LULIANG, China (Reuters) - Chinese state oil giants Sinopec and PetroChina are waging war at the nation’s gas pumps, slashing prices at unprecedented rates in an effort to reclaim sales lost to private local and foreign rivals in the $440 billion retail fuel market.

FILE PHOTO: Discounts of gasoline prices are displayed at a CNPC gas station in Qingdao, Shandong province, China March 27, 2017. REUTERS/Stringer

The rare price war kicked off in late March as Sinopec 0386.HK reported first quarter retail sales had slid to a three-year low. Spurred by a glut of fuel, Sinopec started offering hefty discounts in response to ad-hoc but frequent promotions by independent petrol station operators.

PetroChina 0857.HK swiftly joined in, triggering a ferocious battle against independents and international firms including Shell RDSa.L and BP BP.L, said three state oil sources involved in retail fuel marketing.

The heavy discounting is now spreading from the most heavily oversupplied provinces in China’s north, squeezing fat retail profit margins in the world’s No. 2 fuel market.

The battle is proving a boon for China’s drivers.

In the gritty northern coal town of Luliang, taxi and delivery drivers were queued up at a Sinopec outlet after it slashed pump prices by 1.4 yuan ($0.21) per liter, or nearly a quarter, one recent weekend.

“We all know Sinopec has higher gas quality but it was so expensive, so before I went to independent stations to fill my vehicle,” one driver surnamed Zhang told Reuters as he waited to gas up his dusty, gray 7-seat van. “Now I switch to Sinopec and will keep visiting here as long as Sinopec offers discounts like this.”

Nearby gas stations run by PetroChina and local private operator Taihua each offered the same discount, promoting the bargain prices with eye-catching red banners, free car washes, and credits in pre-paid petrol cards.

Sinopec spokesman Lu Dapeng said price cutting was “the most common approach in market competition”. He didn’t elaborate.

RARE DISCOUNTS

Such basement prices are rare for Sinopec, officially known as China Petroleum & Chemical Corp 600028.SS, and PetroChina, the listed subsidiary of China National Petroleum Corporation.

In late March, both were selling high grade fuel at a discount of just 0.20-0.40 yuan per liter.

“As the independents deepened discounts to unbearable levels, Sinopec responded by launching targeted attacks to reclaim lost sales,” said a state oil marketing official.

Price battles were rare before 2013 as rigid government price controls capped margins. As recently as 2010, gas stations rationed diesel fuel as shortage hit.

But the plunge in global oil prices since 2014 and the sudden rise of independent refineries known as teapots transformed the market by flooding the country’s 90,000 petrol stations with cheaper fuels.

Short of retail infrastructure and barred from exports, teapots sell oil mostly to the country’s 40,000-plus private petrol stations, many run by families or independent fuel dealers

“The huge surplus the teapot oil plants have created is eroding the 80-percent market share the two oil giants used to hold several years ago,” said Yan Kefeng, veteran oil researcher with IHS Markit.

Sinopec and PetroChina now control around two-thirds of retail sales and independents about a quarter, according to Yu Chang, a former retail director with Shell China and the founder of AutoGo, a fuel retailing e-platform.

The battle has also drawn in global players such as BP, Shell, Total TOTF.PA and Exxon XOM.N. Foreign firms now own and operate nearly 4,000 stations accounting for about 8 percent of sales, mostly in joint-ventures with Sinopec or PetroChina.

“There has been price volatility in the fuel retailing market with seasonal demand and supply changes,” Shell wrote in an email. Shell has rapidly boosted its retail network in China and now has a total of 1,200 sites.

MARGIN HIT

While margins have taken a hit, Sinopec and PetroChina are far from losing money in their retail businesses, thanks to their market dominance in key consuming regions in the south and east where there is little need for discounts and wealthier motorists are less sensitive to price cuts.

Compared to 5.24 yuan a liter in Luliang, Beijing motorists pay around 6.66 yuan for 95-octane, euro-5 quality gasoline. Beijing prices are some 12 percent above the premium gasoline in California, but about half that of Singapore prices.

Sources at rivals say Sinopec may also be leading the charge as it aims to stem falling retail fuel sales and bolster its retail business ahead of a planned multi-billion-dollar IPO.

Even with the hit in sales, Sinopec’s network of 30,000 fuel stations and more than 23,000 convenience stores is considered a jewel in the crown. The division is estimated by analysts to be worth as much as $58 billion.