How govt's late afterthoughts and claims have haunted oil and gas sector

Problems in production-sharing agreements with the government have haunted private oil and gas companies for years

Old timers in Cairn Energy used to call the find a “living goddess” because of its productivity. Maybe that was why the company chose to immortalise it by naming it Aishwarya, for the former Miss World-turned-actor, when it was discovered in 2000. In 2020, however, Aishwarya is one of three fields owned by Cairn Oil & Gas — Mangala and Bhagyam being the other two — that is mired in controversy.

In 2011, the Rajasthan fields became part of Anil Agarwal’s Vedanta group. This May, the government sent Vedanta an arbitration notice involving a $520 million demand for alleged discrepancies in cost recovery in the fields.

The problem is this: Under the production-sharing contract (PSC), the three fields had different field development plans. Cairn, however, chose to turn the most productive of them —Mangala — into a hub for all three with a common processing unit and pipeline infrastructure. This move to introduce operational efficiency in 2012-13 meant that the less productive fields delayed the profitability of the more productive ones, Mangala in particular. Almost two years ago, a government audit report pointed out that cost recovery slowed when a lower-margin field was added to a higher-margin one.

According to the government, the merger of operations of three fields led to the booking of a higher expenditure, impinging on the government’s share of profit. In the case of Mangala, for instance, break-even was delayed some four years, from 2015 to 2019.

The government admittedly has a case, but the question is why the issue was raised only after the audit. The government had the opportunity to point to the anomaly well before since its nominee sits on the oilfields’ block management committee (MC).

Cairn’s story is not an isolated case. The government's late afterthoughts and claims have been haunting India’s oil and gas sector ever since production and exploration was opened to private players in the early 1990s. “There are disputes in each and every one of these PSCs. I feel that the Indian system is too stringent and this may be the reason international players are reluctant to come and invest here,” said R S Sharma, former chairman and managing director of Oil and Natural Gas Corporation.

The Rajasthan fields are not alien to controversy. An international arbitral tribunal is set to give a decree soon on Cairn Energy Plc’s challenge to the government seeking Rs 10,247 crore in retrospective taxes. The tax department had sought this amount for alleged capital gains the company made in the internal reorganisation.

At the heart of the problem are the assumptions on which the government proceeds. It is unclear, for instance, if the merging of operations in the case of the three Cairn fields was provided for. This is a grey area. By law, operators can recover all types of capital and operating costs from revenues earned from sale of oil and gas. This can be done before sharing a fixed percentage of profit with the government.

Another case in point is the government’s attempt to block Saudi Aramco’s agreement to buy a 20 per cent stake in Reliance Industries on account of a dispute over profit-sharing from the Panna, Mukta and Tapti (PMT) fields in Gujarat. Reliance had exited the fields,  and the Centre had won a partial arbitration award in 2018.

Though the arbitration had not specified an amount, the Centre approached the Delhi High Court saying Reliance owes it $4.5 billion from the award and a stake sale could affect its recovery in the future given the company’s (then) debt burden of Rs 2.88 trillion.
 

The time taken for disputes is also a cause of concern. For example, the arbitration on the PMT fields has stretched for a decade. Similarly, the matter over alleged under-utilisation and cost recovery claims on Reliance’s KG-D6 field on the Andhra coast has stretched for over nine years now, starting from 2011.

“The government needs to rationalise its procedures, make legal vetting of demand notices a must, including examining the rationale for arriving at the amount of fines and demand notices,” said KPS Kohli, Partner, Dhir & Dhir Associates.

Kohli highlighted the case of Hardy Exploration & Production India (HEPI). HEPI had discovered a natural gas reserve in 2006 in its allocated area on the south eastern coast, entitling it to a five-year appraisal period. The government disagreed and after two years informed HEPI that the block had been relinquished because the company had failed to declare commerciality within two years of the find. HEPI went in for an arbitration in 2013 and won a favourable verdict. Despite that, HEPI has been unable to enforce the award before the District Court in the United States because the Indian government has opposed it.

As a means of attracting foreign interest in the domestic oil and gas industry, such moves cannot be called best-practice. Sector experts suggest that a specific forum for the sector would be a useful solution. “There are several unique aspects in the oil and gas industry, such as price variations, multiple contracts, and geopolitical compulsions. A proper time-bound dispute resolution in the oil and gas sector lies in establishing domain-specific dispute resolution forums,” said Krusch Pathippallil Antony, Partner, King Stubb & Kasiva, Advocates & Attorneys.