Letter dated August 9, 2009

Registered Post/ Acknowledgement Due

Important/ For Personal Attention

Visakhapatnam
August 9, 2009

E.A.S.Sarma      
14-40-4/1 Gokhale Road                 
Maharanipeta      
Visakhapatnam 530002
Tel. Nos. 0891-6619858/ 9866021646

To

Shri Vinod Rai
Comptroller & Auditor General of India

Subject:- Special Audit of Implementation of Production Sharing Contracts with Oil & Gas Exploration and Development Licensees in Krishns Godavari Basin

Dear Shri Rai,

I understand that C&AG has taken up a special audit of the implementation of the Production Sharing Contract (PSC) between GOI & RIL for gas exploration and development in Krishna Godavari Basin. I wish to bring to your notice certain important aspects that will indirectly impact the finances of the government, unless due care is taken to address them.

At the outset, I wish to point out that, despite my repeated advice to the Prime Minister and the Ministry of Petroleum & Natural Gas (MOP&NG), the latter had deliberately framed the Petroleum & Natural Gas Regulatory Board Act of 2006 in such a manner that it would keep the petroleum regulator out of the domain of gas pricing. The stated rationale for this was that the price of gas would get “discovered” by the play of market forces, an assumption that had no basis whatsoever. Anyone familiar with the hydrocarbon industry would know that the gas markets the world over are highly fragmented and there is no alternative to adopting the “administered” pricing approach, based on the usual normative-cost-plus- reasonable-return approach.  This has resulted in the present unfortunate situation, virtually bestowing upon RIL and the other players, a monopolistic hold over the pricing of gas. Strangely, the same government that believed in the efficacy of the market forces made a volte-face and proceeded to appoint the so-called Empowered Group of Ministers (EGOM) to bestow upon the political executive the responsibility of fixing the price of gas! In other words, the government, knowingly or unknowingly, first disabled the statutory functionary viz. the petroleum regulator and then enabled the political executive to tinker with the price, for reasons best known to them.

In this connection, I enclose a copy of my latest letter dated 3-8-2009 addressed to the PM. The letter is self explanatory. It is beyond reason as to how the EGOM had fixed the price of gas at $4.20/ MMBTU, when RIL had quoted $2.34/MMBTU in response to an international bid floated by NTPC. If the government had ever believed in a competitive market, they should have straightaway adopted NTPC’s price as the benchmark. Instead, they waited, for reasons best known to them, for RIL to adopt a highly contrived exercise to determine the gas price and then adopted it as the basis. 

I am not sure whether your office has all the relevant documents in this case. I have asked for the relevant information under the RTI Act but, so far, I have drawn a blank. RIL however seems to have made a mandatory disclosure of its costs vide its communication dated 22-5-09 addressed to DGH. According to this, the unit cost of production is $0.8945/ MMBTU. If the norms laid down by DGH were to be applied to this, the unit cost would further come down to $0.2211/ MMBTU.

It is facile for the government to hide behind the smokescreen of protecting or maximising its royalty income, when every extra dollar of royalty for the government will simultaneously yield more than that extra dollar to RIL in net profitability. The burden of both the profit and the royalty, along with the cost, will finally impinge upon the consumers of fertilizers, electricity and cooking gas, all of whom will seek subsidies from the government. The whole exercise of the government seems to tax the consumers and the tax payers of the country, only to provide more than reasonable profits to RIL!

I understand that the committee of officials that advised the EGOM had recommended gas price to be fixed at a lower level. C&AG should perhaps obtain the relevant documents from the Cabinet Secretary. My own efforts to get the papers has so far met with resistance from the Cabinet Secretariat!

In para 102 of his latest Budget Speech, the Finance Minister has announced retrospective amendment of the Income Tax Act that will provide large benefits to the gas developers. Should the gas developers like RIL pass on this benefit to the consumers? The EGOM fixed price of $4.20/ MMBTU is a fixed one with perhaps some minor variation linked to crude price, whereas the tax benefit that will accrue to the developer is going to be fairly substantial.

In its communication dated 22-5-2009, RIL’s investment till the end of 2009-10 has been indicated at $4.8 billion, though in the reply to Parliament Question No.336, MOP&NG has curiously revised this figure upwards to $8.8 billion. RIL seems to have capitalized the interest on investment at 14% which, to me, appears quite high. The investment estimates provided by RIL therefore need to be scrutinized carefully.

Mustang Engineering Company, one of the so-called "independent" evaluators of the investment estimates provided by RIL is apparently not that independent, as the company has since been appointed as RIL's contractor in Panna development project. I have attached here a news report of 2008 for your information. The conflict-of-interest angle needs to be looked into in the case of both the independent evaluators in the case of RIL.

I get the sense that the way the government have proceeded on some of these concerns has not been transparent and straightforward. DGH, under Section 4 of the RTI Act, should have disclosed all this information in the public domain but they have failed to do it. I am not sure whether MOP&NG has taken the Parliament into confidence fully.

While what I have said above referred to RIL, implementation of the other PSCs that MOP&NG has entered into need to be subject to careful scrutiny so as to ensure that the public interest is fully safeguarded. All these concerns have far reaching consequences and their implications for the state exchequer can be enormous.

MOP&NG has already started its preparations for launching NELP VIII auctions, without addressing the kind of concerns I have listed above. I enclose for your information a copy of my letter dated 8-8-2009 to Secretary (MOP&NG) on this subject.
I request C&AG to look into these aspects as they have a far reaching public interest angle.

Regards,

Yours sincerely

(E.A.S.Sarma)
Former Secretary to GOI