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Gas woes: Let's do the math

June 29, 2009 13:53 IST
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Though the Bombay High Court's verdict has gone against it in the Mukesh-Anil Ambani gas case, the ministry of petroleum's internal view continues to be that (a) the government has a right to decide on the price at which the gas will be sold; and (b) a higher price of gas means more money for the government.

But this doesn't take into account two factors.

According to Mukesh Ambani's [ Images ] RIL [ Get Quote ], if all the 80 mmscmd of gas from the KG Basin is sold at the \$4.2 per mmBtu the company wants to sell it at, the net present value of the government's share over 15 years will be \$8.8 bn (using a 6 per cent discount rate).

If, however, 40 mmscmd (that's 28 for Anil Ambani's [ Images ] RNRL and 12 for NTPC assuming it pursues and wins its case against RIL) is to be sold at \$2.34 per mmBtu, the government will earn just \$4.7 bn.

So, the increased gas price nets the government \$4.1 billion or around Rs 20,000 crore (Rs 200 billion) extra in NPV terms.

When the price of gas for power rises from \$2.34 per mmBtu to \$4.2, this raises tariffs by around one rupee per unit of power. We know that 40 mmscmd of gas is enough to power around 10,700MW of power and that, in turn, translates to around 9,386 crore units of electricity in a year.

Given our example, that means the government will have to shell out Rs 9,386 crore (Rs 93.86 billion) of power subsidy each year (or face public ire by letting power tariffs rise).

Over the same 15 year period, that works out to a total subsidy/extra payment by customers of Rs 140,790 crore (Rs 1407.90 billion) -- that's Rs 58,700 crore (Rs 587 billion) in NPV terms, using the same discount rate.

So it's not obvious the government wins from a higher gas price. The exact numbers will obviously vary depending upon the assumptions made, but the broad point remains the same.

The larger problem with what the government is doing is that it wants to free up gas pricing -- the \$4.2 price was got from a bid that RIL conducted -- but prices for fertilisers or power (two sectors that use the gas) are regulated.

Opening up one end while closing the other is like putting gas in a pipe which is closed at the other end -- after a while, it just has to burst.

Take the second reason for the petroleum ministry getting it wrong.

The government gets just 10 per cent of the value of the gas till RIL recovers 1.5 times its capital expenditure and operating expenditure -- it reaches 28 per cent when RIL recovers 2-2.5 times its capex/opex and 85 per cent after RIL recovers 2.5-3 times the capex/opex.

A lot then depends upon what the capex/opex are. RIL's capex estimates have gone up significantly, partly due to more gas being found  since 2006, when the peak production was estimated at 80 mmscmd, capex estimates have risen from \$5 bn to around \$11 bn, or by Rs 30,000 crore (Rs 300 billion).

You could do a complicated exercise, but it is safe to say the government's profit-share will fall by at least this amount over 15 years -- that is an NPV of Rs 12,500 crore (Rs 125 billion) assuming this is evenly distributed across the 15 years.

Which brings you to the point -- how the capex is arrived at?

It is approved of by a committee of four persons -- two from RIL, one from the petroleum ministry and one from the Directorate General of Hydrocarbons. That the contractor controls half the committee that clears the costs does seem funny, though it has to be said this applies to all contractors, not just RIL.

According to the head of the DGH, however, there are rules which say each item of expenditure, above a certain level, has to be globally tendered, and there must be no relationship between companies that bid and the contractor (in this case, RIL). So, he says, the capex value will always be a fair one.

This may or may not be true, but it's important to keep in mind that when Anil Ambani's companies claimed to have spent a certain sum in Delhi's [ Images ] power sector, the regulator disallowed a significant part of this on the grounds another Anil Ambani company had made excessive profits while executing the order!

Whether it will be as easy to check related-party transactions in the gas sector is open to question, especially given the kind of holding company structures most companies employ.

Given all this, it will be a good idea for the government to think afresh on its gas policy and the regulations governing it. And we haven't even talked of the ridiculous policies in the pipeline part of this business.

Sunil Jain
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