In the case of Mukesh, the bulk of the increase in RIL’s future profits had to be generated through the sale of gas from the KG basin. Natural gas was supposed to be an important energy source of the future, not only for India but for many parts of the world. More than its petrochemical plants and oil refineries, and the cyclical nature of these businesses, RIL’s ability to improve its bottom-line by impressive margins depended crucially on the profits it could generate from sales of natural gas. An article in Businessworld (12 April 2010) quoting analysts about the importance of gas exploration on RIL’s top-line and bottom-line, suggested that if the company ‘continues with its 52 per cent success rate in exploration … soon its profits from E&P (exploration and production) will surpass profits from all other businesses’. The article argued that in less than a decade, E&P revenues could be higher than revenues from all other businesses, pointing out that oil and gas contributed just Rs 3,530 crore to the company’s top line in the third quarter (2009–10) against Rs 48,000 crore that came from refining and Rs 14,756 crore from petrochemicals. However, the segment’s earnings before interest and tax (EBIT) of Rs 1,477 crore was higher than refining’s EBIT which amounted to Rs 1,379 crore, the article added.
It was, therefore, amply clear that neither brother would give up his claim over KG gas. Whereas Mukesh knew that he could get a much higher price for gas in the future to increase RIL’s profits, Anil wanted the gas to be priced low for his proposed power project at Dadri. As expected, the dispute went to court. During the hearings at the Bombay High Court, the real positions of the two brothers, as well as the attitude of the government, were publicly revealed. One of the most important points argued by Mukesh was that the June 2005 family MoU was irrelevant to the division of business assets or the gas dispute. This was because it was signed by three individuals—Kokilaben, Mukesh and Anil—and corporate entities like RIL could not be bound by such private agreements. ‘One of the grounds raised … by Reliance Industries Limited … is that the Memorandum of Understanding recording (the) family agreement is a private document … [and] does not fall in the corporate domain,’ stated the Bombay High Court judgement, which eventually ruled in Anil’s favour.
Describing the sequence of events that took place on 18 June 2005, RIL pointed out that after the MoU was executed between the two brothers, Anil resigned as joint managing director of RIL and thereafter, the RIL board of directors accepted Anil’s resignation and Mukesh informed the board about the family settlement. Anil’s version presented in court was:
Thus, while signing MoU, Shri Mukesh Ambani was Chairman and Managing Director and Shri Anil Ambani was Joint Managing Director of RIL. Therefore, it cannot be said that Shri Anil Ambani was signing in his personal capacity whereas Shri Mukesh Ambani was signing as a representative of RIL. Obviously, any ‘agreement’ between Shri Mukesh Ambani and Shri Anil Ambani could only be in their personal capacity and acting on their own (or at the best as promoters).
Logically, as RIL was not a party to the MoU, neither its board of directors nor its shareholders had any idea about the contents of the deal inked between the family members. In fact, the MoU (apart from some portions) remains a ‘secret’ document. Therefore the question arose as to what should guide RIL, its board, and its shareholders. Should it be the corporate scheme of de-merger that split the business assets between the two brothers? As RIL puts it, the MoU was ‘tentative’, ‘subsidiary’ to the de-merger, and that no private agreement could act as a ‘substitute [for RIL] board approval’, which related only to the de-merger. Finally, the de-merger never spoke about the sale of gas assets at a specific price.
The Anil Ambani led RNRL predictably saw the issue very differently. It argued that ‘in our present social set-up of joint families and/or extended families running businesses … family arrangements/ family agreements have [the] utmost sanctity and are in fact respected by courts more than [a] commercial agreement between two parties’. Therefore, one cannot devalue the status of a family MoU. In addition, under the doctrine of identification (whereby a corporate entity’s liability is fixed), Mukesh, as the chairman and managing director of RIL, had a controlling interest in RIL. Therefore, while signing the MoU, he was ‘the controlling mind and will of the company (RIL)…. Such personnel are the very alter ego of the company and their actions are deemed to be the actions of the company itself.’
RNRL argued in court that it could not be contended that Mukesh signed the MoU only in his personal capacity, and that it had nothing to do with RIL. What was important was that Mukesh briefed the RIL board about the broad details of the MoU just after it was signed. Under the doctrine of identification, it should be deemed that the board knew about its contents. There were other indicators that the board had knowledge about the MoU. For instance, soon after the signing of the MoU, the RIL board made a public announcement ‘acknowledging, with gratitude to the brothers’ mother, Smt Kokilaben, that a settlement of disputes has been reached between members of the family ....’ It was the MoU that laid the groundwork for the division of the business assets, and the de-merger, in a sense, flowed from it, RNRL stated. It strained credulity to think that it was only meant for three individuals, that is, the mother and two sons, RNRL told the court, adding that RIL was not interested in implementing the family MoU and that it was deliberately resorting to manipulations and delaying tactics. On the other hand, it was argued by RIL that the principal agreement by RIL to sell the gas to RNRL, which was specifically formed to buy the gas, was fraudulent. This allegation, RNRL argued, was an afterthought; otherwise, why would RIL have signed the agreement.
