Prabir Purkayastha

Delhi Science Forum

The CAG draft report on the audit of the production sharing contracts for the onshore and
offshore oil and gas blocks is now widely being circulated in the media, showing once again the
unholy nexus between the UPA and big capital in the country. The CAG has shown that the
Directorate General of Hydrocarbons (DGH) allowed Reliance Industries and other private
operators to gold-plate the capital costs of the plant, allowing them to make huge profits. The
production sharing contract pegged the profit share of the private operators and the government
to something called an investment multiplier, which meant that higher the capital cost, the larger
the share of the profits of the private parties.
INFLATING THE CAPITAL COSTS
There KG Basin D-6 Block went up from 2.4 billion dollars in the initial contract to 8.5 billion
dollars. This was the pattern followed in other gas and oil fields also, involving Reliance, Cairn
Energy and others. In all this, the modus operandi was to submit a bid which shows a certain
capital cost and, during the operation of the contract, inflate the capital cost by a huge amount
with the connivance of DGH and the Ministry of Petroleum. The management committee, in
which the government had 2 nominees out of 4, played no oversight role in such inflation of
contracts.
As we shall show below, there are two sets of scams that have taken place, with the CAG having
looked at only one of them. One is of course various violations of the production sharing contract
as pointed out by CAG; the second is the high price of Reliance gas 4.2 dollars per million BTU
(MBTU)set in 2007 by the Empowered Group of Ministers headed by Pranab Mukherjee.
Reliance itself admitted in the court case between it and the NTPC/Anil Ambani Group that its
production cost was 1.43 dollars per MBTU. Reliance Industries Ltd (RIL) had initially agreed to
supply gas at 2.34 dollars to both NTPC and Anil Ambani Group, which it subsequently reneged
once the EGOM set the price at 4.2 dollars. It might be noted that by its own calculations, RIL
would have made profits of 50 per cent if it had supplied gas at 2.34 dollars.
GOLD-PLATING CAPITAL COSTS AND ROLE OF DGH
The gas and oil field in question is known as KG-DWN-98/3 (Block D-6), and consists of 8,100
sq km of offshore area in the Krishna Godavari basin. Block D-6 was awarded to Reliance
Industries (90 per cent) and Niko Resources Ltd (10 per cent) under New Exploration Licensing
Policy 1 (NELP-1) bidding round under a production sharing contract. Initially, the D6 was to
produce 40 million MMSCD (million cubic metres per day), which was subsequently revised to
80 MMSCD. The initial development cost in the contract was 2.4 billion dollars which was
revised through an addendum in 2006 to 5.2 billion dollars in the first phase and 3.3 billion
dollars in the second phase. The CAG has also observed that the 3.3 billion dollars for the second
phase has every possibility of being hiked up in the same way as the first phase.
SUSPICIOUS DOUBLING
If we look at the fact that the extra investments have doubled production, how much has each of
the parties gained out of this doubling of revenue? Out of the extra revenue (at discounted prices)
of about 7.5 billion dollars, Reliance gains about $5.5 billion and the government only about 2
billion dollars. The increase of four times the capital cost for a mere doubling of production had
always seemed highly suspicious. No logic can explain why the doubling of capacity should lead
to such an increase economies of scale normally ensure that a doubling of capacity would
increase capital cost by about one and a half times. The draft CAG report now makes clear that
the increase from 2.4 billion dollars to 5.2 billion dollars took place for the first phase, where no
augmentation of capacity was involved. This makes nonsense of the bidding procedure for
awarding of blocks, as the calculations for award of blocks involves profit shares promised by
the various parties. If the capital costs change, all this change, vitiating the award of contract
itself.
Not only did the Directorate General of Hydrocarbons accept this increase in capital cost, which
under the contract it need not have accepted; it did so in unseemly haste --- it took a scant 53
days to go through the cost increase of nearly 6.3 billion dollars. Some wizardry indeed!
