Energising India: Action before auction

Prime Minister Narendra Modi’s target of a 10 per cent reduction in oil imports has expanded the purview of “Make in India” to India’s ailing oil exploration sector.

Image courtesy: Wisegeek.com
Once an oil deposit has been accessed through a drill, pumpjacks are often placed over the well to pump out crude oil. Image courtesy: Wisegeek.com

Pressure is now building up on companies to extract more oil from the domestic blocks. Notably, only 15 per cent of the awarded Production Sharing Contracts (PSCs) for oil and gas finds have managed to yield. Of the 213 discoveries awarded so far, only 31 (20 crude oil blocks and 11 gas assets) are currently under production.

Further obfuscating the conundrum is the lack of clarity on contracts for the next round of oil and gas discovery auctions. The currently standardised PSCs are effective under the New Exploration Licencing Policy (NELP). Interestingly, the government has conducted nine rounds of auctions under NELP. These PSCs allow the block operator to recover the cost incurred in establishing the machinery for facilitating production.

By banking on the Investment Multiplier (IM) provision in PSCs, the block operator can contain the government’s share of revenues. IM is the ratio between total revenue and total investment. This defines a ratio-linked revenue methodology for determining government revenues. A higher IM assures greater share of revenues for the government while a lower IM tilts the flow of revenues towards the block operator.

This led to accusations of amplifying costs to curtail the government’s revenue from monetisation of discoveries. The Comptroller and Auditor General (CAG) audit of Reliance Industries’ (RIL’s) KG-D6 basin red-flags expenditures of $386.83 million and revenue issues of $250.93 million. CAG further recommended disallowing cost recovery of $970 million of RIL’s incurred expenditures.

The Ashok Chawla Committee on allocation of natural resources echoes a similar view. It states that PSC’s give “incentive (to an operator) to increase his investment, or front-end his work plan in order to see that the threshold where Government’s profit take rises rapidly, is not reached.”

Image courtesy: The Hindu Business Line
India’s Petroleum and Natural Gas Minister, Dharmendra Pradhan. Image courtesy: The Hindu Business Line

Revenue sharing contracts (RSCs) seek to rectify this anomaly by looking at a production linked mechanism for calculating the government’s share. Contractors will be bidding for the share of revenue in percentage terms payable to the Government. A higher share guaranteed to the government would ensure awarding of the contract. Averaged daily prices (over a month for oil and over a quarter for gas) would form the base for calculating the government’s share. The government would thus be expecting revenues based on production and not on investment, as was the case with PSCs.

The vehement opposition which industry bodies express to standardising RSCs in the current format has put the government in a tiff. Further, the introduction of an escrow account has invited much ire. RSCs mandate the block operator to access revenues through an account that would be under the control of the government. This would enable the government to curtail the operator’s access to revenues in the event of discrepancies.

A poor response to the last two rounds of NELP can be a precursor for the government to seek amending policies. Of the 104 blocks offered in NELP VIII and IX, only 51 yielded to the PSC signing stage. Interestingly, the first three rounds of NELP had 100 blocks at offer with 70 of them yielding contracts.

A disgruntled energy industry is the last thing that Modi government will desire if he wishes to attain his ambitious targets. The government needs to identify the vagaries that have blighted the hydrocarbon exploration sector and eliminate them before such reveries.

The original version of this article appeared at: http://www.btvin.com/article/read/policy/644/energising-india–action-before-auction

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