OIL’S WELL AGAIN
Falling oil prices impact Asia
By M Mahanama

Talk about entering the lion’s den. When Vipula Gunatilleka took on the role of CFO of SriLankan Airlines in January this year, he faced a daunting future. Not only was his country’s fragile peace agreement between the government and the Tamil Tigers starting to crumble, but aviation fuel prices were soaring. It was a double whammy that promised plenty of turbulence for Sri Lanka’s national carrier.

Fast forward ten months, however, and at least one of those issues looks to have subsided. Oil prices, which hit as high as US$77 a barrel in August, are now down to a more moderate US$59 a barrel today.

“Our biggest challenge is managing the fuel cost,” says Gunatilleka. “For the first five months of this financial year our fuel costs were up by US$23m over last year.”

That’s a serious issue when last year’s revenues of US$600m yielded profits of just US$19.6m. But, adds Gunatilleka: “Looking forward we’re confident prices will be better, which is very welcome.”

He isn’t the only CFO who is breathing a sigh of relief. On the one hand, demand for oil looks to be stabilizing in the face of a slowing global economy. On the other, supply lines look less tight thanks to expanding capacity around the world, reduced geopolitical risks and full inventories in places like the US. The result is that the price of oil looks set to stay well below its recent peaks.

For Asia, a heavy net importer of oil, that’s good news indeed. Of all the major economies in the region, only Malaysia is a net oil exporter, although Indonesia is a net fuel exporter, thanks to its natural gas reserves.

Everyone else, though, pays a big price when oil prices spike. In India, oil makes up 30% of the import bill. And in Thailand, JPMorgan calculates that each rise of US$10 in the price of a barrel of oil knocks 1.7 percentage points off GDP, not to mention stoking inflation and causing interest rates to rise. The Philippines, Taiwan, South Korea, China and other economies are in a similar boat. So falling oil prices promise a rosier economic outlook all around, not just for oil-hungry industries like transport and manufacturing.

Still, even though Gunatilleka is confident his fuel bill is set to come down, he isn’t taking any chances. He currently hedges 76% of the company’s fuel requirements for the next year, although he plans to bring that figure down to around 67%.

Equally, SriLankan is aiming to reduce fuel usage by boosting performance efficiency. For example, the airline is in the midst of replacing all its carpets and seat covers with lighter material. Aircraft no longer carry unnecessary operating manuals, the quantities of food and water on board have been cut, and SriLankan is washing and polishing its planes more frequently to reduce drag. “We feel this will give us a 2% to 3% saving on our fuel bill,” calculates Gunatilleka.

Nonetheless, falling oil prices aren’t good news for everyone. In Singapore, Chemoil Energy, which supplies marine fuel and other services to shipping companies, was aiming to raise US$356m in an initial public offering (IPO) on the Singapore Exchange in October. But with oil prices falling, investors were spooked and the IPO was pulled. In fact, oil companies of all stripes will see profits drop as falling oil prices transfer income from producers to consumers.

Falling oil prices could also be bad news for environmentalists. With prices of crude oil so high, many countries in Asia, notably Indonesia and Malaysia, were starting to invest serious money in developing alternative fuels and power technology. In Jakarta, the government recently announced plans to invest 2 trn rupiah (US$217m) in promoting the production and export of fuels made from palm oil and other crops. And in Malaysia, the government will open the world’s largest bio-diesel plant next year, again using palm oil as one of its key inputs. Further development of such efforts could be hampered should oil prices fall significantly further from levels of today.

If only the domestic tension between Sri Lanka’s government and the Tamil Tigers would take a turn for the better, then Gunatilleka would really be smiling.