At the stroke of midnight on 10 January 2006, the agreement (called the Gas Sale Master Agreement or GSMA) was e-mailed to all the three directors of RNRL. The board meeting was held at 7.30 pm the next day (11 January) and the GSMA was finalised within five minutes, that is, by 7.35 pm. On 12 January, a board resolution to this effect was circulated among the three directors.
Anil had a problem with this interpretation of the facts. He alleged that RNRL was a subsidiary of RIL at the time when the GSMA was signed, that two of the three directors of RNRL were Mukesh’s nominees, and that the third director, J.P. Chalasani, who was an Anil loyalist, had opposed the agreement and raised objections to it at the 11 January board meeting. Chalasani’s protests were, however, shrugged aside and the board approved the proposal by a majority of 2:1. This is what Chalasani and RNRL argued:
Effectively, RIL under the leadership of Shri Mukesh Ambani was sitting on both sides of the negotiating table and thrusted [sic] the unsuitable, unfair, and one-sided contract upon RNRL. It is clear that a document executed between two parties where they are controlled by the same entity would hardly be a suitable agreement....
The shares in RNRL, which were owned by RIL and/or its nominees, were transferred to Anil only on 27 January 2006, more than two weeks after the board resolution. RNRL’s board was reconstituted and filled with Anil’s nominees on 7 February 2006, almost a month after the 11 January board meeting. Thus, RNRL contended, the GSMA between RIL and RNRL should have been executed after this date. As RNRL’s lawyer said before the Bombay High Court: ‘… the contract could have been executed only on the transfer of management and control of RNRL to Shri Anil Ambani, which happened on 7.2.2006.’ This was critical under the existing laws. At the same time, Anil alleged that the GSMA should have been a ‘bankable’ agreement, that is, RNRL should have been able to obtain loans from banks and financial institutions for its Dadri project on the basis of it. This was not, however, possible because of certain open-ended clauses in the agreement that related to the quantity of gas to be supplied by RIL for the Dadri project.
To cite one example, the family MoU between the two brothers envisaged that RIL would supply 28 million standard cubic metres a day (mscmd) of gas per year to RNRL, and if RIL’s contract with NTPC did not materialise for whatever reason, a quantity of 12 mscmd would in addition go to RNRL. In the MoU, there was another for
mula to share the gas that might be subsequently discovered by RIL in either the KG or any other basins. Anil felt that the GSMA specified a complex formula for the supply of gas without mentioning specific amounts or the period of supply. In other words, according to the GSMA, the quantities of gas made available to RNRL could fluctuate wildly every year and this, Anil realised much to his chagrin, would mean that no bank or financial institution would disburse loans for the Dadri project because fuel supplies were so uncertain. RIL obviously adopted a different, and apparently contradictory, stand on this issue. It told the court that the following steps would need to be taken. First, the GSMA would be signed. Then RNRL would be de-merged from RIL, following which Anil would be given control of RNRL. Only then would the existing shareholders of RIL be allotted shares in the new company. This would enable the shareholders of RNRL to get a clear picture of the assets obtained by the company. It was argued that if these steps were not followed, the de-merger itself would have been deemed faulty. RIL further contended that only the GSMA could put in place a genuine ‘deal’ that would make it clear to all concerned that RIL would supply gas to RNRL. This meant, RIL added, that the GSMA would have had to be finalised before the transfer of shares to Anil on 27 January and before the reconstitution of the company’s board of directors on 7 February. Thus, RIL concluded that it had done nothing wrong but merely followed the correct legal process.
On the ‘bankability’ question, RIL raised several issues. First, it said, there was all-round uncertainty about Anil’s Dadri project. As on January 2006, no land had yet been allocated for the project. Most experts felt at that time that it would not be possible to commission the power plant before 2013–14. Although the RNRL board later maintained that the project could be set up within three years, many believed this would be impossible, as neither RNRL nor its associates had either signed a power purchase agreement with the power buyer, nor had it inked the EPC (engineering, procurement and construction) contract to build the plant. It had not even received the final environmental clearance.1
Predictably, RIL had a different viewpoint. It argued that if the company had made firm commitments to RNRL in the form of a gas sale purchase agreement, or GSPA (as distinct from the GSMA or gas sale master agreement), it would have led to bizarre consequences, where a ‘take or pay’ obligation would have arisen for the power plants as soon as the production of gas commenced. A take or pay agreement is one where company x agrees to buy products from company y at a later point in time, but if x is unable or unwilling to buy this product, it will pay y the amount anyway. As the supply of gas was only for power plants, RNRL would not have been entitled to draw any gas for trading and RNRL would have had to forego the contract or abide by the ‘take or pay’ obligation. This, it was argued, would have led to a strange situation where gas would be sold in the market by RIL and RNRL would have to pay for it anyway without receiving it.
