Bursting the Gas Balloon

Valuable asset India has a supply of 80 MSCMD of natural gas every day
Valuable asset India has a supply of 80 MSCMD of natural gas every day. Photo: AFP

Khichdi can range from bland to spicy depending on the cook. The dish can throw up many surprises, leaving the eater wondering what exactly the mishmash is made of. Such is the nature of the Krishna-Godavari (KG) Basin natural gas price issue. Everyone is wrong and everyone is right.

As a follow-up to a Comptroller and Auditor General (CAG) audit on hydrocarbon production-sharing contracts, the fledgling Aam Aadmi Party (AAP) asked for an investigation, claiming that Reliance Industries Limited (RIL)’s desired price increase of domestic gas will cost the government Rs 54,000 crore. The company has a different narrative and estimates a Rs 1.2 lakh crore loss to the country every year if the price is not increased.

The price rise will also ease the burden on the public-sector Oil and Natural Gas Corporation (ONGC), which is feeling the pinch of domestic gas production. Who will be the arbiter between the government and the country’s most powerful businessman, Mukesh Ambani, in a matter of a national asset and an essential commodity? Does the Supreme Court need to intervene again or will the next Central government be up to the task?

AAP leader and former Delhi chief minister Arvind Kejriwal claimed that Ambani was trying to renege on the KG Basin gas-pricing deal and was using undue influence over petroleum ministers to do so.

Kejriwal’s claim arises from a complaint by former Cabinet secretary TSR Subramaniam and others, which led him to file an FIR with the Delhi Anti-Corruption Bureau (ACD) against Ambani, former petroleum minister Murli Deora, Environment Minister Veerappa Moily and others. There is also a PIL on the KG Basin issue filed by NGO Common Cause, whose members include senior lawyer and AAP member Prashant Bhushan and Paranjoy Guha Thakurta, author of the book Gas Wars: Crony Capitalism and the Ambanis.

On 5 April, the Solicitor General of India opined that a state government could not investigate the actions of a Union minister, and could not legislate on issues that fell within the Central list of subjects in the Constitution, as this would be “against the principles of federalism”. He suggested that the Central government can file a suit before the Supreme Court or the Delhi High Court.

Kejriwal’s comments may have served as a great political posture for wooing the electorate on the eve of the high-voltage General Election. The target was, of course, BJP’s prime ministerial candidate Narendra Modi, fuelled largely by rumours that Ambani is backing his campaign. It was a change of horses because the Ambanis had been rumoured to be backing the Congress regime earlier.

Let’s forget the politics and try to understand the KG Basin deal, the gas pricing and its effect on the economy.

KG Basin is a passive margin in the bed of the Bay of Bengal on the basins of the Krishna and Godavari rivers off the coast of Andhra Pradesh. In 1983, ONGC discovered gas in the basin. In the 1980s, after exploring around 15 percent of the 3.14 million sq km of the basin, US oil major Chevron had labelled it as a “failed basin”. Until economic liberalisation in the 1990s, PSUs such as ONGC operated in the Bay of Bengal without suffering any loss, as all the costs were borne wholly by the Central government under the administered pricing mechanism.

In 1997, the HD Deve Gowda-led Third Front government conceived the New Exploration Licensing Policy (NELP), under which it allowed 100 percent FDI in exploration. It made this relaxation because of the huge cost of underwater exploration at depths of 3,000-10,000 metres below the sea’s surface. The new policy allowed a market-driven price for the natural gas produced from the KG Basin’s hydrocarbon reserves.

In 2000, RIL and Canadian corporation NIKO won the bid for the D6 block of the KG Basin. Until now, 254 blocks have been awarded under the NELP, of which 110 discoveries have been made, while only six are in production. RIL retains seven (six offshore and one onshore) blocks of the total 44 blocks it has won in bids. In these, it has made 43 discoveries, which is 54 percent of the total number of discoveries under the NELP at a total investment of $12.6 billion so far. The only discoveries currently in production in the basin are the three RIL wells. It has surrendered 37 blocks, which are either not viable at the present gas price ($4.2 per million metric British thermal units or MMBTU) or because of daunting geological conditions. The NELP permitted relinquishing commercially unviable blocks. The dispute lies in at what stage the relinquishment was done and is subject to arbitration proceedings under the contract.

