January 29, 2015
It is ironic that at a time when the prime minister is talking about making India an easier place to do business, one of his ministries is moving in exactly the opposite direction. The draft revenue-sharing contract (DRSC), which seeks to replace the New Exploration Licensing Policy production-sharing contract (NELP-PSC) regime for oil and gas exploration in India with a revenue-sharing model, reveals an attitude of extreme suspicion of the private investor. It also indicates that the government has learned nothing from the fiascos in this sector over the past decade. The committee headed by Vijay Kelkar, formed to prepare a road map for enhancing domestic oil and gas production, submitted its report to the government of India in January last year. Eight months after the new government came to power at the Centre, no action has been taken on the recommendations of the committee.
There are four areas in which the DRSC has, in a sense, moved in an investor-unfriendly direction, especially compared to the NELP-PSC format. Production of oil and gas is, by its very nature, an uncertain and risk-laden process, subject to reservoir behaviour. By penalising an investor for under-production, the government fails to recognise that many factors other than a force majeure could have an impact on production. As if this were not enough, the DRSC goes on to prescribe the creation of an escrow account into which all oil/ gas revenues will flow in the first instance, ostensibly to safeguard the revenue interests of the government. Any dispute on payments between the government and the investor will choke the flow of revenue to the latter, depriving it of the financial resources to carry on production.
Moreover, such an arrangement is likely to adversely affect confidence in lending funds to the investor, given the uncertainty of future payment schedules. The revenue-sharing model is not cost sensitive: this could lead to the failure to develop marginal fields since the extraction of royalty by the government, followed by revenue shares determined prior to the assessment of post-exploration oil/ gas prospects, could make the development of such fields unviable for the investor. Finally, the DRSC has done away with the contractual stability clause in the earlier NELP-PSC that gave confidence to the investor that tax and other fiscal terms would not be altered by the government to the disadvantage of the investor during the contract period.
Apart from imposing more onerous terms, as described above, the DRSC has also failed to address some of the concerns repeatedly raised by investors in recent years, especially in the wake of the Reliance and Cairn-Vedanta controversies. No effort seems to have been made to address vexatious contract management issues that have dogged almost every production-sharing contract signed in the past. The Kelkar Committee report had suggested measures to strengthen the Directorate General of Hydrocarbons (DGH) to enable it to fulfil its regulatory functions more competently. However, the DRSC retains the control of the ministry over decision-making processes, in spite of the fact that almost no company has managed to get clearances for work programmes, gas pricing or other contractual issues in a time-bound manner from the government.
It would seem that past practices will continue — the DGH will refer every matter to the government and there will be inordinate delays in decision-making. Even a simple matter like permitting exploration activities in a producing field area to better exploit its potential has been bogged down by bureaucratic red tape in the past. The same opacity in decision-making was also evident in the lack of a clear decision by the government when the investor, having made recent discoveries (as in Cairn’s Rajasthan block), requested an extension in the contract period to fully exploit the production potential of the field. The DRSC holds out little hope that such issues will be resolved in a timely, pragmatic manner. While the government of India has announced a price for the sale of natural gas, there is still no clarity on the move towards market-determined gas prices. Uncertainty regarding how administered gas prices may be tweaked by the government in the future could well affect investor sentiment.
Ultimately, no contract can hope to substitute for a competent, strong regulatory framework. The government needs to urgently build up the capabilities of the DGH to manage exploration and production contracts and put in place processes that enable companies to focus on their primary task of looking for oil rather than complying with unnecessary procedural formalities. The government appears to be focused on short-term revenue gains rather than the primary objective of enhancing oil and gas production in India, a classic case of killing the goose that lays golden eggs.
The writer, a retired IAS officer, was director (exploration contracts), ministry of petroleum and natural gas
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