The PSC provides a mechanism to control capex, (the) development plan, approval of budget estimates, monitoring of cost recovery estimates, computing of investment multiples and approval of additional investment proposals. Presently, there is no independent verification of the capital cost by any agency other than the Management Committee wherein the contractor (which, in this case, is RIL) sits on the approval of its own proposal by virtue of being a member of the Management Committee.
The then cabinet secretary added in his report:
Capital expenditure is critical to determine the cost of gas and government share of profit petroleum. The government representatives on the Management Committee, who are nominated by the Ministry of Petroleum & Natural Gas from among officials of the Directorate General of Hydrocarbons, have a key role in cost control. Chief Advisor (Costs), Ministry of Finance, after reviewing the capex plan of KG-DWN-98/3 Block, has opined that the DGH scrutiny is more focused on technical assessment and broad cost estimates in terms of viability of the projects rather than the profit share of the government….
It was obvious that the man in the thick of the controversy was the director general , DGH himself, V.K. Sibal. With all fingers pointing towards him, Sibal compounded matters for the government when he asked Calgary-based consultants, DeGolyer & MacNaughton, to evaluate the escalation in the project’s capital expenditure. The company had, in fact, been a consultant to RIL during the drawing up of the IDP. The government nipped this plan in the bud. As the ‘gold-plating’ issue gathered steam, a small section of the media took up the points of contention. One such publication was Realpolitikmagazine (September 2007), of which the lead author of this book was once editor. Here is a detailed extract from an article on the matter:
The Union government stands to lose thousands of crores of rupees due to gold-plating of capital expenditure by contractors. Highly placed government sources involved in resolving the issue told Realpolitik that RIL’s capital expenditure hike from Rs 20,000 crore to Rs 36,000 crore would result in additional profit of about Rs 16,500 crore to RIL. In addition to this, RIL will recover an additional capital cost to the tune of nearly Rs 15,000 crore. The recovery of additional cost and the increase in profit will together generate about Rs 31,000 crore for RIL with the new capital expenditure of Rs 36,000 crore approved by the government.
RIL attributes the increase in capital cost mainly to the increase in rig cost. However, sources say that the examination of RIL’s capital expenditure reveals that the cost of rigs as a percentage of total capital cost has in fact come down from 38 per cent to 27 per cent. This means that other costs went up substantially. The project management cost, which is attributable to RIL’s internal costs, has increased by 350 per cent, the cost of pipelines has gone up by 750 per cent, and a new cost of Rs 275 crore is added for the purchase of helicopters, etc.
The other allegation relating to pricing of the gas that was yet to be produced had been levelled earlier. Even as the Ambani siblings wrangled over the spoils of their father’s empire, a RIL official stoked the fire by rubbing the public sector National Thermal Power Corporation (NTPC) the wrong way. The RIL official, R.P. Sharma, on June 17, 2005 wrote to the Chairman and Managing Director of NTPC, C.P. Jain: ‘As a result of the risk review carried out, and indications from lenders, RIL has concluded that the risk profile in the NTPC gas supply purchase agreement (as currently proposed) does not meet RIL’s requirements and would set an unfavourable precedent for RIL in future.’ What Sharma meant was that RIL would no longer supply 132 tBtu (trillion British thermal units) of natural gas (or 12 mscmd) for the corporation’s Kawas and Gandhar plants.
The next morning, the two Ambanis called for a truce. Among other things, Anil was to receive gas supply for his Dadri plant at the same price of $2.34 per mBtu at which Mukesh’s RIL would give it to NTPC. In case RIL’s contract with NTPC fell through, Anil’s Reliance Natural Resources Ltd (RNRL) would get the same amount of gas, that is, 12 mscmd in addition to his own quota of 28 mscmd. Mukesh had pre-empted the pact and wanted to scuttle the deal with NTPC over low prices so that he could later refuse to supply gas to his younger brother. As both NTPC and Anil went to court, the government washed its hands off the matter. Deora invoked the PSC clause and expressed his inability to mediate since ‘the government cannot impose differential pricing if the market can bear higher price’.
So did Petroleum and Natural Gas Secretary M.S. Srinivasan. He wrote to his counterpart in the Power Ministry contending, ‘with respect to the issue of this Ministry intervening to impress upon RIL in expediting finalisation of the Gas Supply Purchase Agreement (GSPA), you will appreciate that the provisions of the Production Sharing Contract do not normally provide for the government to determine the outcome of commercial transactions between a buyer and seller. The PSC provides that the contractor has freedom to sell the gas and the basis/formula for gas pricing requires government approval, prior to the commencement of gas production; RIL is yet to apply for approval which will be considered under the provision of the PSC as and when the company seeks such approval.
As the controversy over RIL’s capital expenditure and the price of gas heated up, in September 2007, prime minister Manmohan Singh attempted to resolve the stalemate. He formed an empowered group of ministers (EGoM) headed by the then minister for external affairs Pranab Mukherjee, who has never disguised his proximity to the Ambani family. The EGoM fixed the price of gas at $4.2 per million British thermal units (mBtu). On paper it had not agreed to RIL’s demand—of $4.3 per mBtu, but it was clear who held sway. Here was a scenario where the DGH was expressly doing RIL’s bidding and the ministerial group was making things easier for the gas extractor. One couldn’t be sure whether the government was out to appease the contractor, or whether the latter was arm-twisting the former. All links between the government and RIL were circumstantial. But the coincidences were too stark to be ignored. One of these was the set of uncanny similarities between the presentation made by Mukesh Ambani’s company and the report submitted by MoPNG to the EGoM during Deora’s stint as petroleum minister. Veteran Rajya Sabha MP, Abani Roy of the Revolutionary Socialist Party (RSP) got wind of it and drew the attention of Pranab Mukherjee to this ‘coincidence’. Roy’s letter was ignored.
On the issue of gas utilisation policy, RIL had said in its presentation on 10 July 2007 that ‘marketing freedom implies that there will be no allocation of gas (to specific sectors)’. A petroleum ministry report dated 24 August 2007 said that the ‘PSC does not empower the government to earmark gas to certain priority sectors’. There was no difference in the positions adopted by RIL and that of the ministry. Even the fine print was almost identical. On the pricing of gas, RIL stated that the ‘PSC should not be interpreted to suggest that the government should frame new (pricing) policies at this stage of the contract’. The ministry, on its part, stated: ‘It may not be legally sustainable to impose a new pricing policy midway through the life of a contract.’ RIL pointed out that ‘Articles 21.6.2 and 21.6.3 of (the) PSC were intended to secure (the) government’s share and prevent (the) contractor from indulging in transfer pricing that would siphon off funds’. The ministry agreed that ‘the view of MoPNG has been that… government’s role… is only to ensure that the contractor does not indulge in transfer pricing by undervaluing the gas’.
The gas reserve in question was crucial. RIL issued what may be construed as a veiled threat: ‘Any attempt to destabilise the KG-D6 project at this stage would be a setback to one of the most promising policy initiatives of (the) GoI (government of India), and would delay projects of national importance which are waiting to come up in the Bay of Bengal’. The ministry concurred: ‘Any government intervention… may be construed as interference and manipulation… Migrating to another fiscal regime mid-course in respect of the contracts already signed may be difficult.’
With RIL sticking to its guns and the MoPNG echoing the company’s position, it was almost fait accompli that the EGoM�
�s decisions would go in favour of Mukesh Ambani’s company. This dispute would later find an echo in the report of the CAG of India which dismissed the ministry’s responses as mere parroting of the contractor’s version. On 7 September 2009, P.M.S. Prasad, the head of RIL’s oil and gas business gave a detailed interview to Business Standardrefuting all the allegations that had been levelled against the company. He said that after gas was discovered in the KG basin in October 2002, nearly a year later, in September 2003, RIL put in a bid to supply gas to the public sector NTPC. Since RIL wanted to ‘develop the field as quickly as possible’, they put together the IDP at the prevailing prices, which came up to around ‘$2.5 billion’. At that point of time RIL had estimated gas reserves at 5 trillion cubic feet (tcf), but as the company drilled more wells and conducted ‘geotechnical investigations’ the estimates were revised upwards to between 10 tcf and 11 tcf. Thus, according to Prasad, RIL ‘had to rework the original concepts’ which led to the addendum to the IDP (AIDP). He said that when the company reported this higher estimate to the petroleum ministry, the DGH asked them to go ahead and produce more. Prasad added that with most of RIL’s commitments ‘made in 2006’, the company scaled up its production plan from 40 mscmd to 80 mscmd and that is how the capital cost went up to $5.5 billion. The top RIL executive also explained how expenditure had gone up. The rig used to ‘discover the field’ was hired at a cost of ‘about $110,000-115,000 per day’ in 2003 and by 2009, it was ‘costing the company $800,000 a day’. Prasad said that at the time of the AIDP, the company ‘did not project the cost over the life of the field’ since they had made a ‘bad’ cost estimate in 2003 only to have to revise it ‘at 2006 prices’. He sought to place the onus on the government for the final estimate of capital investment of $8.8 billion. This was done, he claimed, since ‘the government wanted to see what will be the cost through the full life of the field, and we were asked to cost the whole thing’.