In 2002, RIL found 14 trillion cubic feet gas reserves in the D6 block. In 2005, a Gujarat government-owned PSU found 20 trillion cubic feet reserves in two deposits. In 2009, ONGC found a deposit with 10 trillion cubic feet and RIL discovered 20 trillion cubic feet in 2011 in two deposits.

In 2005, when Mukesh and Anil Ambani divided the empire of their late father Dhirubhai Ambani, natural gas production came under elder brother Mukesh through RIL, while its conversion into consumable products went to Anil’s Reliance Natural Resources Ltd.

In 2006, RIL asked for the government’s approval to sell natural gas from the KG Basin under the memorandum of family arrangement by which the senior Ambani’s fortunes had been divided up. The government rejected the proposed price and the Supreme Court said that a family arrangement could not determine the price of a natural asset of the country and pulled up the government for favouring corporates and rushing to privatise these assets. It also called for a new energy security policy.

Currently, India has a supply of 80 MSCMD (million standard cubic metres per day) of natural gas, and the Centre monitors its pricing. Around 75 percent of the gas consumed is supplied by PSUs ONGC and Oil India Ltd (OIL); the rest is divided among private players and state government-owned PSUs.

The pricing of gas extracted by RIL from the KG Basin is governed by a production-sharing contract between the company and the government. According to Article 21.6 of this contract, government approval was required for the pricing of this essential commodity. The bulk of the complaints arise from a CAG audit, which claimed that RIL had been deliberately under-utilising its gas reservoirs. Another complaint is that to protect RIL’s interests, Prime Minister Manmohan Singh did not hesitate to shuffle petroleum ministers.

Pit stop AAP’s campaign against the rise in gas prices is aimed at securing its vote base among the autowallahs

The first victim was Mani Shankar Aiyar, who had to make way for Reliance-friendly Murli Deora. The next was Jaipal Reddy, who had appointed the Rangarajan Committee in 2012 for revising gas prices, which was only due in April 2014. AAP claimed that Reddy was shunted out because he did not approve RIL’s demand for price increase and his successor Veerappa Moily increased the price. The price was indeed revised during Moily’s term, but it was based on the Reddy-appointed Rangarajan Committee’s recommendation to the Cabinet Committee on Economic Affairs. Yet, it is Moily who is at the receiving end of the Delhi ACB’s investigation.

RIL submitted another proposal to the government in 2007. This was pushed to an Empowered Group of Ministers, led by the then finance minister Pranab Mukherjee, which modified RIL’s proposed formula and arrived at a price of $4.2 per MMBTU for the next five years with the crude price set at a minimum of $60 per barrel. Objections were raised to the pricing formula from within the government, including by the then principal adviser (energy) to the Planning Commission, Surya Sethi, who said the price could be as low as $1 per MMBTU.

The government pricing of $4.2 per MMBTU gives ONGC a gross profit of around $0.2 per MMBTU before taxes.

RIL agreed to this pricing formula, but in 2010, said it had a found a consumer who was willing to pay more and asked for a higher price. In 2012, the Centre denied this request. As per the government, RIL was asking for an increase of $10 per MMBTU, which would increase RIL’s profit by a whopping $8.5 billion. It calculated that increasing the domestic gas price would cost the Central and state governments around $10.5 billion each year. As per exchange rates, this $10.5 billion is the Rs 54,000 crore per year that Kejriwal’s AAP is basing its case on.

However, as per RIL’s calculations, its revenue would increase only by about Rs 2,400 crore per year, which it says would be swallowed up in its investments in the Indian energy and power sector. RIL’s claim is that the country will lose Rs 1.2 lakh crore per year if the prices are not increased, basing its calculation on the extraction costs that ONGC has estimated in other deposits of the KG Basin.

India’s current consumption of domestic-produced gas is 55 MSCMD (31 MSCMD for fertilisers and 24 MSCMD for power). This is projected to increase to 169 MSCMD (57 for fertilisers and 112 for power) in 2015- 16. According to ONGC Chairman Dinesh Sarraf, the proposed increase to $8 per MMBTU would mean a revenue of around Rs 16,500 crore per annum and a profit of around Rs 5,400 crore.

