Gas Pricing in India

India is the world’s seventh largest energy producer, accounting for 2.49% of the world’s total annual energy production. Natural gas has emerged as the most preferred fuel due to its inherent environmentally benign nature, greater efficiency and cost effectiveness. Natural gas is a scarce resource in India and Govt. of India plays an important role in its allocation.

The Natural Gas Pricing Scenario

The natural gas pricing scenario in India is complex and heterogeneous in nature. At present, there are broadly two pricing regimes for gas in the country

• Gas priced under APM (Administrative Price Mechanism)
• Non-APM or free market gas.

The price of APM gas is set by the Government. As regards non-APM/free market gas, this could also be broadly divided into two categories, viz. domestically produced gas from JV fields and imported LNG.

• The pricing of JV gas is governed in terms of the PSC (Production Sharing Contract) provisions.
• As regards LNG, while the price of LNG imported under term contracts is governed by the SPA (Special Purchase Agreement) between the LNG seller and the buyer, the spot cargoes are purchased on mutually agreeable commercial terms.

In recent times, the APM gas supplies have been declining while non-APM gas saw a dramatic increase in volume and share. Furthermore, APM gas has been allocated in priority to power producers and fertilisers, two sectors expected to see their demand increasing over the coming decade. While the Ministry of Petroleum and Natural Gas has been pushing for higher prices to limit losses from the PSU, this has met with strong resistance from the Ministry of Power and Ministry of Chemicals and Fertilisers. The subsidies to fertilisers have already multiplied by five six times in last few years.

The Reliance Saga in short

To address the supply shortfall of the Natural Gas, the Indian government had passed some reforms at the end of the 1990s to encourage domestic production and the construction of liquefied natural gas (LNG) terminals. In particular, the New Exploration Licensing Policy (NELP) opened Exploration & Production to private and foreign companies. This has been relatively successful: after stagnating since the early 2000s, Indian gas production had a turning point due to the start of the Krishna Godavari KG-D6 field in April 2009.

As mentioned above, India has a rather unusual dual gas pricing and supply policy, with APM gas produced by state-owned companies and non-APM gas from private companies and joint ventures (JVs). Until May 2010, prices differed widely from around USD 2/MBtu for APM gas to almost USD 6/MBtu for the most expensive non-APM gas. This wide gap created problems and started pushing for reforms in gas pricing. Increasing private supply of gas has been indeed a major policy challenge for the government as the pooling of gas prices was limited by the declining availability of APM gas.

In the Production sharing contract, the company shared the profits with the government after deducting the costs and expenses. The profits of the government in this would be a function of the production. In 2011, a report by Comptroller and Auditor General alleged RIL for the violation of the terms of its contract in exploring gas fields in the Krishna-Godavari Basin. CAG alleged that the company used false accounting-methods to show high costs and operating expenses to keep the profit low. It was also alleged that the company increased the sale price of gas without Government’s permission from $2.34 mmBtu to $4.2 mmBtu. It was not supposed to do that.

Ashok Chawala Committee

The Ashok Chawla Committee, headed by the former Finance Secretary, had been set up to in early 2011 to suggest transparent and corruption process for allocation of natural resources. Committee recommendations included adoption of open, transparent and competitive mechanism for allocation of natural resources and greater disclosure of existing approval process. This committee recommended competitive bidding route for allocation of coal blocks, switching to open acreage licensing policy for allocation of oil and gas blocks. This report got lost into oblivion.

Recommendations of C. Rangaranjan Panel

The panel chaired by the Prime Minister’s economic adviser C. Rangaranjan recommended that the domestic gas price be indexed with international prices, implying that the present practice of the administered price mechanism be scrapped. At the same time, it has proposed scrap the existing production sharing formula for hydrocarbon excavation too, and replacing it with the sharing of revenue between the contractor and the government.

Thus, we see that the recommendations are of great implications. If the government accepts the recommendations, it will bring paradigm shift in the pricing of gas. The committee says that the new gas price should be calculated on the basis of an average of prices at exporting countries and at prices at international hubs such as the US’s Henry hub, the UK’s National Balancing Point and Japan’s custom cleared rate.

Here are some recommendations of note:

• The price will be administered as per a set formula under which various components will be assigned different weightage
• The committee has recommended the sharing of the overall revenue of the contractor with the government, without setting off any costs.
• The new mechanism will replace the current fiscal model for PSCs signed under the New Exploration Licensing Policy of 1999. The existing norms allow a company to recover all its capital invested in exploration and production of the gas, after which the profits are shared with the Union government under an agreed formula.
• The panel has now proposed that under the new mechanism, the government’s share in the contractor’s revenue will be determined through a competitive bid process for future PSCs. The bidder will offer different percentage revenue shares for different levels of production and price levels.
• An extended tax holiday of 10 years, as against seven years, is proposed for blocks having a substantial portion involving drilling offshore at a depth of more than 1,500m, since the cost of a single well can be as high as $150 million.

The following table summarizes the different in the existing system and the recommended system: