GAS WARS: CRONY CAPITALISM AND THE AMBANIS

by Paranjoy Guha Thakurta

  The projected production figures referred to in the media are purely provisional and indicative and are subject to such variations as may emerge during the actual operations in the future years. These variations can be on account of physical inputs, work programme as well as geological and reservoir complexity.

  RIL need not have made promises, since some had already been made in the Indian government’s annual Economic Survey prepared by the ministry of finance in the last week of February. The government had said that RIL would hit the slated peak gas output of 80 mscmd from the KG-D6 fields in the fiscal year ending on the last day of March 2013. ‘The approved field development plan for Dhirubhai-1 and 3 (first two of a dozen gas finds in the KG-D6 block that had started producing) envisages gas production to the tune of 80 mscmd from the third year of commercial production, (that is,) … with effect from 2012-13,’ the pre-Budget review of the economy stated. It made another point: gas from KG-D6 had helped India’s natural gas production jump 12.80 per cent to 53.59 billion cubic metres (bcm) in 2010–11 against 47.51 bcm in 2009–10.

  The government could have been making promises on behalf of RIL, but it came up with a reality check less than a week later. Minister of state for petroleum and natural gas R.P.N. Singh said in a written reply to the Lok Sabha on 2 March 2011 that RIL was producing 50–51 mscmd at the offshore KG-D6 fields, which was about 15 per cent lower than what was being produced in the middle of 2010. The DGH was said to be constantly monitoring the production performance of the block, and had asked Reliance to expeditiously drill more development wells in D1 and D3 fields as approved in the field development plan. The DGH came up with a more precise reply on 9 March: ‘As per their (Reliance Industries’) plan submitted to us, the gas output from KG- D6 may rise to 67 mscmd a day in April’. A month seemed too long.

  In less than three weeks, DG, DGH, Srivastava went on to say that RIL had not kept its commitment on drilling wells in the KG-D6 fields (NDTV Profit, 26 April 2011). He added that Reliance had committed to drilling 22 wells on D1 and D3 by April 2011 in order to produce 53.4 mscmd of natural gas. Another 8–9 mscmd was to come from the only oilfield in the otherwise gas-rich KG-D6 block (called the MA oilfield), taking the total output committed in the field development plan (FDP) to 61.88 mscmd by April 2011. Against this, the venture had drilled and completed only 18 production wells on D1 and D3 fields with a combined output of around 42 mscmd. Srivastava refused to say what action the government could take against Reliance. Union Minister for petroleum and natural gas Sudini Jaipal Reddy (who had replaced Murli Deora on 19 January 2011) too seemed to be dilly- dallying on the contentious questions, and was unable to explain the falling gas output. He told journalists on 27 March 2011: ‘This fall in the output of KG-D6 has been reported to us. Our DG, DGH is in contact with the operator (Reliance) of KG-D6. We do not know about the reasons for the fall, its technical issues. We are in correspondence with Reliance. We are in contact with them.’1

  In March 2011, however, the government seemed apparently unconcerned about falling gas output from the KG-D6 basin. Confusion prevailed. The first ripple was felt as news slowly started trickling in that consumers of gas from KG-D6 would face a pro rata cut in gas supplies (Economic Times, 1 April 2011). There was talk that if the output plummeted further, the government may have to step in to re-allocate gas in favour of high-priority sectors such as fertilisers and power. These priority sectors had been facing an 8–13 per cent fuel shortfall for over three months. ‘A pro rata cut is a must as production has declined to 50.5 mscmd due to some technical problems in the KG-D6 block,’ an unnamed official of the petroleum ministry told the newspaper.