Similar views were expressed by B.K. Ganguly, president and chief operating officer (business operations) at RIL when the lead author of this book conducted a series of interviews with him on 1 February 2013 and the following day, which started at RIL’s ‘onshore terminal’ at Gadimoga and continued at the company’s guest house in Kakinada and on two offshore rigs more than 20 kilometres off the coast of Andhra Pradesh in the Bay of Bengal. He denied allegations of ‘gold- plating’ claiming that while capital expenditure had increased four times, gas output too had doubled implying that more investments had to be made to produce the gas.
He said that the IDP submitted in May 2004 envisaged capex of $2.4 billion which was based on ‘discovery’ and that the document was ‘time-bound’ since it had to be submitted to the petroleum ministry soon after the discovery had been made. Ganguly interpreted the ‘principle inherent’ in the New Exploration Licensing Policy (NELP) in the following manner: the government had limited resources for exploration, private companies would be invited for ‘time-bound’ exploration after which the concerned companies would ‘relinquish’ the rest of the prospecting areas (where gas was not found) back to the government.
Ganguly said that to prepare an initial development plan, scientific studies have to be conducted. A technical consultant takes between six and nine months to give his advice (and that is why the PSC signed in 2000 gave the contractor 12 months to submit the IDP). Data accumulation is a dynamic process but at some point of time, the data has to be frozen, he said. The IDP proposal was based on estimates made in 2003 and on market conditions that were then prevailing. At that time, the reserves in the KG-D6 basin had been estimated at 3.8 tcf and the IDP proposed a gas extraction estimate of 40 mscmd.
Meanwhile, Ganguly added, data on gas reserves kept coming in; three-dimensional seismic surveys were also being conducted. Even as the IDP was approved by the DGH in October 2004, RIL made new discoveries in surrounding areas. The reserves were found to be much higher at 11.3 tcf and RIL got an ‘independent certificate’ from the renowned GCA (Gaffney Cline Associates) saying as such. He stated that RIL drilled two additional wells in 2005 as part of implementing the IDP. The company also conducted extensive ‘coring’ activity or cutting rocks in cylindrical shapes to analyse the precise contours of the reservoir. Ganguly claims that thereafter, RIL’s levels of confidence went up and the company felt that the figure of 11.3 tcf estimated earlier could be an underestimate. He said: ‘We thought that the actual capacity of the reservoir may be more,’ quickly adding a disclaimer: ‘No one in the world can tell you the exact amount of gas or oil in a particular reservoir until it is empty, that is, after all the gas or oil has been extracted and the field abandoned.’
Simply put, the estimates of gas in the KG-D6 basin reservoir kept going up. At the same time, Ganguly clarified that there are three categories of estimates of reserves of oil or gas in a particular reservoir. The first category is ‘proved’ reserves meaning that there is 90 per cent probability of the estimated amount of oil or gas getting extracted. The second is ‘probable’ reserves meaning there is 50 per cent probability that the estimated reserves will be extracted; the third category of reserves is ‘possible’ implying a 10 per cent probability of the estimated reserves getting extracted. Ganguly said that whereas RIL had decided in early-2006 it would submit a revised IDP (the AIDP), this was finally submitted in October 2006. However, the data referred to in the AIDP pertained to the first half of 2006 for purposes of calculating capex and reserves. In 2003, prices of Brent crude oil (whose prices are used as a benchmark) were in the $30–35 per barrel range but this figure had doubled three years later to around $60 per barrel. ‘The market was on fire,’ he remarked.