The CAGs draft report brings out the various ways costs could have been doctored single party
bids, making changes to scope, substantial variation on orders, etc. the CAG has stated that it is
going to examine these issues in greater detail in a subsequent audit. In November 2009,
preliminary investigations by the CBI had found evidence of gross abuse and misuse of public
office by V K Sibal, the then Director General of Hydrocarbons. This had been informed to the
Petroleum Ministry and to the CVC. Numerous links had been found between Sibal and
Reliance. The CBI enquiry remains stalled, very much in the telecom 2G mode, showing that
Reliance tentacles in the government go far beyond Sibal.
CURIOUS CASE OF 4.2 DOLLARS GAS PRICE
An Empowered Group of Ministers (EGoM), in September 2007, set the price of gas at 4.2
dollars per MBTU for five years with no transparency and without giving any reason for this
price. It might be noted that in the same period (2005-2008) the ONGC was being paid only 1.8
dollars per MBTU. The 4.2 dollars price was supposedly done on the basis of RILs price
discovery.
The Reliances price discovery was to ask a selected set of bidders to quote a gas price according
to a formula which fixed the price within a narrow range of 4.54 to 4.75 dollars. With this as the
basis, Reliance declared the discovered price to be 4.59 dollars per MMBTU which was later
revised to 4.3 dollars per MMBTU. The government then magnanimously decided that the right
price was 4.2 dollars and claimed that it was arrived at through a discovery mechanism.
It might be argued that the government also gained out of the high price of gas. This is indeed
true by our calculations, the Government stood to gain about 4 billion dollars or about Rs 20,000
crore from the increased price of gas as its share of profits. However, as gas is the major
feedstock for fertiliser production and also a fuel for power, this gain has to be balanced against
the resulting higher fertiliser and power prices. If the cost of production of fertiliser and power
goes up, so does the government subsidy. So while the RIL would pocket the benefit of the
higher cost of gas, the government would have to pay out a much higher subsidy of around Rs
75,000 crore for a gain of Rs 20,000 crore and therefore incur a net loss of more than Rs 55,000
crore. Not only was the price set at a much higher level than the cost of production, it was also
set in foreign exchange and pegged to the price of crude in the international market.
Why should the gas price be set in dollars for even the future when the costs have already been
incurred and therefore can easily be converted into rupees?
Why should the gas price be set at 4.2 dollars when RIL itself admitted in the court
proceedings between it and Anil Ambanis RRNL/NTPC that its cost price of gas was 1.43
dollars and it was willing in 2004 to sell NTPC gas at 2.34 dollars?
What is the justification of pegging the domestic gas price to the price of crude in the
international market, to which it has no relation?
Fixing gas prices without examining cost figures and a mechanism of converting the cost figures
to a gas price is making gas pricing another way of handing out private largesse. No basis of the
gas price rate of 4.2 dollars has been given, so how did the ministers pull this figure of 4.2
dollars straight out of their collective hat?
What does it mean for the people?
The CAG has made clear that the form of production sharing contract under the NELP is deeply
flawed in favour of the private operators.. It provides a perverse incentive to increase capital
costs to the detriment of governments share of revenue. This is a policy issue that needs to be
urgently addressed in view of the large number of blocks that have been handed out under the
NELP. What does all this mean for the Indian people? Simply put, we are facing double loot. On
the one hand, scarce national resources are being given away at a pittance. Gas and coal
resources are being handed over to the Amabanis, Tatas and sundry others at throwaway prices.
However, this is not helping the consumers, who are being asked to pay international oil and gas
prices. Private loot of public resources coupled with public loot of the consumers this is the
essence of our petroleum policies. It is indeed welcome that the CAG has drawn attention to the
problems in the production sharing contract under the new exploration policy of the government.
However, it is important that other issues also be addressed, a key one being the pricing of gas.
As for a CBI enquiry against officials who have connived with Reliance, public pressure will
hopefully force a reluctant UPA to act.
The only question is: Will the Reliance be also put in the dock for having subverted the
government machinery and having secured these huge windfalls?