Fuel hedging still not mainstream in Arkansas

story by Wesley Brown
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Small and medium-sized businesses and even government entities are taking a closer look at fuel-saving strategy that propelled quirky Southwest Airlines’ to an incredible 17-year profit streak.

But few, including those in Arkansas, are taking the step to hedge fuel prices to cap rising gasoline and diesel prices, according to an annual survey conducted by Automotive Fleet and Pricelock.

To date, Tim Leathers, deputy director of the state Department of Finance and Administration, said the state of Arkansas also has not entered into any fuel contracts to cap rising fuel prices. The Arkansas Highway and Transportation Department did not respond to a media inquiry.

Survey results for 2011 of nearly 500 small and medium-sized businesses said that 99% are concerned about the negative impact of fuel prices on their business, but only 31% of businesses have considered implementing a fuel price protection program.

Additionally, nearly 75% of fleets said they are willing to drive out of their way to save 25 cents per gallon of gas, and 25% said they would drive five miles or more for such savings.

“With gasoline & diesel prices at two-year highs, most businesses are forced to take an immediate hit to their bottom line,” said Naveen Agarwal, chief operating officer of Pricelock. “Many small and medium-sized firms are unaware of the fuel price protection strategies available to them or mistakenly believe that they are too small to take advantage of programs that make their fuel costs predictable.”

Redwood, Calif.-based Pricelock has merited Wall Street’s attention by coming up with an unique online hedging program for small and medium-sized businesses that takes much of the speculative nature out of capping fuel prices.

“Our goal is to empower medium and small sized businesses to use the same techniques as larger companies against the volatility in the fuel industry,” said Liat Rorer, vice president of marketing for Pricelock.

Until recently, fuel hedging was limited to larger companies like Southwest with substantially liquidity who could afford to buy several truckloads of fuel at a time.

Generally speaking, gasoline futures are traded on the New York Mercantile exchange, and the standard contract size for gasoline futures is 42,000 gallons per contract. That means a small Arkansas trucking firm or fleet manager looking to cap diesel prices at the current on-highway price of $3.93 for diesel fuel would have to upfront cash of $165,060 or have a sufficient credit line to lock up those prices.

“That would take it out of the reach of most small companies,” Rorer said, although the wholesale price for diesel fuel is about 70 cents cheaper than the current retail price.

However, locking in fuel prices has been a no-brainer for the Central Arkansas Transit Authority, whose fixed price contracts have possibly saved the area’s bus system hundreds of thousands and possibly millions of dollars over the past several years.

“It is a little difficult for us to tell you exactly how much we have saved over the years with our fixed price contracts,” said Sharon Williams, CATA’s procurement and contracts manager. “I can tell you, however, that during the nearly six years I have been doing this, our fixed contract price has never exceeded the price that we would have paid at rack price.”

Although the closely-guarded rack or wholesale prices for traders and brokers lag behind retail prices for consumers because of pass-through costs, CATA’s capped costs provides the transit authority with substantial savings.

CATA’s current rack contract for diesel locks in prices at $2.24 per gallon. That contract, which ends today (Mar. 30), compares with last week’s closing rack price of $3.16 per gallon.

The authority’s new contract calls for 350,000 gallons of diesel over a six-month period at a rack price of $3.14. According to the EIA’s short-term outlook, on-highway diesel fuel retail prices are expected to average between $3.81 per gallon and $3.82 per gallon in 2011, up 83 cents from $2.99 per gallon in 2010.

Even with the market’s current volatility and the spread between spot and retail prices, CATA’s contract gives the authority security through the summer driving season – when fuel prices are expected to peak.

“Due to the issues in the Middle East, we really don’t know whether gas will spike even higher or take an unexpected drop,” Williams said. “The fixed price contract allows us to know what we will be paying regardless.

For businesses that may only need a fraction of the fuel that CATA’s fleet of buses go through every day, Pricelock executives Robert Fell and Agarwal came up with a unique online fuel price protection that protects businesses of all sizes from increasingly volatile fuel prices. Pricelock can lock in fuel price protection for customers down to 50 gallons per contract.

“Many businesses were hurt badly by hedging in 2008 when prices went down and they were locked in at higher prices,” Rorer said. “Some had to take out loans or risk losing their businesses, so we came up with a solution against prices when they go up.”

Pricelock customers first select a maximum price per gallon for gasoline or diesel they want to pay. Any month the national average as determined by the U.S. Energy Information Administration is greater than the customer’s capped price, Pricelock pays the difference.

Unlike rival programs targeting some consumers and small businesses, Pricelock customers do not have to pre-purchase fuel, purchase a credit card or make a financial arrangement to pay for their fuel at the pump. But the biggest appeal that the California online hedger brings to the market is that customers don’t have to cover the difference if prices fall — the obvious downside of hedging that brought Southwest’s winning streak to an abrupt end.

“Our customers simply continue to purchase fuel as they currently do, but there are no limitations to how and when you buy fuel,” Rorer said. “Our fuel price protect is not gambling. When you purchase a plan you are protecting your business against increases in gas prices.”

Pricelock also recently got a boost from Wall Street after Barclays, RenaissanceRe Ventures and Travelers Insurance provided the online hedging firm with $12 million in new financing to expand the fuel price protection business. Wall Street titan Goldman Sachs and Artiman Ventures are also backers.

Rorer said Pricelock doesn’t have customers in Arkansas, but the company plans to expand its marketing reach with the new round of financing. Pricelock customers also have to pay premium to start their online fuel protection, but there are no additional fees afterwards, she said.

Meanwhile, most Arkansas consumers and local governments still don’t have the luxury or authority to cap current pump prices, which are expected to average $3.56 per gallon in 2011 and $3.57 per gallon in 2012.

Although several online brokers now offer fuel-protection program for consumers, analysts say, many of those programs are fraught with risk because of hidden fees and the speculative nature of hedging that bring huge losses — if the price of gasoline takes a sudden drop.