Besides international prices of crude oil, there was another area of uncertainty. Ganguly claimed that RIL was unsure about how ‘precisely’ the government would be levying various taxes and duties, such as sales and service tax. The company also had to meet deadlines. As per the 2004 IDP, gas extraction would have to commence by 2008. This meant that the company would have to start production from KG-D6 in two years. Ganguly put forth yet another explanation for the almost four-fold increase in development costs or capex from $2.4 billion to $8.8 billion. He said the company needed ‘connectivity’. RIL had applied for the right of use of the gas pipeline but its application ‘got stuck’ in the MoPNG for 17 months resulting in a postponement of pipe-laying during 2003–4.
The RIL executive claimed that if his company had implemented the original IDP, the capex would have been $2.4 billion. If the revised IDP or AIDP had been implemented with similar facilities, the capex figure would have been $4.2 billion. However, since the AIDP envisaged a doubling of output to 80 mscmd from 40 mscmd and since costs of production had gone up, the new capex stood at $8.8 billion. ‘There is no question of gold-plating,’ he claimed.2
Ganguly also claimed that the AIDP was ‘geologically more complex’ than the IDP. He said that 83 robotic vessels had been deployed by RIL to estimate gas reserves and added that this was an indication of how professionally and proficiently the company had gone about its job. Gas production started in April 2009 but by the middle of 2010, pressure was lower than expected. Initially, RIL’s engineers believed that this was a ‘natural’ reservoir phenomenon, wherein the flow of gas goes up and down during the initial stages of extracting gas from a reservoir after which the flow stabilises. But this did not happen. ‘We were shocked and horrified when the flow of gas just refused to go up,’ a senior executive of RIL told one of the co-authors of the book on condition of anonymity.
Ganguly was more guarded in his language. He said his technical team was disappointed when the flow of gas from the KG-D6 field did not increase to anticipated levels. He added that thereafter, the company ‘acted prudently’ and stopped capital expenditure from early-2011 onwards. This, according to Ganguly, ‘unfortunately’ landed RIL ‘in an arbitration with the government’ which had not been concluded at the time of completing the book in March 2014.3 The RIL top executive said that the comp
any’s plants in Jamnagar and Hazira were purchasing between 15 mscmd and 20 mscmd of imported LNG at between $14 and $16 per mBtu from January 2011 onwards. Ganguly insisted that RIL had no ulterior motives. He said RIL had drilled two wells in August-September 2010 and ‘after the results were negative, we stopped further investment’. Thereafter, at the ‘instance of the DGH, we drilled two more wells in July-August 2011 and the results were negative again’. ‘It made no sense for us to continue drilling,’ said he, adding: ‘Drilling one well was costing us between $60 million and $80 million at that time, (that is, between Rs 300 crore and Rs 400 crore); thereafter, in order to develop a single well, our costs would double to between $120 million and $160 million’.
RIL clearly did not want to spend more money at this stage. ‘Nobody would have gained if we had invested more and continued to drill wells,’ said Ganguly, seeking to add a clincher (that is used over and over again): ‘The oil and gas business is a casino business.’
In the first half of 2011, there was a lull of sorts before the storm broke out. Just when it appeared as if the disputes between RIL and sections of the government over various issues, including the quantity of gas produced from the D6 block in the Krishna-Godavari basin, was blowing over and there was little media attention on the subject, the controversy suddenly hit the headlines once again in the middle of 2011. As already stated, on 12 June that year, the leak of the draft report of the CAG of India caught many napping. Suddenly, KG gas was again in the news—and how?
Articles based on the CAG’s draft report, first printed by the Timesof India and the Hindustan Times, reiterated the allegations that had earlier been made and apparently vindicated the position of those who were arguing that the PSC was heavily weighed against the public interest and loaded in favour of RIL. The draft CAG report also laid bare the alleged nexus between RIL and the MoPNG. It was not the report itself that was embarrassing for the Manmohan Singh government, beleaguered as it was at that time on account of what seemed to be an unending series of scams, but the stand that the CAG had taken on the issue. Reports of the CAG usually come with comments and observations and are often followed by relevant recommendations. This report not only had comments, observations and recommendations, it was stinging in its criticism of the government’s policies on extraction of gas from the KG basin in general and the PSC signed between the government (that is, the MoPNG) and the contractor (RIL) in particular. The 197-page draft report had boxes scattered all over the text highlighting specific issues. It did not mince any words nor pull any punches.
GAS WARS: CRONY CAPITALISM AND THE AMBANIS Page 16