Second, there was no way in which RIL could give firm commitments for supply of a specific quantity every year, because supplies would depend upon proven reserves and actual production. As neither the proven reserves nor production schedules were known in January 2006, the formula that was included in the GSMA linked supplies with actual reserves and actual annual production in the future.2
Finally, RNRL’s allegation that the agreement was not bankable was wrong as no banks had officially declined finances for the Dadri project, RIL claimed. The ‘truth’, it was contended by RIL, was that the Anil Dhirubhai Ambani Group ‘had raised External Commercial Borrowings (ECBs) for (the) Dadri project and invested them in mutual funds after bringing them to India …’ When the country’s central bank, the Reserve Bank of India (RBI) questioned this move, as ECBs can only be used for the stated end-use for which funds are borrowed overseas, Reliance Energy in the Anil group, which raised the funds, told the RBI that ‘the funds were brought to India … because the Dadri project was at a critical stage of implementation and funds were required’. On the basis of this, RIL raised a few questions: Was Dadri at a critical stage of implementation, as was stated to the RBI, or was it being delayed by RIL, as RNRL told the court? Was RNRL unable to raise funds due to a non-bankable agreement with RIL, or did it raise money through ECBs for the same project? Whatever the answers, RIL said that the claim that Dadri had been delayed because of paucity of funds seemed to be wrong.
All these questions were, however, trivial in comparison to the most important issue before the Bombay High Court: whether India’s natural resources, oil and gas, were the property of private individuals or belonged to the state and its people? Could the Ambani brothers decide how to distribute them and determine the price or should the government be responsible for allocating natural resources such as metals and gas? In short, was it RNRL that had the freedom to sell the gas from RIL’s KG basin, or was this the prerogative of the government of India’s ministry of petroleum and natural gas?
The answers to these questions required the interpretation of the production sharing contract (PSC), signed between RIL and the government of India, under the New Exploration Licensing Policy (NELP). To encourage private and global participants, the government had introduced the NELP to invite open bids for developing India’s oil and gas reserves. The fields on the auction block were leased out to winners, and the subsequent production, if any, was to be shared between the government and the private bidder. Both RIL and the government of India categorically told the court that the gas belonged to the country, and that the fields had only been leased out by the government to RIL. Under the PSC, there were clear clauses that the government would decide to whom the gas would be sold, and at what price. This was critical for two reasons: one, it would allow the government to allocate the gas in accordance with ‘national priorities’. For instance, the government might state that it was a national priority to supply gas to fertiliser plants in preference to power generation projects. Two, the price was critical to the sharing of the gas resources between the government and RIL.
There were two elements to this sharing of the gas resources between the two parties: ‘cost petroleum’ and ‘profit petroleum’. ‘Cost petroleum’ allowed the developer, RIL in this case, to recover its costs initially by selling the gas. This was crucial because gas exploration requires huge funds and no private bidder would invest so much unless it was confident that it could recover its investments at the earliest. Once this process was over, both the private bidder and the government would share the remaining reserves, that is, ‘profit petroleum’, at a certain predetermined ratio. This would ostensibly enable both to earn huge profits for different reasons: for ownership of the gas fields in the case of the government, and for shouldering the risks in the case of RIL. For calculation of cost and profit petroleum, the price was the key. If the price was low, the private investor would have the option of selling higher quantities to recover costs (cost petroleum, in quantitative terms, equalled total investments divided by price per unit; so, the lower the price, the higher the quantity). To prevent this scenario, where the government could lose its legitimate share of ‘profit petroleum’, which would fall if the ‘cost petroleum’ went up, the PSC allowed the government to clear the price at which the gas was sold.
RIL therefore maintained that the price of $2.34 per mBtu, which was decided by the two Ambani brothers, had to be cleared by the government or, in this case, the MoPNG. In fact, ‘the board of directors of RIL would be acting in dereliction of their duty if they committed to sell gas to RNRL … irrespective of any government approval or irrespective of the value which would be ascribed to the gas for the purpose of the PSC as RNRL contends,’ RIL argued in court. The company also claimed that RNRL was aware of the need for approvals. For instance, the family MoU stated that ‘in relation to applicable governmental and statutory approvals … RIL and Reliance-ADA Group would jointly work towards obtaining such approvals….’ After RIL asked the MoPNG to clear the price of $2.34 per mBtu (based on the company’s 2004 response to the bid t
hat was called for by the NTPC), RNRL wrote a letter to the ministry on 9 May 2006 urging it to accord ‘approval for the formula/basis of pricing of gas.’ The government rejected this price on 26 July 2006. Subsequently, RIL made a fresh price discovery for its gas by inviting bids from potential customers other than RNRL, and zoomed in on a price of $4.34 per mBtu. This was discussed at a meeting of the Empowered Group of Ministers (EGoM) on 28 August 2007, where RIL was asked to make a few changes in the price calculation formula. RIL agreed. On 12 September, the EGoM accepted the new price of $4.20 per mBtu and said that every user in every sector would have to pay the same price.
On 28 May 2008, the EGoM also finalised the manner in which the gas from RIL’s KG basin would be allocated across the various sectors in accordance with the government’s prioritisation. The meeting set out the guidelines for a possible production of 40 mscmd by March 2009:
GAS WARS: CRONY CAPITALISM AND THE AMBANIS Page 11