  The empowered group of ministers (EGoM) had earlier identified existing gas-based fertiliser plants as top priority customers, followed by existing gas-based liquefied petroleum gas (LPG) plants and existing power plants. City gas distribution projects, steel, petrochemicals, existing refineries and captive power units figured later in the list. As per the EGoM guidelines, RIL was to allocate 63.309 mscmd to these priority sectors, but was able to supply only 57 mscmd. The first to cry foul was the power ministry, which bluntly said that the short supply could be ‘construed as non-compliance of the decision of the EGoM’ (Economic Times, 7 April 2011). According to the ministry, only 24.5 mscmd of gas was supplied to plants in February 2011 against the allocation of 33 mscmd. The ministry appeared firm and invoked the EGoM’s guidelines. The newspaper quoted an unnamed power ministry official writing to his counterpart in the petroleum ministry:

  It is requested (sic) to kindly furnish the report of supply of KG-D6 gas by Reliance to existing power plants on firm basis and also on fall back basis as decided by EGoM. The reason for short supply may also be given for the same and also take remedial measures to restore the supply as approved by EGoM.

  On 8 April 2011, the government intervened, with the petroleum ministry asking Reliance to first supply natural gas to priority sectors like fertilisers and power, if necessary by stopping flow of gas to refineries and steel plants. An unnamed ministry official was quoted in the Economic Times (9 April 2011) stating:

  Reliance has imposed a pro rata cut in supplies to all its customers, including fertiliser and power firms, in view of falling output. We have now instructed them to supply gas to priority sectors in full and if there is any gas left over it should go to other sectors on a pro rata basis.

  Reliance was asked to impose supply cuts in the following order of priority: city gas distribution (domestic and transport), power, LPG and fertiliser sectors. If there was any gas left, it would go to steel plants, oil refineries and petrochemical plants. The government had reasons to be worried, for it too was paying a price. The fall in gas production meant a rise in the government’s outgo on subsidies since the shortfall in fertiliser plants were being replaced by costlier liquid fuels. This also meant lower generation of electricity. With the KG-D6 fields producing 47.5 mscmd in the week ending 26 March 2011, the priority sector allocation of 47.59 mscmd meant that practically nothing would be left for steel plants, refineries and petrochemical units.

  Reliance was not expected to let all this go without a murmur—in fact, it didn’t. It shot off a recalcitrant letter to the ministry saying that its order could not be implemented without the government indemnifying the company against financial costs. It stuck to the July 2010 policy of pro rata allocation, translating into proportionate cuts in supplies to all consumers, including urea-making plants and electricity generation units. The company’s contention was that it had signed ‘ship-or-pay’ contracts with all its customers, wherein it had committed to transport the contracted quantity failing which it would have to pay the pipeline transportation cost. It had customers for 60.76 mscmd while production in the week ending 3 April 2011 was about 49 mscmd.

  What Reliance did not expect perhaps was the reaction it received a few days later from the regulator, the DGH, which certainly seemed less pliant than earlier. On 19 April, it rejected two gas discoveries made by RIL in a deep sea block off the Odisha coast (called NEC-25) and the directorate also refused to approve the budget for the KG-D6 field. The grounds for the first were that tests done to confirm reserves were different from the ones recommended by the regulator. The DGH had placed the reserves at 3.5 trillion cubic feet (tcf) compared to about 5 tcf estimated by Reliance. The DGH did not approve the expenditure already incurred on the KG-D6 fields during 2010–11 and also kept the budget for the 2011–12 fiscal year pending. This had always been an extremely sore point with Reliance, which had frequently highlighted such delays as hampering its work. The DGH asked RIL to include the cost of drilling of two more wells in the D1 and D3 blocks in the budget. RIL countered that expenditure on additional wells would be a drain as they would be tapping the same pool of resources (The Hindu, 19 April 2011). The regulator felt the 18 wells already drilled were capable of recovering resources on the D1 and D3 fields and additional wells would not help in raising output (Times of India, 20 April 2
011).

  With Reliance remaining defiant, the petroleum ministry had to write once again to RIL to immediately stop natural gas sales to non- core users like Essar Steel in order to meet the full demand of fertiliser and power plants (The Hindu, 25 April 2011). The ministry this time decided to cite the Supreme Court ruling of May 2010 to drive home its point. Reliance Industries, in its dispute with Anil Ambani’s Reliance Natural Resources Limited (RNRL) on the pricing and supply of gas, had submitted to the apex court that it was a mere contractor and the government alone had the right to fix price as well as determine the users of the gas. The company had contended that it had no ownership over gas and it was bound by government orders and its gas utilisation policy. The government, however, was not going all out to go after the older Ambani sibling. The ministry’s order was based on the rationale that it did not want fertiliser production or power generation during peak summer months to suffer because of a fall in KG-D6 gas output (The Telegraph, 26 April 2011).

