GAS WARS: CRONY CAPITALISM AND THE AMBANIS
Page 21
As far as ONGC was concerned, the solicitor-general of India, Goolam E. Vahanvati, had been very helpful. He informed Raha that while the former ONGC Chairman was away on tour, he (meaning the solicitor- general) had been successful in getting a court to vacate a stay order that had been sought by a company in order to prevent ONGC from issuing an LoI. The solicitor-general informed Raha that he had a couple of hours at his disposal before an appeal against the decision of the court was filed by this company that would enforce the status quo. Once the LoI is issued, the status quo changes because the issuance of the LoI leads to the award of the contract.
NTPC had issued an LoI in 2004 to purchase natural gas from RIL at a price of $2.34 per mBtu(million British thermal units) that was accepted. However, the same year onwards, petroleum and gas prices the world over shot up. Crude oil was priced at less than $37 per barrel when Mani Shankar Aiyar took over as the Minister for petroleum and natural gas in the first UPA government formed in May 2004. With prices of petroleum going up further, the costs of undertaking exploration services and leasing equipment required for the maintenance of existing deepwater rigs simultaneously shot up. The hi-tech deepwater rigs being used by ONGC consequently began to cost much more to lease. In 2003, ONGC had leased two deepwater floating rigs, each at a rent of $150,000 per day. Various equipment and special services—helicopters, remote-operated vehicles and so on—are required that cost an additional $150,000 per rig. The total cost of operation of the two rigs was therefore around $600,000 per day. In fact, the deepwater exploration campaign of ONGC was being run at an expenditure of almost a million dollars a day.
In 2005, the deepwater operations of Reliance in the KG basin commenced with expenses of $470,000 per day, which was more than three times higher than the cost that would have been incurred for the same set of operations two years earlier. There are barely 20 such specialised rigs in the world. In order to use those rigs, bookings for them had to be made 3–5 years in advance. The two rigs that ONGC had booked for three years each had been on a fixed-price contract. This meant that ONGC paid $150,000 per rig per day, even when the market price had moved up to $470,000. Given this situation, if Reliance sold natural gas at $2.34 per mBtu, the company would find it extremely difficult to recover the capital expenditure it would incur in the foreseeable future. This was the crux of the issue. Expenses had risen, but not the selling price. Not surprisingly, Reliance wrote a letter to NTPC asking it to make changes in a few terms and conditions of the LoI, which is essentially the contract, to enable Reliance to increase the selling price of gas to help it recover its capital expenditure expeditiously. However, NTPC was unmoved and turned a deaf ear to the pleas made by Reliance. NTPC had valid reasons to refuse. The tender document formed the very basis on which the bidding took place and the contract awarded to RIL. On this particular dispute between NTPC and RIL, Raha argued that NTPC’s position was legally strong. At the same time, he was aware that Reliance was unlikely to give up without putting up a strong fight simply because the very viability of its gas extraction operations in the D6 block in the KG basin was at stake.
It was claimed by Reliance that RIL drafted a new contract on its own and submitted it to NTPC, which refused to sign it. NTPC, on the other hand, argued that Reliance should first sign the LoI issued by NTPC that Reliance had once accepted but now did not wish to. Raha knew how the RIL-NTPC dispute was linked to the tussle between the Ambani siblings on the pricing and allocation of KG basin gas. The price of natural gas at $2.34 per mBtu was part of a deal finalised between RIL and NTPC through a process of open and transparent bidding in which several global players had participated and lost against RIL. This was the unit price of the discovered hydrocarbon property at that time. The MoPNG claimed in 2009 that RIL had not taken its approval for fixing the price. Raha pointed out in an article he wrote for the Economic Times (7 August 2009) that the RIL-NTPC dispute centred round the issue of whether the global tender won by RIL eventually got concluded and converted into a contract. In view of the stand taken by the ministry, RIL’s bid seemed illegal because from all accounts, prior ‘approval’ for fixing the price of gas had not been taken.
Raha said:
I find this hilarious! I have questioned in the same article whether RIL had taken the approval of the petroleum ministry to bid for supplying gas to NTPC. For, if the ministry now says that RIL has to take its approval for quoting a price for gas, RIL should also have taken the approval before bidding in the NTPC tender. In my view, the position taken by the petroleum ministry will not be found legally acceptable, but this is a decision the Supreme Court will have to take.
The agreement signed between RNRL and RIL for the latter to supply natural gas at a price of $2.34 per mBtu for the former’s Dadri power project was challenged in the Bombay High Court. In the meantime, capital costs had moved up substantially not just in India but all over the world. RIL was hardly alone in this regard. Initially, the company had maintained that field development costs for the block in question would hover around $2.2 billion to produce 40 million standard cubic metres a day (mscmd) of gas. Subsequently, RIL stated that it would be capable of producing 80 mscmd but only after incurring a field development cost of over $8 billion. V.K. Sibal, who was the then DGH, approved this proposal in less than two months although many would argue that this was a complex issue that, under normal circumstances, would have taken much longer to assess and evaluate. With the approval of the DGH, the capital costs in RIL’s Initial Development Plan (IDP) for the D6 block in the KG basin jumped nearly four-fold from $2.4 billion to $8.8 billion, while the projected production of gas only doubled from 40 mscmd to 80 mscmd.
