A Numbers Breakdown Shows Why Gas Costs About $2/Gallon More In CA Than In Missouri
Oil Companies Make More Than 3x More Gross Profit/Gallon On The Gas They Sell In California Than The Gas They Sell in Missouri
At the time that oil was at about $110/barrel, the average retail price of Shell and Valero gasoline sold in California was about $5.80/gallon and the average price for Shell and Valero gasoline sold in Missouri was about $3.80/gallon, give or take a few pennies per gallon plus or minus.
— ABOUT THE NUMBERS: The price of gasoline varies from day to day and city to city with variations in transportation costs and in individual station markups. I used what I think is a realistic set of fixed, average numbers as a snapshot in time. They may vary by pennies per gallon from the prices and costs that apply to a certain station in a certain location but, I think, not enough to change the big picture. —
I asked myself why the price for a gallon of gasoline at a Shell or Valero or other large oil company station in California was about $2/gallon higher than the price for a gallon of gas sold in the state with the cheapest gas prices, Missouri.
- Same seller.
- Same time
- Same-priced crude oil.
- Stations in California closer to the refinery producing the gas than the stations in Missouri are situated in relation to the refinery producing their gas
yet, on average, the gas in Missouri was about $2/gallon cheaper than the gas in California.
What I learned was that the difference is only partially due to the higher cost to refine the cleaner-air gasoline sold in California and the higher California gas taxes and clean-air fees.
Almost half of the $2 higher cost, about $.89, is due to about a 350%/gallon higher oil-company gross profit on the gas they sell in California compared to the gross profit they make on a gallon of gas they sell in Missouri.
Shell & Valero Refineries
The gas that Shell sells in Missouri probably comes from their refinery in Norco, Louisiana. The gas that Shell sells in Northern California most likely comes from their refinery in Martinez, California, not far from Oakland.
The Cost Of Crude Oil
A barrel of crude contains 42 gallons.
Because the refining process adds hydrogen to crude oil, a 42 gallon barrel of crude oil produces 45 gallons of final products.
45% of those 45 gallons, or about 20 gallons, are gasoline. The rest include heating oil, diesel fuel, jet fuel, etc.
$110/barrel X 45% of the barrel used for gas = $49.50/20 gallons = about $2.48/gallon for the cost of crude oil to make one gallon of gasoline if the crude oil costs $110/barrel.
The Price Difference Between California Gas & Missouri Gas
$.30/gallon higher refining costs for California’s required clearer-air gas blend PLUS
$.81/gallon higher gas taxes and clean-air fees in California than Missouri PLUS
$.89/gallon higher oil company price on California sales than Missouri sales EQUALS
the $2/gallon price difference.
Wait, an EXTRA $.89/gallon gross profit made by the refiners on the gas they sell in California over and above the gross profit they make on the gas they sell in Missouri?
Pre-Tax Cost Of California & Missouri Gasoline
$5.80 California retail cost MINUS $1.19 Federal and California taxes/fees = $4.61/gal pre-tax cost of California gasoline
$3.80 Missouri retail cost MINUS $.38 Federal and Missouri state taxes = $3.42/gal pre-tax cost of Missouri gasoline
Calculating The Refinery’s Gross Profit Per Gallon In California
Let’s work backward.
The cost of oil:
$5.80 minus $2.48 cost of oil = $3.32 (Subtract the cost of oil)
We know that gas stations have a markup of about ten cents/gallon or less:
$3.32 — $.10 = $3.22 (Subtract the gas station’s price markup)
Federal, California state taxes and fees are currently about $1.19/gallon:
$3.22 — $1.19 = $2.03 (Subtract the Federal & CA State Taxes & Fees)
The cost to transport gas in a truck from a depot or refinery is about 7 to 10 cents/gallon. (Of course, this can cost much more per gallon for a long transport to a remote location).
Gas for Shell’s Northern California stations only has to make a short freeway trip by tanker-truck from Shell’s refinery a few miles north of Oakland.
$2.03 — $.10 = $1.93 (Subtract the tanker truck transportation cost)
$1.93/gallon goes to the refinery over and above the cost of the crude oil and over and above the clear air and carbon-tax fees charged to the refineries. Those are included in the $1.19/gallon taxes and fees number above.
It costs about $.70 or less per gallon to refine crude oil into California’s cleaner-air gasoline blend versus about $.40 or less per gallon to refine crude oil into Missouri’s regular blend of gasoline.
$1.93 MINUS $.70 refining cost = $1.23 refinery’s gross profit per gallon of California gasoline that is sold at $5.80/gallon and produced from $110/barrel crude, about 360% higher than the equivalent Missouri gross profit figure of about $.34/gallon.
Breakdown On The Refinery Revenue In Missouri
Let’s do the Missouri math based on the retail price in Missouri of about $3.80/gallon
Cost of Oil:
$3.80 minus $2.48 cost of oil = $1.32 (Subtract Cost of oil)
$1.32 — $.10 = $1.22 (Subtract Station’s price markup)
Federal & Missouri Taxes:
$1.22 — $.38 = $.84 (Subtract Federal & Missouri State Taxes & Fees)
$.84 — $.10 = $.74 (Subtract Tanker truck transportation cost)
$.74/gallon to the refinery over and above the cost of the crude oil
$.74 MINUS $.40 cost to refine a gallon of regular gas = $.34/gallon refinery gross profit per gallon of Missouri gasoline that is sold at $3.80/gallon and produced from $110/barrel crude.