  The Supreme Court card that the government played probably did the trick. On the morning of 9 May 2011, Reliance cut natural gas supplies to non-core users like refineries and steel plants so that full demand of fertiliser and power plants could be met (The Hindu, 10 May 2011). The non-core users included Reliance’s own refineries and petrochemical plants. It would now be the turn of steelmakers to seethe. Major players in the steel industry like Essar (controlled by the Ruia family) and Ispat Industries argued their case before the government claiming that changing the existing gas allocation policy not only violated the principle of natural justice but also jeopardised huge investments committed in the sector. The petroleum ministry wrote to the steel ministry brandishing the May 2010 Supreme Court judgement. It talked of gas produced from the KG basin being supplied first to the core sectors, with the assurance that the decision was in consonance with the official gas utilisation policy. The ministry repeated the contention of the Supreme Court that the PSC would override any contractual obligation between the contractor and any other party (Indian Express, 7 May 2011).

  The steel companies then went to court challenging the way in which the petroleum ministry was apportioning gas from the KG basin. The ministry’s move was challenged by sponge iron makers Welspun Maxsteel and Ispat in the Bombay High Court and Essar Steel in the Delhi High Court. The latter refused to stay the ministry’s decision after the Union government indicated that it would give its opinion on the plea after perusing the Bombay High Court’s order on a similar petition. The court had been categorical when stating: ‘The ministry of petroleum and natural gas is competent to take a decision on gas supply within the gas utilisation policy laid down by the EGoM.’ The court rejected the plea that such a decision can only be taken by the EGoM which had allocated the KG-D6 gas.

  Meanwhile, officials from RIL, Niko, the DGH and the petroleum ministry met in Delhi on 2 May 2011 to thrash out the issue of allocating the dwindling gas supplies from KG-D6. It would be a month before the details of this meeting would be revealed by Mint(8 June 2011). There were differences of opinion, but both sides were in agreement, willy-nilly, about one issue—that a rise in output would not be possible in the next three years. RIL urged the government to constitute a technical committee of global experts to offer advice on the best way forward. It wanted representatives of its new partner British Petroleum (BP) to be included in the committee. (In July 2011, after months of negotiation between RIL and BP, the government formally approved the purchase by BP of a 30 per cent stake in 21 oil and gas fields including KG-D6.)

  The wheel was slowly turning full circle—once again the issue was: ‘who owns the gas?’ The government owned it, but Reliance remained adamant about using the gas in its own way. While RIL stuck to its ‘technical’ reasoning and the DGH harped on the fact that Reliance had failed to drill 22 wells, there appeared to be a missing link somewhere. Joining the dots was a report by investment research firm Sanford C. Bernstein & Company which stated clearly that RIL wanted a hike in the price of natural gas to resume drilling in the KG-D6 fields. ‘We believe that RIL doesn’t believe it is worth its while to invest additional capital in drilling wells when the price at the beach remains at $4.20 per mBtu,’ the report said. It went on to describe the impasse as a ‘proxy fight between the government and RIL’. The report emphasised:

  Lower production output is primarily a function of the hiatus in development drilling. While it seems likely that the reservoir is more complex than originally anticipated, performance on a per well basis has not been too dissimilar to the original field development plan. Instead, the lower number of development wells drilled (18 versus 22 planned) is primarily the reason for the under-performance.

  We believe that the natural rate of the decline in production for the KG-D6 wells is around 20 per cent annually, or around 5 per cent per quarter, not substantially different from similar fields around the world.

  In case RIL doesn’t take any more action on the drilling of wells and connecting those to the reservoir and continues operating with 18 wells, we expect the production to reach a level of around 37–38 mscmd by FY 2013.

