Question

China Petroleum & Chemical Corporation (Sinopec) is an integrated producer of oil and chemicals. Sinopec’s refining division sells most of its production to the marketing and distribution division. The company’s policy is to set inter-segment transfer prices according to the market price or cost plus an appropriate margin. In early 2014, Sinopec announced that it would partially privatize the marketing and distribution division.

Answer these questions in your discussion:

1. How does the transfer price of refined products affect the profits of the marketing and distribution division?
2. China is a large country with refineries sourcing crude oil from diverse sources, including foreign countries. Would the market prices of refined products be the same in all places?
3. Suppose that Sinopec allows the marketing and distribution division to outsource its supply of refined products. How would that affect the refining division’s sales to the marketing and distribution division?

Answer 1

1. Crude oil is refined in order to extract Gasoline, diesel fuel, etc. So here the refinery and other transport charges are paid by the oil marketing companies which are finally added to the price of the crude oil which are obviously known as the Transfer Prices. Some percent of margin is retained by these companies itself and later sold to the dealer of these refined products. Higher the transfer price lower are the margins or say profits to the marketing and distribution units to some extent. Generally, distribution, marketing, retail costs of the dealers are included in gasoline's retail price. Gasoline usually will have higher prices in summer due to its heavy demand.

2. The market prices never remain the same as the commodity is in worldwide demand and also in terms of its supply. These products will have huge fluctuations because of its limited availability. Whoever it may be produced by, the ultimate quantity remains the same.

3. Sinopec (2nd World's Refiner of Petrol and Oil products) generally has subsidiaries which own oil storage and freight facilities and these are linked by pipelines, railway tanks and some special routes by rivers through trains. Without these networks, the marketing and distribution activities are not done with ease and without which it cannot run in solitary in a profitable scale which is known as the Marketing Mix. So, it can't outsource the things to those networks but recent amendment are taken place in proper outsourcing to its network respective to its division's sales level.