The Dilemma of KG Gas: Decoded

 

Author: Suchak Patel 

 

Nowadays, this title has become the synonym of crony capitalism. There are many reports, articles published on the topic in both electronic and print media. But there are many doubts in mind related to pricing, supply and demand etc. Gas business is the complex issue. Here is a small try to make it simple.

Before starting the topic, one needs to understand the basic terms/abbreviations related to the issue:

  • RIL – Company head by Mukesh A
  • ONGC, NTPC, GAIL – Govt PSUs
  • DGH(Regulator) – Director General of hydrocarbon
  • MoPENG –Ministry of Petroleum and Natural Gas
  • PSC- Profit sharing Agreement
  • MMSCFD (Million standard cubic feet per day) – Unit to measure gas production

There are mainly three issues related to this topic – (1) Hoarding of gas (2) Gold plating (3) Gas pricing. Herein, I elucidate the 3 aspects of each topic. First aspect is the general thinking – Perception – news run in media by critic. Second aspect is what the Private Companies (say RIL) have to say on the topic. Third aspect is the main and lesser known aspect which is the key to understand which aspect is the reality.

Let’s start with the first topic.

Hoarding of gas

Claim by critics (allegations) – The operation and gas production started in 2009 in KGD6 basin. There should 80 mmscfd gas production as per the PSC (contract) but it declaimed to 26 mmscfd in December 2013. Critics allege that Reliance hoarded the gas to achieve Price hike.

Now a question arises on the possibility of price hike due to hoarding of gas. KGD6 basin gas is indigenous in nature and due to that we have to import less from other countries; it saves our foreign exchanges and it helps in making our economy strong. Due to hoarding we have to import more to feed the power houses which produce electricity and also to fertilizer industries. So, this allegation seems true that private companies are hoarding gas.

Counter claim by private party – Hoarding of gas is not possible scientifically. Any attempt to hold back the production in existing fields immediately shows up in the pressure anomalies in the affected wells. Such attempt may badly affect the other wells. The production decreases due to the Geological compatibilities.

Third aspect – KEY – To decide the Gas reservoir size and capacity is one of the most tough and risky works. There is little consultant work expertise in this field. Even during the signing of the contract, private companies are not aware of the size or even existence of an oil field in the designated area (as per Indian policy-NELP). In Indian contract, the procedure is as follows:

> Private companies do their research (KG basin area = 50000 sq.km)

> Find reservoir

> Drilling

> After projecting the quantity of gas, the companies are to make a statement of capital expenditure

> Approval from DGH

> Start production.

Private companies generally over estimate the quantity of gas reservoir. It helps them to raise the funds from the international market and banks for their projects. So this may be the case.

Gold Plating: It’s the core issue of the controversy, which is very complex. To understand this, we first need to understand the model of private investment and its working. In Any PPP project, private companies invest and recover its cost from the services it provides to the user/buyer.

In a PPP based road project (for example), the government owns the land. The private companies invest and construct the road. The companies then charge toll and collect it for a definite period of years (as per contract). The same happens with a Gas Basin PPP project, wherein the government owns the reservoir while the private companies invest, research, drill, produce and recover their costs by selling the gas.

Claim by critics (allegations) – Private companies overcharged the cost of the item and services used in the production of gas. It facilitated the higher recovery of investments for the private companies and thus it increased their profits. Critics use the CAG report as to make the allegations of Gold plating (CAG nowhere used this word “gold plating” in the report).

Counter claim by Private party – The production and the price of the natural gas is the lowest in the world. Company provides the Receipt of all the purchase.

KG Basin

Third aspect – KEY – The reason for the increasing cost lies in the parameter used for the contract called Investment Multiple (IM).

IM = Total revenue/Total investment

The formula translates into a simple relationship. Higher the investment, lesser is the IM. When IM is less than 1.5 – private companies get 80% profit and govt. get 20% profit.  When IM is 2.5 – govt. gets 85% profit and Private get 15% profit. So by increasing the expenditure private companies are trying to place IM less than 1.5.

There might be a logical reason behind this. In any business, the profit/loss is proportional to the investment. That is, a private player has a right to reap more profits when he is investing in a risky venture.

Gas pricing: It’s the center point of debate. There are many scary stories running in the media about the price rise. Some say that price rise may kill Indian economy. It is rather a simple topic to understand, but half-baked information presented in news media makes it complex. The problem is simple but neither the private companies nor the govt. are ready to talk openly and firmly due to their own limitations. And this creates further scope for confusion.

80%gas production is in the hand of public sector and RIL KGD6 gas has a share of only 15% in Indian Gas production. Then how does the price hike affect overall economy of India?

KGD6 basin produces natural Gas. This gas cannot be stored. It needs to be used then and there. Gas is related to Fertilizers – Power Production – Transportation – Oil Market – Banks – Market.

Let’s understand with a small example: A person wants to invest in gas based power project. He needs capital for it. So he goes to the bank for loan. The bank asks for the source of the fuel. He has to sign agreement with the Gas producer for the supply. In the same scene there are many projects/plants which are constructed on the trust of the supply of gas from KGD6. Now due to the less production and price hike, these plants starve for fuel and many get shut down. Due to this, the employment of number of people and Bank loans are in the red.

Claim by critics (allegations) – The cost of the production is $0.85/unit and private companies are already getting $4.20 per unit, there is no need to hike the price. BJP/Congress both are working in favor of the corporate firms. Price hike will impose additional Rs. 1.1 lakh crore load on Indian economy and the private companies will gain additional Rs.45000 crore profit. There will be inflation in the country and common man may have to pay the price.

Counter claim by private party –

(1)As per NELP , the price is not dependent upon the cost of production

(2) Price hike is the lowest in comparison of all other fuels

(3) Price hike will largely benefit ONGC& GAIL which are PSUs

(4) Govt. will eventually get more revenue in terms of royalty

Third aspect – KEY –

(1) Yes it’s true that price is not dependent on the cost and private company have right to decide the gas price but at the same time it’s also true that govt. have a right to place penalty in case of lowered production of gas than estimated . So the project runs with the co-operation of both parties. So, private companies do not hike prices and govt. do not penalize the companies – this is the time-tested middle path they should adopt

 (2) Yes, Price is lowest than other fuels but other fuels have market and it can be stored. Take examples of LNG or Oil – both have price fixation mechanism and both can be stored in case of excess of production. Where gas from KGD6 is natural gas, it does not any international market and it cannot be store.

(3&4)  Yes, Price hike will benefit two PSUs (ONGC & GAIL) but it will incur loss to other many PSUs like NTPC, IFFCO etc. who use gas for the production of Power and Fertilizers. It’s the citizens of India and the PSUs who have to bear the loss due to price hike and the private company and the 2 PSUs will alone gain. So in the name of ONGC and GAIL – the private companies want to make profits.

 

Post By Mr. Suchak Patel (9 Posts)

A PG student of Transportation Engineering , Preparing For civil service, Ahmadabad !

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