How Do Gas Stations Set Prices? The Mechanics of Fuel Pricing

Everyone and their mother had something to say about gas prices in the middle of the pandemic. And rightfully so, considering prices jumped up to about $5/gallon across the country. But how do gas stations set prices? Why did we all wake up one day and gas was close to $2 more per gallon? And what happens to the gas station owner’s salary when prices jump and nose dive so quickly? Well, it’s mainly due to the price of crude oil itself. That, however, is far from the only factor involved. 

How do gas stations set prices and what factors do they consider?

• Gas prices are influenced mainly by the cost of crude oil and fuel transportation costs. 
• Gas station owners can set prices, but must pay attention to factors outside of their control before settling on a final price. 
• Gas station owners don’t make much off of gas sales, but instead, they make money from additional services offered and convenience store sales. 
• Local, state, and federal taxes and fees all apply to gas station owners as well, lowering their profits. 

Understanding Gas Station Pricing

Gas station pricing is complex. The price you see in giant numbers on the gas station signs is made up of a variety of factors and changes frequently due to economic changes, political events, natural disasters, and much more. 

How Much Money Do Gas Stations Make?

Gas stations are considered retail businesses because while gas is one of the main products they provide, most gas stations sell other convenience store products as well. How much each gas station makes varies by the products they offer, where they’re located, and other factors such as:

• Profit margins: Gas stations typically earn their profits through the markup on the price of gasoline they sell. The profit margin can vary but is generally relatively low, ranging from a few cents to a few dollars per gallon. 
• Non-fuel sales: Any other services offered, such as convenience store items, snacks, beverages, car wash services, etc. all add to the profits of a gas station owner. Since gas station owners often take out hefty gas station loans and pay a pretty penny to open their stations, many opt to offer these different conveniences to pay back their bills and make a decent profit. 
• The volume of sales: The volume of fuel (and other items) sold can greatly impact a gas station's earnings. High-volume stations with a large customer base can generate more revenue than smaller stations with lower sales volumes.
• Operational costs: Gas stations have operational expenses such as rent or property ownership costs, utilities, payroll, maintenance, licensing fees, and other overhead costs. These expenses need to be factored into the overall profit calculations.

Can Gas Stations Set Their Own Prices?

Yes, like many other business owners, gas station owners have the autonomy to set their own prices. Of course, these prices need to be within the boundaries of any regulatory laws. Plus, prices can’t be too outrageous, or else you run the risk of never getting business.

Additionally, gas stations must consider the cost of acquiring gasoline from their suppliers, the associated transportation costs, taxes, and operational expenses when setting prices. 

Who Sets Gas Prices at Gas Stations?

The responsibility for setting gas prices lies with the gas station owners and managers. They have the authority to determine the prices based on a variety of factors mentioned above. While the ultimate decision rests with the station owners, they may also consider inputs from suppliers and industry trends.

How Do Gas Stations Set Their Prices?

Gas stations employ various approaches to set their prices. Owners incorporate both their internal opinions and understanding and external factors like the current trends in the market. Here are some common methods and considerations:

• Supplier pricing: Gas stations consider the costs they face when purchasing fuel from suppliers. These supplier costs include factors like the wholesale price of gasoline, transportation costs, and any additional fees or charges associated with the supply chain.
• Competitive pricing: Gas stations often monitor the prices set by their competitors in the vicinity. They may adjust their prices to stay competitive and attract more customers.
• Break-even analysis: Gas stations need to cover their operational costs, but gas station owners also rightfully want to earn an income for their business. They can determine the minimum price per gallon needed to cover expenses and achieve their financial goals by conducting a break-even analysis.
• Pricing strategies: Gas stations employ various pricing strategies, such as price leadership (setting prices based on the market leader), price skimming (setting higher prices initially and gradually lowering them), or penetration pricing (setting lower prices to gain more customers quickly).
• Market conditions: Gas stations consider the supply and demand dynamics in their specific market. If factors like inflation (or a global pandemic) are causing high demand but supplies are limited, owners need to adjust their prices accordingly. The same goes for when supplies are high, gas stations lower their costs because it’s easier for them to get fuel. 

Why Are Gas Prices So High?

While gas prices aren’t as high as they were a year or so ago, many older Americans still remember when gas barely graced over $1/gallon. Why then are prices so high now?

• Crude oil prices: Fluctuations in global crude oil markets affect gasoline costs. Changes in supply, demand, and geopolitical events (wars, pandemics, etc.) impact oil prices, which directly influence gas prices.
• Taxes and regulations: There are a lot more regulations around oil and fuel than there have ever been before, thanks to a growing awareness of how oil affects climate change. Government taxes, environmental regulations, and levies add to the cost of gasoline, contributing to higher prices at the pump.
• Refining and distribution costs: Expenses related to refining crude oil, transportation, and distribution increase the overall price of gasoline.
• Seasonal demand: Gasoline demand surges during summer and holidays, leading to temporary price increases. They often go down in the winter, as fewer people are on the road regularly. 
• Currency exchange rates: Fluctuations in currency exchange rates affect imported crude oil prices (much of crude oil is important) and, consequently, gasoline prices.
• Disruptions and natural disasters: Supply disruptions from natural disasters, conflicts, or unexpected events impact gasoline availability and can cause price spikes.

How Do Gas Stations Make Money?

