On October 1, 2016, the Indian Government reduced the price of domestic gas by 18% to US$ 2.78 per million British thermal units [mBtu] on a net calorific value [NCV] basis. The public sector Oil and Natural Gas Corporation and Oil India Limited raised a hue and cry saying this is even lower than their cost of production at US$ 3.59 per mBtu/US$ 3.06 per mBtu. They want a “floor” below which the price should not be allowed to go. Their demand is flawed.
Under the guidelines for domestic gas pricing in vogue since November 1, 2014, the price of this gas was based on a weighted average of prices at four global locations viz., Henry Hub [USA], NBP [National Balancing Point] [UK], AGR [Alberta Gas Reference] [Canada] and Russian price for a full year and three months prior to the effective date of revision. The price was revised biannually.
On November 1, 2014, the price was US$ 5.61 per mBtu. Since then, there had been four revisions [all downward] on April 1, 2015 (US$ 5.18 per mBtu), on October 1, 2015 (US$ 4.24 per mBtu), on April 1, 2016 (US$ 3.39 per mBtu) and on October 1, 2016 (US$ 2.78 per mBtu). Cumulatively, the price came down by 50%.
The reduction was the outcome of persisting global surplus resulting from a surge in supplies from North America, Australia and the Middle East on the one hand and a decrease in demand, especially from China and Japan, on the other. A sharp drop in the international price of crude oil [to which gas price is linked in most contracts] began in June 2014 and the whole of the year 2015 also played a role.
The guidelines were introduced in response to a clamour by exploration and production [E&P] companies [ONGC/OIL included] that the Government should debunk the archaic system of administered pricing and move towards a market-based mechanism. The Modi Government did precisely that by adopting a formula-based approach.
This was based on the recommendation of the Committee of Secretaries [CoS] in September 2014 which rejected the competitive bidding route arguing that since the demand was far in excess of supply, it would lead to exploitation of consumers. On the other hand, a linkage with prices at the mentioned locations which are also major international trading hubs would free pricing from such an aberration.
‘NEUTRAL’STANCE
The formula-driven domestic gas pricing also maintained a “neutral” stance between producers and consumers. When the price increases, E&P companies stand to gain though consumers lose whereas under a decreasing price scenario, producers lose but consumers stand to gain. Within producers or consumers an efficient entity is capable of extracting the best under any scenario.
This provides a “stable” and “conducive” policy environment for the E&P companies to take decisions based on their assessment of how prices will move in relevant jurisdictions. Any attempt to tinker with this policy purportedly to accommodate the concerns of particular sectors [say, companies] at any given point of time will rob it of this vitality and robustness. Hence, it should not even be under consideration.
Besides, the ONGC and the OIL should note that during the first one-and-a-half year under the new pricing regime, the price allowed was significantly higher than their cost [as stated by them]. During the last six months from April 1 to September 30, 2016 also, at US$ 3.39 per mBtu, the price was slightly lower than the cost for the ONGC (US$ 3.59 per mBtu) and still higher than for the OIL (US$ 3.06 per mBtu). It was only from October 1, 2016 that the price dipped below the cost.
A DEEPER PROBE
Here again, a deeper probe would show that even now, the PSUs may not be at a loss. The domestic gas price [US$ 2.78 per mBtu] is applicable to supplies mostly from fields that are over three decades old wherein the initial investments have already been amortized. True, the companies are also investing to sustain their recovery from those fields. Against that, the costs of equipment and services globally have also plummeted. That should help in drastically lowering the cost of their operations.
It also needs to be ascertained as to how these undertakings are accounting for investments made in the development of newly discovered fields. If they are including this too for arriving at the cost [such capital spending can only be amortized from future supplies as and when these flow from those fields], then this will “artificially” boost the cost thereby giving a misleading picture.
Even so, for extracting gas from deep and ultra-deep water and high pressure–high temperature [HPHT] areas [e.g. KG-DWN-98/2 of the ONGC], in March, 2016, the Government issued guidelines to give an incentive price using a formula based on the price of alternate fuels. That price effective from October 1, 2016 is US$ 5.3 per mBtu – almost double the normal price.
Therefore, neither in principle nor in terms of underlying facts, there is any case for deviating from the formula-based approach. The E&P companies need to focus on increasing their return by maximizing domestic gas production and reducing its cost. By doing so, they will also be showing care for user industries like those of fertilizers and power which consume nearly 75% of the gas but cannot afford to pay more due to the majority of their consumers [farmers and households] being poor.
It is good that the Minister of State for Petroleum and Natural Gas, Dharmendra Pradhan, has categorically rejected the demand made by the ONGC/OIL. The Government should stick to its stance and not buckle under pressure which will only mount in days to come.
(The author is a Policy Analyst)
http://bureaucracytoday.com/psumarket.aspx?id=129846