ONGC has estimated that it would need a price of $6.7-11 per MMBTU for some of the deposit blocks it holds in the KG Basin. If prices are not increased, the production will falter because it may not be financially viable, making the government import liquified natural gas (LNG) at a high premium, which currently fluctuates at $14-19 per MMBTU. Thus, as per RIL, the 2015-16 increase in demand will have to be met with imports of 114 MSCMD, which will cost Rs 1.2 lakh crore per year at current gas import prices. Currently, India imports about 40 percent of its total gas requirements.

AAP claims that RIL has held the government hostage by slowing down production at the KG Basin and hoarding gas. The drop in production would put pressure on the government because it has to pay a premium for imported LNG. There could be some basis for the claim because the petroleum ministry estimates that a drop of 1 mmscmd means a loss of 210 MW of power.

RIL claims that production has declined because of unforeseen geological problems. It asked the government to appoint an expert to check the volume of gas available from the D1 and D3 blocks. This audit is yet to be done.

But the overestimation of reserves in the first flush of discovery is a common phenomenon. ONGC has faced the same issues in KG Basin itself as well as elsewhere in the world. In one KG Basin block, ONGC had estimated production of 16 MSCMD but it managed only 6 MSCMD. In Russia, ONGC was able to extract 15,000 barrels per day as opposed to the projected 80,000 barrels. In the Neelam Heera oilfield located in the Arabian Sea off the Mumbai coast, the actual production was less than a quarter of the projected 1.3 lakh barrels per day.

RIL has said that it did not have ultra deepwater rigs for exploratory drilling in the deeper southeast parts of the block. But it should be pointed out that the government has allowed RIL to hold on to the entire 7,600 sq km of exploration area until the date of ‘discovery’ instead of a part (390 sq km) of it as per the contract. In its audit report, the CAG said that this was a contractual violation.

Apart from the spike in production costs, RIL has to offset costs it faced in other blocks and losses due to failed explorations, which add up to Rs 46,000 crore.

AAP has claimed that any increase in the domestic gas price would lead to major rise in power tariffs, but this is debatable as gas-based power accounts for only 8 percent of the total power generation in India. Even the liquefied petroleum gas (LPG) used for cooking cannot be manufactured from the KG Basin as it does not meet the required standards. Besides, only 12 percent of all LPG production in the country is generated from natural gas.

One theory put forward for AAP’s campaign against the increase in gas prices is that the party’s vote base in Delhi mainly consists of autowallahs, who run their vehicles on CNG.

AAP also alleged that Mukesh Ambani has funded and exercised disproportionate control over the UPA government. However, the government gives more subsidies for diesel, kerosene, LPG and other fuels than for gas. ONGC, OIL and Cairn India get parity with international players when it comes to crude oil, but the same benefit is not extended to gas, though the country produces about 60 percent of its gas requirements.

AAP also claimed that the gas price issue fell through because the election was approaching. However, it was not the impending election but the end of the term for the current pricing formula that brought on the price revision.

In 2010, when the apex court was deciding the Ambanis’ fortunes, the then CAG Vinod Rai opened another pandora’s box with an audit on the KG Basin contract.

The CAG pointed out that RIL had handed over eight of the 10 procurement contracts to Norwegian company Aker Floating Production for development and production in 2006 through a single financial bid even before it had applied for a mining lease or developed its field plan. The CAG advised the petroleum ministry to “review awarding of these contracts because any commercially prudent private acquisition would also attempt to generate competition and thereby obtain the most competitive price”. The contracts were given to Aker despite there being other pre-qualified bidders. RIL’s 250-page reply is in the public domain.

The CAG audit also held that RIL had ‘gold-plated’ its investment in order to gain a high price for gas production. This led to a second audit on D6 block, which is underway. As yet, reports have surfaced that this audit shows RIL exceeding its brief on spending limit for the block and under-utilising its facilities due to declining extraction and production. This audit, a more detailed one, is awaited with bated breath.

There are two questions that need to be answered by experts. First, did RIL bite off more than it could chew or are there several difficulties in deep-sea exploration that it needs to declare with a government endorsement? Second, did the government shower RIL with unnecessary favours or would this be the attitude of any government to ease the ongoing industrial stagnation in the country?

The next regime has to answer these questions or else the doors of the Supreme Court will open wide once more.



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