RIL had its share of freedom. Under NELP, the operator (in this case, RIL) is assured freedom in pricing and distribution of gas. Moreover, the government guarantees that the fiscal regime (or tax structure) would not change during the period of the contract barring changes in the rates of income tax. The sanctity of the policy is such that even though the income tax rate is liable to change, other tax rates laid down in the contract do not. This is a commitment that is given by the Indian government. Similarly, during any process of bidding and the subsequent awarding of a contract, a commitment is made by the contractor to carry out a certain task at a certain cost which is finalised at the time of signing the contract. The ultimate onus of making a profit or incurring a loss while carrying out the task specified lies on the contractor. If the contractor fails, that means he incurs losses and if he succeeds, he earns profits. In this particular case, if RIL was successful and able to produce natural gas from the properties it had discovered, it had the right to first recover capital costs incurred by it on exploration and production. This is known as cost retrieval. After the costs are recovered, the revenue generated goes under the head ‘profit’. This profit is to be shared with the government. Profit sharing is a biddable item. In some rounds of NELP, particular operators have even offered up to 95 per cent share of the profits earned to the government.
Bidding for any tender involves informed guesswork. While bidding for an oilfield, a reasonable guess has to be made about the size of the reservoir and the quality of oil and/or gas that would be extracted. In this instance, the $8.8 billion that was to be invested would have to be first recovered by RIL before the government got its share. But was this the basis of Anil Ambani’s allegations? Raha responded with an unequivocal ‘no’.
Anil’s charges were of a different nature. Raha cautioned that much of what the petroleum ministry was claiming about the government’s stake in the gas resources from the KG basin (which, after all, is supposed to belong to the people of the nation) was a lot of hot air. He went on to elaborate that it was just not honest to argue that the government’s stake in the ‘profit’ gas or oil would be recovered only after the IDP cost of $8.2 billion had been recovered because this implied that if it took ten years for RIL to recover its investment, during that period, the government would not see the ‘face of any money’.
‘If ONGC had been in the same position as RIL today, I, as chairman of the corporation, would also have had to take a decision to recover my capital investments first,’ said Raha, adding that royalty and other commissions would have to be given to the government but not a share of the company’s ‘profit’ gas or oil.
Having invested $8.8 billion, it would be a tall order for RIL to recover this cost by selling gas at $2.34 per mBtu. The moment RIL realised this, it alleged that the contract with NTPC had not been properly drafted and that the MoU was not valid. It was then that the EGoM, with the then minister for external affairs Pranab Mukherjee as its head, was set up by the UPA government to look into the issue. Any legal expert could argue that the NELP does not provide for government intervention in pricing. If the operator (RIL) wanted to fix the price at, say, ‘x’ it would get ‘x’ as the price. If the operator does not get buyers willing to pay ‘x’ within the country, it can ask for permission from the government to export the gas. As far as ONGC is concerned, it sells gas at different administered prices which are commercial contracts. These are not NELP prices.
Raha also discussed the issue of gas distribution. Gas extracted has to be distributed through pipelines which are national properties. There should be a greater sovereignty over gas pipelines because whereas crude oil can be transported through many other means apart from pipelines, gas has to be compressed and pushed through pipes. Natural gas cannot be transported via other media. There is no need for liquefying natural gas for inland transport, say from D6 to Kakinada or to Vijayawada. Liquefaction of gas is needed only for transporting it across the seas. In the KG basin or in Bombay High, gas is transported to the shore from the basin and from there it is transported inland through pipelines. Gas gets distributed throughout the country through a grid of pipelines. For instance, ONGC distributes gas all over western and northern India through the Hazira-Bijaipur-Jagdishpur (HBJ) gas pipeline. GAIL had laid this pipeline in 1986 which happens to be India’s first major inland cross-country gas pipeline passing through Gujarat, Madhya Pradesh, Rajasthan, Uttar Pradesh, Haryana and Delhi.
But certain vested interests come into play when a gas producer also happens to be the distributor of gas, that is, when the producer of gas also happens to be the owner of the pipeline that transports the gas. A monopoly is created when both production and distribution of natural gas is handled by a single entity. Only those buyers that happen to be located along the pipeline grid are able to buy the gas. The buyer has no choice but to pay the seller whatever price he demands. In his article in the Economic Times, Raha argued that such arrangements are like single-tender propositions because the buyer has no choice. All pipelines, especially gas pipelines are natural monopolies, and tenders can be invited only from buyers who happen to be connected to a particular pipeline grid used by the seller. By definition, these are cases of what may be described as a ‘limited tender’. The buyers have no choice but to accept whatever pricing formula is imposed by the lone seller who may or may not be the transporter of the gas. Such ‘single-tender’ transactions are generally abhorred by all governments, including the government of India. This is because the buyer is hapless and left with a Hobson’s choice, that is, buying gas at prices fixed by the lone seller or not buying the gas at all. The price of $4.20 per mBtu of natural gas that was finalised by the EGoM was supposed to have been proposed by RIL and accepted by buyers on their pipelines. This decision lacked foresight because the price of a resource was fixed for five years, whereas the resource would be produced for the next 15 years, if not longer. There was no apparent reason for the EGoM to have done this.
