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UPS (NYSE:UPS), a leading logistics service provider, announced that it will purchase 1,000 propane fueled delivery trucks. [1] These new trucks will replace the existing gasoline and diesel fueled vehicles that serve rural areas in Louisiana and Oklahoma. It also plans to invest in the supporting infrastructure by installing 50 fueling stations at UPS locations. The overall cost of the investment in vehicles and infrastructure is expected to be around $70 million. The operation is expected to begin by mid-2014 and should be complete by next year. The major reason behind UPS moving toward increasing its propane fueled fleet are cost benefits and emissions reduction.

UPS already operates 3,150 alternative fuel and advanced technology vehicles such as electric, hybrid, liquefied natural gas, compressed natural gas, ethanol and biomethane vehicles. UPS's existing fleet of 900 propane fueled vehicles operate only in Canada.

The Benefits Of Propane Fueled Vehicles

Cost Benefit: In order to increase its competitive advantage and increase returns to shareholders, UPS is looking at trimming down operating costs. The direct impact of propane fueled vehicles will be a reduction in fuel expenses, which accounted for around 8% of the company's operating costs in 2013. UPS believes that these vehicles will reduce gasoline and diesel consumption by 3.5 million gallons per year. According to David Abney, COO of UPS, propane costs around $1.25-$1.50 per gallon less than gasoline or diesel. [2] This implies that UPS is expecting to see a reduction of $4.3 million to $5.25 million in fuel expenses from the 1,000 propane fueled vehicles.

Apart from the decrease in fuel expense, vehicle maintenance costs are also expected to decline given that propane vehicles require low maintenance costs compared to traditionally fueled vehicles.

Additionally, there are tax benefits associated with owning propane vehicles. For example, in the states where UPS is planning to introduce the 1,000 propane fueled vehicles, Louisiana and Oklahoma, taxpayers may claim tax credits of 10% of the alternative fuel vehicle's cost (up to $3,000 in Louisiana; up to $1,500 in Oklahoma). [3] This implies around $2 million in tax credits, assuming an average tax credit of $2,250 per vehicle.

UPS plans to replace traditionally fueled vehicles in other states later on. With the increase in number of propane fueled vehicles, the cost benefits will also multiply.

Emissions reductions: With more stringent emission standards being implemented by the US Environmental Protection agency, it makes sense to opt for a clean burning fuel like propane. Since propane has low carbon content compared to traditional gas or diesel, it produces fewer emissions. [4] This will enable UPS to adhere to emission standards much better than gasoline or diesel fueled vehicles.

Important consideration: The advantage that gasoline or diesel vehicles have over propane fueled vehicles is that the former is cheaper. Propane fueled vehicles cost thousands more. Also, adding conversion kits to gasoline vehicles would cost around $4,000-$12,000. [4] However, given that propane is cheaper than gasoline or diesel, costs can be recovered quickly.

Why Not Go For Natural Gas?

Natural gas is another alternative fuel that presents cost benefits and is more environmental friendly than gasoline or diesel. When compared to propane, natural gas produces less energy for the same quantity. However, natural gas is cheaper than propane and is cheap enough to offset the cost incurred to purchase the extra units of natural gas to produce the same energy as a single unit of propane. [5] The question then arises that why has UPS opted for propane fueled vehicles rather than going for natural gas? We believe the answer lies within the cost incurred with respect to setting up the related infrastructure.

One of the main reasons that natural gas has had lower penetration compared to gasoline, diesel or propane vehicles has been the lack of infrastructure to support it. There aren't as many natural gas fueling stations in the US that would support widespread use of natural gas as an alternative fuel. The reason that there are fewer fueling stations is that it costs 10 times more to set up a natural gas fueling station compared to a propane fueling station. [6] In addition, the space required for a propane station is much less.

Since UPS chose to install its own fueling stations, infrastructure development costs would have been a very important part of the investment. Hence to keep investments low, UPS must have chosen propane over natural gas.

Disclosure: No positions.

Source: UPS To Benefit From Fleet Running On Alternative Fuel