California Gross Profit/Gallon — — Missouri Gross Profit/Gallon
- $1.23…………………………………….. $.34
Comparing Gross Profit On Sales Of California Gas Vs. Missouri Gas
Profit As A Percentage Of Pre-Tax Retail Price
Refinery Gross Profit DIVIDED BY Pre-Tax Gas Retail Price
California — — — — — — — — — — — — — — Missouri
$1.23/$4.61 = 26.7% ……………………$.34/$3.42 = 10%
After adjusting for the increased cost of refining California’s more expensive cleaner-air blend of gas,
- the same refiner selling gas made from
- the same priced crude oil
- at the same time
is making more than 250% more gross profit per gallon as a percentage of the pre-tax retail price (26.7% vs 10%) for the gas sold in California than it is from a gallon of gas sold in Missouri.
Profit As A Percentage Of (Oil Cost + Refining Cost)
Refinery Gross Profit DIVIDED BY (Oil Cost + Refining Cost)
California — — — — — — — — — — — — Missouri
$1.23/$3.18 = 38.7% ……………………$.34/$2.88 = 12%
($2.48 oil + $.70 refining cost) …………($2.48 oil + $.40 refining cost)
38.7%/12% = 322% higher gross profit as a percentage of direct costs
Profit In Dollars
$1.23 California gas gross profit DIVIDED BY
$.34 Missouri gas gross profit
a 360% higher profit in dollars for each gallon of gas sold in California compared to the profit for each gallon of gas sold in Missouri at the same time by the same seller and made from the same priced crude oil.
$1.23/gallon gross profit for California gas MINUS
$.34/gallon gross profit for Missouri gas
an additional profit of $.89/gallon from gas sold in California at the same time, by the same seller, for gasoline made from the same-priced crude oil over and above the gross profit per gallon ($.34) for gas sold in Missouri.
Oil Companies’ Pricing Strategy
Why are oil companies charging Californians over three and a half times more gross profit per gallon than they’re charging residents of Missouri? ($1.23/gallon vs. $.34/gallon)
Most people think that the price for manufactured goods should be the competitive price, that is a price based on the cost to make and sell them plus a “reasonable” level of profit, namely,
Costs + Overhead + Profit Percentage = Price
But businesses don’t think that way. They want the maximum revenue price, the “All the market will bear” price, irrespective of what their manufacturing costs are.
Why Oil Companies Can Charge More
Why can oil companies get away with collecting gross profits on California sales equal to almost 39% of their direct costs (crude oil plus refining cost) versus 12% of their direct costs for the gas sold in Missouri?
39%/12% = 325%
I think it is because the refineries making California’s cleaner-air gasoline have very little excess capacity while the regular gasoline sold in Missouri can be piped or trucked into Missouri from any refinery in the country.
That excess available supply means that gas sellers in Missouri are subject to price competition.
But there is very little excess available supply of the cleaner-air gasoline that can be sold in California so there is between little and no price competition for gasoline sellers in California.
Because that limited supply means that sellers in California don’t have to worry about anyone offering to sell gas at a lower price, they can add an extra $.89 to their wholesale price.
As I pointed out in this column:
How One Large Seller Can Drive The Market Price Up To A Monopoly Price
The key factor is if the large seller’s market-share is materially greater than the industry’s excess production…
a seller with a market share that is materially greater than the market’s excess product capacity can
- (1) Raise prices toward the monopoly price, and
- (2) The profit motive will drive the other sellers in that market to raise their prices to match that seller’s higher price because raising their prices makes them more money than trying to price compete.
When there is material price competition because of the availability of a large supply of gasoline, the ratio of gross profit to the cost of oil + refining cost is about 12%
When there is no material price competition because there is a small amount of additional supply, the ratio of gross profit to the cost of oil + refining cost is almost 39%.
The refinery profits from the sale of a gallon of gasoline in California are roughly three and a half times higher ($1.23 vs. $.34) than the refinery profits are for the sale of a gallon of gasoline in Missouri by the same oil company at the same time from identically-priced crude oil because, I think, the limited supply of gasoline that meets California’s clean-air requirements allows the sellers to get away with charging a higher price.
Different Per Gallon Prices Within California
And we still haven’t examined how oil companies adjust the price of gasoline within California to extract an all-the-market-will-bear price on a zip code-by-zip code basis.
There’s a reason why the same company on the same day selling the same gasoline charges a different price at stations that are only a few miles apart — To maximize gross revenue under the All The Market Will Bear policy.
Oil companies set the retail price of gas at each of their outlets based on the demographic characteristics of the nine-digit zip code where each station is located.
I believe that they use factors such as population density, population wealth, number of competing stations and other data to determine the highest price that will generate the maximum daily revenue in that specific nine-digit zip code.
Gasoline prices are never about cost + overhead + a reasonable percentage of profit.
To oil companies, pricing based on cost plus overhead plus a fixed percentage of profit is as alien and as unpopular a concept as communism.
They are always about maximizing gross revenue at each station based on a strategy of charging all the market will bear given the wealth of the customers, the need for fuel, and level of competition at each location.
The more you need the gas, the less able you are to get it from anyone else, and the more money you have to spend, the higher the price the seller will charge.
That’s how business works. The best way I know of to change that is with a corporate excess profits tax.
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