Product Note On Aviation Turbine Fuel (ATF)

Mandar Pote Research Analyst

Backdrop Aviation turbine fuels, popularly known as ATF, are used for powering jet and turbo-prop engine aircraft. Kerosene was used to fuel the first turbine engines. Kerosene-type fuel was chosen as having the best combination of properties. Jet-kerosene or Jet Fuel is a fuel of naphtha, or of Kerosene type, suitable for commercial or military purposes in aircraft turbine engines. The only difference being that ATF does not freeze at higher altitudes and has zero moisture content. As the primary function of aviation turbine fuel (jet fuel) is to power an aircraft, energy content and combustion quality Stocks are key fuel performance properties. Other significant jumped 7K th performance properties are stability, lubricity, fluidity, volatility, non-corrosivity, and cleanliness. Besides providing a source of energy, fuel is also used as a hydraulic fluid in engine control systems and as a coolant for certain fuel system components. Indian Scenario In India, the kerosene market is divided in three segments of public distribution system (PDS), industrial kerosene and aviation turbine fuel (ATF). India manages to produce 7.8 million tons of ATF. Country is self sufficient in production and able to export 3.6 million tons. Indian oil companies produce enough kerosene and ATF to meet domestic demand. Besides, these oil companies undertake the pricing of ATF and industrial kerosene from time to time and thus there is a close parity with the international crude oil prices. ATF sales accounted for around 3.5 per cent of total sales of petroleum products. Price analysis The aviation industry is the single largest user of ATF, which accounts for about 40 per cent of airlines' input costs. Volatile international crude oil prices spill over into the ATF and industrial kerosene prices. Demand for ATF has increased exponentially owing to introduction of many budget airlines and increased air-traffic. Consumption of ATF has increased by almost 77 per cent in FY 07 over FY 01.

Differential Pricing Mechanism of Aviation Fuel for Domestic & International Operators The Association of European Airlines (AEA) members indicate that their fuel bill constitutes 33 percent of their total operating expenses whereas for Indian carriers the fuel bill constitutes about 45-50 percent of the operating expenses. Even for international operations, the price applicable to Indian carriers' uplifts is higher than those applicable to foreign carriers by 25 percent. International operators pay INR 50100 per KL whereas domestic operators pay between INR 66000 to INR 73000 per KL in the metro cities. ATF is trading at USD 167 per barrel, Source: BP Statistical Review of World internationally. Despite the robust growth in demand, the airline industry in India is facing huge losses due to various domestic and external factors. Excessive taxation is one of the prime factors. It is estimated that Indian carriers lost US $500 million last year due to irrational ATF pricing. As per industry estimates, the projected losses for 2008-09 would be in the range of US $1.8 Billion. Such losses are expected to have far reaching consequences on the operators. Low cost carriers (LCCs) may even have to close down many routes and streamline frequencies. Even Full Service Carriers (FSCs) will have to rationalize their operations.
Drivers and Restraints of Aviation Fuels Market
Monopolyof PSUs HighATFPrices ShiftinPolicy/Open AccessSystem

HighMarketing Margins

ATF Market

Profitabilitydepending onvolumes

RapidDemand Growth High Distribution

PrivateParticipation

 ExistingATFPricingMechanisminIndia
The price of ATF in India is based on International Import Parity prices. However, the ATF supplied by Indian oil companies is refined in India from imported crude. There is no direct import of ATF. The import duty on ATF is 20 percent but the import duty on crude is only 10 percent. Still, the oil companies charge a 20 percent add-on to the Refinery Transfer Price (RTP). Apart from this, oil companies also include a 16 to 49 percent add-on towards marketing margins and contingencies on the Refinery Transfer Price after the addition of the import parity add-on. This add-on varies between various cities. On this, the Central Government levies an excise duty of 8 percent. On the resultant price, the various State Government levy local sales taxes ranging from 4 to 39 percent, which on an average work out to 25 percent countrywide. The total Government levies thus work out to an add-on of 35 percent. Thus, effectively the price of ATF in India works out 60 to 70 percent higher than international benchmarks. ATF pricing structure
ReserveTransferPrice

CrudeOilATFPriceCorrelationis93%

Source:MCX

Price Affecting Factors Crude Oil Prices

Crude Oil

ATF

Demand from aviation sector Geo political factors Currency fluctuation Air traffic

+20%
ImportParity addon

+21%
Marketing marginaddon

ATFpricechargedbyOil companies

ATF Traded On Following Exchanges TOCOM Central Japan Commodity Exchange MCX

+20%
ImportParity addon

+21% +35%
Marketing marginaddon Govt. Levies/Tax

Effectivepricesatwhich airlinebuysATF

HedgingOptionfortheIndianAviationFuelsMarket
Recently, the Indian Government has also allowed domestic airlines to hedge fuel risk. The Multi Commodity Exchange of India (MCX) has introduced trading in ATF futures, which would help airlines to hedge physical requirement/positions on the exchange. Hedging allows carriers to insulate themselves against rising fuel prices and maintain stable profitability. It also helps airlines generate more stable cash flows and better predict future cash flows and earnings. This increased stability is generally viewed positively by investors, and this leads to higher average price of the stock in the market often called the 'hedging premium'. With fuel costs amounting to more than 40 percent of the operating costs for airlines in India, and more airlines looking at the equity market for financing their fleet acquisition and expansion plans, hedging is likely to be perceived as a useful tool to prevent escalation of costs.

MCX ATF Contract - Key Features There are 6 future contracts, starting from July to December. Initial Margin: 5%. The contracts would expire on 26th of the respective month. Minimum trading unit at 100 barrels, while the price would be displayed in terms of rupee per barrel. Per rupee movement will yield Rs.100. The daily price limit is of 4% and after 2 % volatility in prices, trading would be stopped. Referred Benchmark price: TOCOM