The case for a UK CSO agency

With the exception of Italy and partially Sweden, the UK is almost unique among EU members in operating a compulsory oil stock holding system in which responsibility for compliance and management of the country’s Compulsory Stock Obligation (CSO) rests entirely with participants in the oil market – refiners/ex refiners and importers/wholesalers.

Other countries have established bodies – Sagess (France), EBV (Germany), COVA (Netherlands) and NORA (Ireland) – which to a lesser or greater extent, manage their national stock holding obligation.

Current CSO obligations
Existing obligations require refiners/ex-refiners to hold 67.5 days of inland consumption with 58 days for importers/wholesalers.  Monitoring of compliance is conducted by DECC on a monthly basis from information on refiners/ex-refiners supply and stocking collected in the Downstream Oil Reporting System and for importers in the Oil Stocking System.

Additional provisions introduced in 2012 require that for motor spirit, diesel/gasoil and jet kerosene at least 22.5 days of the total obligation must be carried as finished products. The balance of the obligation for the above grades is 45 days (refiners) and 35.5 days (importers).  The full obligation – 67.5 days and 58 days respectively for fuel oil and regular kerosene – can be met by a category termed Any Oil which effectively encompasses the full refined product slate, as well as crude oil, feed stocks and NGLs.

An independent stocking entity
Refiners, ex-refiners and importers have put growing pressure on government to consider adopting a better way of managing CSO compliance, in the form of an independent agency.
Considerations have added weight to the case.

The not insubstantial capital cost required to finance additional physical storage capacity, required when the UK loses its 25% derogation associated with UKCS and the CSO moves from 67.5 days to 90 days. The additional storage requirement was assessed in the Deloitte report (see below) to be in the region of 5 million tonnes and a cost of £3-£4 billion.

IEA draw-down exercises – difficulties encountered with operation/effective implementation in the past.  Hurricane Katrina in 2005 – in several instances physical delivery of parcels, as instructed by the exercise, did not take place.

The ticket market – compulsory oil stock reservation agreements, originally developed in the 1970s which now play a key role in accommodating/supporting compliance, often involving bilateral arrangements whereby physical stock is held (or reserved) in another EU country with which the UK has a reciprocal arrangement.

Recent developments
In 2010 UKPIA and the Downstream Fuel Association commissioned Deloittes to develop a business model (operation, structure, governance, funding, etc.) to enable the setting up of an independent central stocking entity to support the UK downstream oil industry in meeting its CSO. The resultant report Structure and operation of a private oil stocking entity for the UK was completed in 2011.

One of the report’s key features was the recommendation of a phased approach from current arrangements to the new entity in order to facilitate and smooth the transition with the percentage of CSO delegated progressively rising.
It was also recommended that the central stocking entity should be established as a company limited by guarantee and not for profit, with all obligated companies becoming members thereof. Funding would be by contract fee, payable quarterly by each member.

This April, DECC published a document entitled Future Management of Compulsory Stockholding Obligation in the UK with four options.
Do nothing and continue with existing arrangements.
Establish a Government Strategic Reserve, so companies remain obligated to meet the current CSO but government manages the total increase in the overall stocking obligation by purchasing physical
stocks/ tickets.
Establish a private stockholding agency which obligated companies will use to manage the increase in obligation by purchasing stocks/tickets. The agency would be a not for profit body funded by contractual fees in proportion to stock volumes delegated and would have the potential to manage the entirety of the obligation. This option has no cost to the exchequer.
Government top slice – a middle ground between Government Strategic Reserve and a private stockholding agency, where government owns stocks through the agency.

A preferred route
DECC identified Option 3 as the preferred route ‘as it presents welfare benefits without a cost to the exchequer’, From the submissions made as part of the consultation exercise, DECC concluded that a private stockholding agency would increase investment certainty and better manage the aggregate obligation by exploiting economies of scale and scope. The net present value of this option was assessed to be £13.7 million.

As part of its Review of the Refining and Fuel Import Sectors in the UK, also published in April 2014, the government determined seven actions to be pursued in partnership with the industry. One of these is ‘to establish an industry-owned and operated central stocking entity to manage the UK’s CSO for oil’. Obligated companies are tasked this year with preparing a roadmap for the setting up of such an entity. If the proposed roadmap is acceptable then subject to parliamentary time, the government will seek an appropriate legislative vehicle to take forward.

Despite apparent reluctance in government circles, the case for a CSO agency seems to be gaining traction. The template set out in the Deloitte report provides a valuable reference point for the obligated companies to prepare a proposed roadmap. It remains to be seen whether or not the roadmap can be agreed and accommodated within the current legislative programme, particularly given the imminence of a general election in May 2015.