Contrary to popular belief, gas stations don't primarily rely on gasoline sales to generate substantial profits. Instead, a significant portion of their revenue comes from the sale of items at their attached convenience stores. These stores sell a variety of products such as snacks, beverages, cigarettes, automotive supplies, and other convenience items. The profit margins on these products are generally higher than those on gasoline, contributing significantly to the overall profitability of the gas station.

Some gas stations often offer additional services such as car washes, oil changes, vehicle maintenance, and repairs. These services can provide an additional revenue stream and contribute to the profitability of the gas station.

4 Primary Factors That Determine the Price of Gas at the Pump

While many factors determine the price at the pump, these are the four more influential factors that help gas station owners set their prices:

The Cost of Crude Oil

The price of crude oil is a significant factor in determining the cost of gasoline at the pump. Crude oil prices are influenced by global supply, geopolitical events, OPEC (Organization of the Petroleum Exporting Countries) decisions, and future projections of the fuel market. As crude oil prices rise or fall, this directly impacts the cost of producing gasoline, leading to corresponding increases or decreases in gas prices.

The Cost of Oil Refining

The process of refining crude oil into gasoline is a complicated, hugely expensive process that contributes to the final price of gas we consumers pay. Refineries undertake complex operations to convert crude oil into different petroleum products, including gasoline. The costs associated with refining, such as labor, equipment, maintenance, and compliance with environmental regulations, impact the overall price of gasoline.

Distribution and Marketing Costs

When crude oil is made into gasoline it is only half the process. After, the gasoline needs to be transported to gas stations. The costs associated with this distribution get passed on to gas station owners. Additionally, any marketing costs, such as advertising and branding, contribute to the final price at the pump.

Federal, State, and Local Taxes

Taxes imposed by governments at the federal, state, and local levels also significantly influence the price of gasoline. Excise taxes, sales taxes, environmental levies, and other fees can vary from one jurisdiction to another. The amount of taxes levied on gasoline directly affects the final price paid by consumers. 

Other Factors that Affect How Gas Stations Set Prices

Gas stations take into account a range of factors to determine their pricing strategies. Let's explore some additional factors that affect how gas stations set prices, enabling them to adapt to meet consumer demands while still making a profit.

Branded vs. Unbranded Station

Branded gas stations are affiliated with specific oil companies (i.e., Irving, Citgo, Shell, Exxon, etc.) and are obligated to purchase their gasoline from the brand they represent. In contrast, unbranded gas stations have the flexibility to establish relationships with various suppliers, allowing them to explore different pricing options and potentially negotiate better deals.

Consumer Demand

Consumer demand plays a crucial role in local gas prices. Events such as anticipated hurricanes, holidays, or spring break vacations can significantly impact demand. When consumer demand surges, gas stations may raise prices due to increased competition for fuel supply (and simply because they know they can make more money that weekend). On the other hand, during periods of low demand, prices may be relatively lower as gas stations strive to attract customers.

Supplier Contract Terms

Gas stations enter into contracts with fuel suppliers, who set their own prices, which have a direct impact on their pricing strategies. Supplier contract terms, including pricing agreements and volume commitments, may dictate the rates at which gas stations acquire gasoline. 

Local Competition

A gas station surrounded by other gas stations is going to need to set ultra-competitive prices in order to make a decent profit. But a gas station in a rural area may be able to determine their prices a little more since they’re not influenced by competition. 

Seasonality

Certain states impose regulations that require a specific blend of gasoline during summer months to address environmental concerns. These specialized blends can be costlier to produce, leading to increased prices at the pump during the summer season. 

Profit Margin

Gas stations typically operate on slim profit margins. While the price per gallon may seem high to consumers, the actual profit made by gas stations is often minimal after accounting for operating costs, taxes, and fees. The majority of their profits are derived from non-fuel sales, such as convenience store items, where profit margins tend to be higher.

Are Gas Station Owners Able to Lower the Price of Gas?

Gas station owners have some flexibility in setting prices, but they’re primarily influenced by outside factors. While some gas station owners may choose to lower the price of gasoline to attract customers and increase foot traffic for their convenience store goods, there are risks involved in doing so.

Gas station owners often face price pressures from competitors and the market itself. If a gas station lowers the price of gas too much, it risks selling gasoline at a loss-making zero profit.  While enticing customers with lower gas prices may lead to increased sales of convenience store items, striking the right balance is crucial to ensure that the overall business remains profitable.

Additionally, gas station owners must consider factors such as:

• Wholesale costs
• Operating expenses
• Taxes
• Market and customer demand
• Competing prices

The Future of Gas Prices: Trends and Predictions

As you can tell by this point, gas prices are subject to a range of factors that contribute to constant fluctuations in price for everyone involved from the suppliers to the owners to you at the gas pump. That said, there are clear indications that the future of the fuel industry is set to change. Here are some key trends and predictions regarding the future of gas prices and the industry itself:

• A transition to alternative fuels: The global shift towards sustainable and alternative fuels, such as electric vehicles, is definitely going to impact gas prices in the long run. As the adoption of electric vehicles increases, the demand for gasoline may decrease, potentially putting downward pressure on gas prices.
• Stricter environmental regulations: As the years go on, stricter environmental regulations and policies aimed at reducing carbon emissions will likely be put in place. Compliance with these regulations can lead to increased expenses, potentially influencing gas prices.
• Technological advances: Advancements in technology related to oil exploration, extraction, refining, and transportation can impact the efficiency and cost-effectiveness of the entire supply chain.

It's important to note that these trends and predictions are subject to numerous variables, making it challenging to forecast gas prices with any sort of certainty. Various unforeseen factors can arise, causing deviations from anticipated trends