company, considered that Petrojam’s terminal, storage and truck-loading assets were of prime importance to a potential buyer. They provided the means by which a potential buyer could access reasonably priced refined products and import them in a cost-effective manner.

Based on ADL’s recommendations, the NIBJ’s enterprise team prepared the following packages for some of the assets that were owned by Petrojam and PCJ:

Petrojam Refinery: This package included all storage tanks; the marine terminal; all buildings; land comprising the refinery and related facilities; the loading rack and related equipment; furniture and equipment, including computer facilities; motor vehicles; and inventories (crude oil, refined products, and other supplies).

Petroleum Company of Jamaica Ltd (Petcom – a subsidiary of PCJ): retailing facilities for transport fuels, LPG operations, bunkering and asphalt marketing.

Petrojam Ethanol Ltd: a dehydration facility consisting of 52 million gallons p.a. capacity; ethanol pre-treatment and distillation system; tankage leased or otherwise. This plant was located at the Kingston oil refinery site and piggybacked on the refinery infrastructure.

Petrojam Ltd Shipping Division: Petrojam Trader and Petrojam Barge 1.

Petrojam Belize Ltd: Sugar factory, cane lands, and associated facilities in Corozal, Belize, (originally bought to meet the mandated – by US Congress – local content requirement for exports of ethanol under the Caribbean Basin Initiative to the US market).

Santa Cruz lodge (cottages in Negril).

Most of these entities were financially non-viable. For the refinery and ethanol plant, the government preferred a single buyer. The bids were to close in September 1994, negotiations were to be held in November 1994, and privatisation completed by the first quarter of 1995.

The multinationals carefully evaluated the option to buy the refinery and associated facilities. However, the refinery under its current configuration did not appeal as a sound investment. At best, its financial viability was dependent on protection or revenues it could generate from the terminalling operations.

They decided not to submit a bid. The only bid that the government received was from the management group. The management lobbied and convinced the Government that the MBO had promises of adequate external financial backing and was the way to go!

In July 1996, the Government sold 70 per cent of the shares to the management team (valued at US$68 million). Subsequent to the signing of the sale agreement, the external financial backing failed to materialise. In 1998, the financing deal fell apart, and the Government again ended up with ownership of the refinery.

At the end, all efforts to privatize the refinery failed, as had been predicted.

Jamaica was back to square one.

Readers may also recall that the privatisation of the Jamaica Public Service (JPS) did not materialise until 2001, and even then it was a negotiated deal with Mirant and not through international competitive bidding.

We now had a sacred cow on our hands!

Having failed to own the refinery, the management now started a campaign to the successive administrations to commission feasibility studies for an upgrade and expansion of the refinery, contending that it was critical for national petroleum supply security. Millions were spent on engineering and feasibility studies! All these against well-considered professional advice.

The management hoped that a joint venture with Venezuela might pave a way to obtain elusive finances (approximately US$1.2 billion) that they needed to implement an upgrade and expansion of an old, dilapidated refinery!

If we do not learn from history, we are doomed to repeat it!

- Zia Mian, a retired senior World Bank official and former director general of the OUR, is an international consultant on energy and information technology. He writes on issues of national, regional, and international interest. Send your comments to mian_zia@hotmail.com or columns@gleanerjm.com.