Govt offers more price power to domestic oil producers

The Cabinet Committee on Economic Affairs (CCEA) decided on Wednesday to lift remaining controls on the activities of domestic oil producers, by allowing them to sell their products to anyone in the domestic market at prices not only determined by a rigid benchmark, but based on the basis of freer negotiations with the buyers.

The move would increase the pricing power of state-run ONGC, Oil India and private player Cairn India and aid them in the market-driven price investigation.

ONGC and OIL carried some of the government’s oil subsidy for years. These companies sold crude oil at deeply discounted prices – 50% and more – to state-run OMCs – IOC, BPCL and HPCL. The practice was abolished in the first quarter of FY16, but the policy of allocating crude oil to “the Center, its nominees and state-owned companies” continued. This condition in the Production Sharing Contracts (PSCs) will be lifted as of October 1. Of course, the state-run oil producers would no longer be allowed to export their products.

The CCEA’s decision could result in a higher realization for oil producers and have positive side effects, such as increased government revenues from the transfer and royalties on crude oil. Higher profits for oil producers could prompt them to ramp up production and invest more in exploration and drilling, a salutary outcome given stagnant domestic hydrocarbon production and the ever-rising energy import bill.

Currently, the government determines how the oil produced in the country is distributed among the various state-run refineries, and every six months the quantum to be available to each refinery is reallocated. This undermines the bargaining powers of the producers.

However, state-run oil marketing firms could feel the pinch as they will have to deal with crude oil producers armed with bigger pricing policies.

Currently, crude oil is attracting 20%, while royalties are levied at 20% for onshore and 10% for offshore production.

Minister of Information and Broadcasting Anurag Thakur said, “Whatever they (oil producers) are going to research and produce, it will only be sold in the domestic market, but they will have the freedom to sell it not only to the state-owned companies, but also to all private companies. This will encourage investment in the upstream oil and gas sector, boost oil and gas production and facilitate doing business.”

He noted that Indian refiners were only able to refine 71% of the raw allocation by the upstream companies in 2018-19 and this further declined to 59% in 2019-20. “It will reduce oil imports in the longer term. If all of the crude oil produced in India is not refined locally (by state-run OMCs), it will be available to other refineries,” Thakur added.

An ONGC official told FE: “Given that 85% of the country’s crude oil needs are imported, deregulation of crude oil sales was long overdue. It really makes sense for any exploration and production company.”

Subhash Kumar, a former direct financier at ONGC, told FE the government’s move amounted to removing an irritant in oil producers’ state-owned enterprises. “Now the producers can get premium or discount based on quality,” he said.

However, it is not clear from the CCEA statement whether the nominated blocks awarded prior to the New Exploration and Licensing Policy (NELP) also have the freedom to sell on the open market. For ONGC and Oil India, more than 90% of their crude oil comes from nominated fields in Mumbai offshore and Assam, and is not based on production sharing contracts. ONGC has a 30% stake in Cairn India’s fields, which is nearly 10% of the total production.

DK Sarraf, former ONGC chairman, told FE: “Under the current regime, a refinery has to source crude oil even if it is unable to process it efficiently. Now the crude oil goes to the right buyer for the right price. The decision will raise awareness for sellers and refineries will also be willing to pay the right price for the right type of crude.”

Currently, the price at which ONGC-OlL sells to state-run OMCs is usually set at a discount to the benchmark Brent crude oil price, with little difference in crude oil quality.

Anil Agarwal, Chairman of Vedanta Group, said: “The decision will attract many national and international companies to engage in exploration and production in India and encourage international investment in the sector. At Vedanta Cairn Oil & Gas, we are committed to investing $4 billion and contributing to 50% of India’s domestic hydrocarbon production.”

As of March 31, ONGC’s crude oil production was 19.5 million tons, which will increase to 19.88 million tons by the end of FY23. Production is expected to increase further to 21.6 million tons in FY24 and 21.7 million tons in FY25.

During the regime, when upstream companies carried some of the oil subsidies, they were treated as off-budget obligations by the governments. The UPA government had issued oil bonds worth a total of Rs 1.44 trillion between 2005 and 2012, a practice that has since stopped.

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