Oil refineries in India are searching for new and improved ways to manage crude inventories in a scenario of rising crude prices and ongoing under-recoveries in the refining process, and following the government’s decision to prune subsidies.
Oil retailing companies are trying to maintain minimum inventory, unlike in the past, when they would maintain one or two months' stocks in advance without bothering about the working capital high seas. High seas maintenance is expensive considering the insurance, freight and exchange rate risk.
"That used to block around Rs 1,000-1,200 crore for maintaining crude inventory in transit. Now we cannot afford such luxury," said a PSU official involved in managing trade. "Companies are at the most maintaining seven days' inventory. If a situation arises when domestic supply of refined products falls short of domestic demand, or if a company does not want to roll over last month’s inventory in the books for the new month since it has not landed onshore, companies are securing domestic crude from Oil and Natural Gas corporation (ONGC) for meeting transit demand. At any cost, companies are not in a position to spend extra on foreign exchange for inventory management for longer time."
Officials said, monitoring mechanisms have been installed at every point of transport of crude into the country to assess the inventoy level.
"We have narrowed down the loading period. Earlier, exporters could load any time within a month and this used to be decided two months in advance. Now we are insisting on loading within the first week to ten days of every month. This is important for balance sheet management," they said.
Such crucial inventory management becomes critical at the end of every quarter or financial year when results have to be declared. If the loading is done in the first ten days of the month, the inventory and its cost need not be carried in the books of that month. If it gets delayed, it has to be shown in the books, which in turn affects the results. As such we are running under-recovery. Thus the loading window has been sharply to cut down cost of inventory.
By the end of third quarter of the current financial year, projected under-recoveries of oil companies were Rs 1,87,127 crore for the financial year 2012-13 in the wake of high international crude oil prices and sharp depreciation of Indian rupee against the dollar.
Crude inventory management by external party:
As an option for better inventory management, PSU oil companies have been looking for external parties to manage crude inventories at least in the high seas during the transit period from the time the crude is loaded in the tanker till it arrives onshore into India. The trigger for this has been the recently clinched Essar Energy deal with Barclays Bank for crude inventory management of its Stanlow refinery in London.
Explaining the details, an official source close to the development said the deal entails Barclays to own the title and ownership of the refinery stock at Stanlow -- crude and refined products which gets transferred from Essar Energy. Barclays will sell crude for refining only to Essar Energy for refining at the prevailing spot rate and buy back the refined product also at the spot rate. The price-risk hedging for the oil bought and sold have to be done by Essar only with Barclays.
According to oil analysts, for Essar, it helps in bringing down borrowing cost substantially, which it used to bear through continuous working capital for crude inventory management. Besides, its asset size goes down since the title of the asset gets transferred to Barclays, thus earning better return on assets (ROA). For Barclays, it provides physical assets of oil for its oil derivative business, captive oil-risk hedging business of Essar-Stanlow, reduction of capital cost in terms of less borrowing to Essar on account of working capital, which it could pass it on to the client later, they added.
Such deals, in which banks take over crude inventory management for oil refineries, are in vogue in the United States, where refineries are finding it difficult to manage stocks when oil consumption is flat and crude prices are going up. Goldman Sachs is reportedly one the largest suppliers of crude and largest customers of refined products for refineries owned by Alon USA in California, Louisiana and Texas. Similarly, Morgan Stanley and JP Morgan are now suppliers of crude to various refineries across the US and their customers for refined products as well.
Analysts said, the need for these banks to get into owning and managing crude for refiners is increasing pressure of US regulators on these banks to maintain physical underlying assets of commodities they are hedging in the commodity derivative business. Besides, it brings down the capital cost for these banks to these companies, since the borrowing goes down.
Indian perspective
To ensure energy security, the Government of India has decided to set up five million metric tonnes strategic crude oil storages at three locations at Visakhapatnam, Mangalore and Padur (near Udupi). These would be in addition to the existing storages of crude oil and petroleum products with the oil companies and would serve as a cushion in response to external supply disruptions.
According to ministry officials, the country is at present building strategic oil reserves under India Strategic Petroleum Reserves Ltd. The commercial viability of this reserve is an issue since the reserves have to be maintained over a period of time. Currently, the entire project is being funded by the government, but at a later stage the government intends to share the cost with oil companies, either by way of crude sharing or stake, sources said.
The government has already asked oil companies to contribute in the reserve, which they are finding difficult since companies themselves are running on lean inventory. Similarly, bearing cost of maintenance of reserves will also be difficult for the oil companies given their own financials and working capital strength. Therefore the government is also looking into the option of delegating crude reserve inventory management to an external party and declare the area as a custom-free zone for avoiding tax complications and reducing cost, sources said.