‘For example,’ Raha said,
if a company takes a decision in 2009 to buy gas for its power project, three years would pass till land gets procured and construction starts. By the time the company commissions the power project, it would be 2015. But by 2012, the price regime of $4.20 per mBtu of natural gas would have expired. Hence, the price regime gets over just around the time land is procured. If this company approaches a bank for loans to construct the infrastructure for the power project, it would have no answer if the banker questions the company about the price of the fuel that would be procured for the power project. On the EGoM-approved price regime, I think that this is the most troublesome issue.
All said and done, gas is a resource that has been discovered within the territorial boundaries of the country. It can only be efficiently utilised if simultaneous investments are made for consuming this resource, mainly power projects. If this gas is to be used in the fertiliser or petrochemicals manufacturing industries, it has to be first converted into methanol that can be used as fuel stock. The gas from the KG basin is unlike gas from the west coast which is mainly supplied to petrochemical plants. The claim that existing power projects and fertiliser plants would utilise this gas from the KG basin thus stands on slippery ground, Raha pointed out.
Existing power projects draw gas from the ONGC-GAIL system. They may not get 100 per cent of their requirements but whatever gas comes their way from this system is at a price of $2 per mBtu. These power projects and fertiliser plants will take whatever gas is available from the ONGC-GAIL system on first priority. They would turn to RIL only to meet their shortfall. Though that shortfall has not been quantified in absolute terms, it is estimated to be around 10–12 mscmd of gas. Moreover, to use this gas, fertiliser and petrochemical plants have to either change the input system from liquid fuel stock to gaseous fuel stock or would have to convert the gas into methanol and use it as fuel stock. ‘To my knowledge,’ Raha said, ‘not a single fertiliser plant has embarked on this system of conversion. If they cannot set up conversion facilities, they cannot use this gas.’
The actual layout of the network of gas pipelines is not known. It had been claimed that the pipeline is ready from Kakinada (in Andhra Pradesh) to Jamnagar (in Gujarat). But proper details of the layout of the pipeline network are not clear. It is not evident who is connected to the network, although there is no reason for maintaining commercial secrecy in this matter. In fact, the layout of the pipelines should have been made public but this has not been done, he said. If an operator wants to set up a power plant at a particular site, there is no way of ascertaining whether or not the site is along the grid of gas pipelines. In September 2009, RIL was reportedly extracting around 15 mscmd of natural gas that was being primarily used to meet gaps in the demand of power plants. To increase this amount to 80 mscmd, RIL needed new customers. But there were none. There was gas that was certified and available and there was also a production plan in place. But the production could not take place until consumers were ready to buy the gas. This is where the pricing question repeatedly popped up: for customers to be ready to buy the gas, a long-term price of gas was necessary. Raha described this as a Catch-22 situation. ‘No solution seems likely in the near future,’ he pointed out in September 2009 and he was indeed prescient as subsequent events proved.
The bone of contention between RIL and NTPC was the contract. That is where the issue of a ‘discovery’ price was raised. If the contract was held valid, the price of $2.34 per mBtu has to be re-established in a court of law. The fight, however, was not about the quantity of gas but its price. If one looks at the two contracts signed between RIL on the one hand, and NTPC and RNRL on the other, RIL had to sell 40 mscmd of natural gas at $2.34 per mBtu to both. This would imply that RIL would soon become bankrupt. Thus, RIL continued to fight these battles for its very survival and not just to enhance its profits. Despite its agreement with RNRL and the LoI it refused to sign with NTPC, RIL realised that there was no way it can supply deepwater gas at $2.34 per mBtu and remain a financially viable company. Yet, if some of the contractual provisions of the NTPC tender are changed, the conditions on the basis of which bidding took place and the LoI sought to be awarded, would be breached. This means that those who lost out in the bidding for the NTPC tender would be discriminated against and could even move court to redress their grievances.
RIL maintained that the decision taken by the EGoM for RIL to sell gas to RNRL at $4.20 per mBtu applied to NTPC as well. NTPC approached the Supreme Court with an appeal that the EGoM decision was not binding on it. Raha wondered how the judges would be able to resolve the two disputes without hurting the interests of either RIL on the one hand, or NTPC and RNRL on the other. None of the parties was willing to come down from the stated positions. He said: ‘It’s a really tough call to take and I don’t envy the judges.’ Then there was the special clause to retrospectively benefit companies engaged in building gas pipelines that was inserted into the Income Tax Act by finance minister Pranab Mukherjee while presenting the Union Budget of 2009–10. This effectively gave RIL a tax benefit of Rs 20,000 crore (see Appendix 4: ‘Biggest tax break for richest Indian’) which was also the amount that was used by RIL as capital expenditure. Could the two events be connected?