  The research firm then went into the contentious issue of pricing:

  Though (the) Dhirubhai (gas fields) are turning out to be more complex than originally anticipated, there is a broader problem— gas pricing. While there are technical issues with D6, what is being played out is a negotiation by proxy between Reliance and the Indian government on gas pricing. In our view, it is obvious that gas prices will need to be raised to levels with re-numerate investment. India will be a large energy and gas-consuming country in the future. With limited indigenous resources, development of domestic gas is a must.

  What prevailed thereafter was utter confusion. While news reports remained inconclusive about the ground situation, with reports of the consistently decreasing gas output, an article on the then just-launched Firstpost.com website hazarded a guess on 23 May 2011:

  Reliance was hoarding its gas in the expectation that prices would be raised in the not-too-distant future. Given global prices, the company saw the government-administered price of $4.20 per mBtu as too low. At a time when Panna-Mukta gas (where RIL holds a 30 per cent stake) went at $5.73 per mBtu and imported liquefied natural gas (LNG) cost $12–14 per mBtu when it reached Indian shores, RIL clearly did not want to sell gas at $4.20 per mBtu. It would suit RIL’s purpose to reduce gas flows from the KG basin and hold on till the prices went up, for a number of reasons.2

  To return to the issue of declining output of gas from the KG-D6 field, RIL contended that it was unable to step up production due to geological reasons. It added that it needed BP’s expertise to boost output. Others were sceptical of RIL’s claim in this regard and argued that the ‘real’ reason why the company was not increasing production was because it was waiting for the government to hike the administered price of gas. The public sector GAIL estimated that India’s total gas demand would surge to 500 mscmd by 2021 from 225 mscmd. Petronet LNG, India’s biggest supplier of imported liquefied natural gas (LNG), projected this figure at 380–400 mscmd in five years, while Ernst & Young said gas demand would be at 130–140 mscmd by 2020. Given these projections, Mukesh Ambani’s company clearly stood to gain, the more it delayed producing gas. Simply put, it made eminent business sense for Mukesh to refuse to invest further till the DGH sanctioned higher project costs. So, RIL continued to apply pressure on both the DGH and the government to increase investment outlays, or raise gas prices, or both.

  As the stalemate continued, it was bound to have its effect on RIL’s stock prices and its shareholders. First, Mukesh tried to persuade RIL shareholders to be on his side. On 4 June 2011, he assured investors that the company would take up their concern over gas from its KG- D6 field being sold at less than a third of the price of imported LNG. Shareholders were concerned that many gas customers were paying up to $14 per mBtu for LNG while Reliance was charging $4.20 per unit. Their argument was that the government was discrimina
ting against RIL. Mukesh Ambani played to the gallery: ‘Yes, the price of landed gas is $14–16 and (Reliance’s price) is $4.20, we have understood your sentiments and your board will transmit this (to the government).’

  In this game plan, BP was supposed to play the role of the benevolent white knight. Mukesh was quoted by the Economic Times(4 June 2011) saying:

  After the government’s approval for the BP-Reliance partnership, the KG-D6 reservoirs will be jointly assessed to address the technical issues in ramping up production. Meanwhile, vigorous efforts are under way to accelerate the development process of other discoveries—not only in the KG Basin, but also in Mahanadi, Cambay and other basins.

  Share market punters were less than overjoyed with the older Ambani sibling as reports came in that RIL was facing a risk of losing its long-held bellwether position in the stock exchanges since its share performance had been below-average for many months. RIL shares had by this time fallen by nearly 7.5 per cent over the past one year, even as the sensitive index (sensex) of the stock exchange at Mumbai had gained about 1,259 points or 7.5 per cent over the same period. The buzz was that the gain in the sensex would have been higher by at least 300–400 points had the shares of RIL performed in line with broader market trends.

  The DGH kept snapping at the heels of RIL. On 12 June 2011, it refused to accredit three natural gas discoveries made by the company in the KG-D6 block. The DGH rejected D30, D31 and D34 finds as commercially exploitable discoveries on account of the low reserves they may be holding. The reason given out was that Reliance and Niko Resources had not provided results of tests done on individual wells to confirm the finds. According to RIL estimates, reserves of 749 billion cubic feet lay in the three finds which would have needed $877.2 million in capital expenditure to produce gas at a peak rate of 5.7 mscmd.