The importance of a well-written fuel contract and a visible fuel price benchmark

Welcome to the first installment of a comprehensive series covering best practices to incorporate into your business for improved fuel management. Our team of industry experts are committed to sharing insights and strategies that will help you mitigate your exposure to market volatility, effectively manage fuel contracts, and make informed decisions regarding your fuel purchases and sales.

For many companies, having a well-thought-out fuel buying program – with well-written contracts and a visible, transparent ‘benchmark’ as a cost basis – is an afterthought. Many companies – some of whom buy upward of 500-mil gallons a year of fuel – treat the fuel buying side of their business as an inconvenience, a costly necessity.

Companies often ‘cycle’ people through the job – it is not uncommon to see employees transition from buying pencils, desks, or coffee into purchasing fuel. For most companies, fuel is the second leading expense next to payroll. Yet, only the smartest and most thoughtful of those companies dedicate the right resources toward a cohesive fuel buying program that utilizes best practices.

In this article, Argus' VP of Business Development Scott Berhang covers the importance of a well-written fuel contract and what you should look for in your fuel buying program.

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Did you know: Roughly 75% of all current fuel supply contracts are poorly written - 75% is perhaps a conservative number. In reality, it is likely closer to 90%. By ‘poorly written,’ we mean that the contracts are old and outdated, do not refer to the correct fuel mandated in that area or have not been updated to include how Carbon related benchmarks like RINS or LCFS play into contracted costs. One of the most critical things any fuel buyer can do is to have contracts reviewed – not only at renewal but also intermittently – specifically if your fuel volumes are growing.

There are three types of fuel contracts:

1. Unbranded Contract: For fuel buyers that do not have retail gasoline sites. So, if you are a manufacturing company with a fleet of trucks, this is the appropriate fuel agreement for you. Be aware that every contract has volume requirements that must be fulfilled. But with an unbranded fuel contract, supply is guaranteed.

2. Open Rack: No contract in place. If you are a small fuel buyer, this is great. But, if you have significant volumes each year, you do not want to take this approach since there is no guarantee of supply

3. Branded Contract: If you are a fuel buyer with retail sites, this applies to you. Like an unbranded contract, this guarantees supply and has volume requirements that must be fulfilled.

What should I be looking for in my contract?

For many fuel buyers, just finding the contract is the hard part. Many fuel buyers file this away, assuming they will never need it again – not a good move!

Find the contract – if you cannot find it, ask your supplier to provide it. If they do not respond to you or are unwilling to provide it, that is a big red flag! When you find the contract, make sure that the ‘price point’ or the benchmark used as the cost basis is visible and transparent and that you understand it so you can explain it to your colleagues who are also on the fuel desk or are your backups!

Most fuel buyers do not realize that without a clear, defined benchmark, it is impossible to accurately review and audit invoices.

Say what?

Fuel-buying formulas are becoming more and more complex. Instead of posted rack deals, index or formula deals are becoming commonplace.

What does that mean?

Let’s say that I am a trucking company in Atlanta. My ‘index’ or formula price will be something like this:

“The fuel cost will be the Argus Gulf Coast ULS No.2 closing price + 3cts gal + freight + applicable taxes.”

It’s that simple!

Why do buyers like formula deals? On average, a buyer is going to get a better price on a formula deal than they would get if they were buying against a rack posting – that’s because the seller is incurring a lot less risk on a formula deal than a rack deal, so he or she can afford to lower the price a little.

Why do sellers like formula deals? Again, it comes down to risk. Rack sellers aren’t just selling. They’re also buying bulk supply, either internally (from their refinery & traders) or externally, from another company. And when they buy in the bulk markets, their purchases are linked to a spot market posting, like New York Harbor or Gulf coast Colonial. If they can sell against the same posting, then they’re no longer incurring basis risk – great for them, and great for their customers!

Always have access to intra-day fuel pricing if you do formula deals.

Spot markets move all day long – they are very volatile. Having access to intra-day pricing helps you avoid sudden, unpleasant price surprises. Working with a PRA like Argus can help your business maximize pricing negotiations, improve margins, and keep fuel costs under control. More and more national suppliers are moving to an Argus price as a cost basis in these formula deals. Argus not only provides an end-of-the-day report on fuel prices for the entire North American region, but they also provide intraday pricing via the Argus Spot Ticker for gasoline, diesel, ethanol, and RINs across all seven major spot markets.

In the following installment, we will discuss what factors go into the movement of fuel prices – especially spot prices, and explain what spot prices are, how they are collected, and how you can use them to purchase fuel more strategically.

Argus provides the tools to make profitable and strategic decisions in the U.S. downstream road fuels market. Try the Argus Spot Ticker for free. You’ll get access to up-to-the-minute pricing for gasoline, diesel, ethanol, and RINs, comprehensive daily market overview reports, and real-time news alerts – at no additional cost.