The government’s notice sent last week to Reliance Industries Ltd (RIL), disallowing it cost recovery of about $1 billion (Rs 5,300 crore) for the company’s investment in the KG-D6 offshore gas field it operates, will in all probability set off a prolonged legal dispute. The government’s argument is that RIL should not be allowed to recover a part of its investment from its overall revenue as it has not drilled the committed number of wells, resulting in a decline in the gas field’s output. Both the government and the Comptroller and Auditor General see this as a violation of RIL’s contractual obligations, especially given gas production from the field is falling. The government has also gone strictly by the production sharing contract (PSC) in conjunction with the field development plan. RIL has disputed this argument. Even as early as November 2011, it anticipated the government move and filed an arbitration notice. At that time, the petroleum ministry refused to acknowledge the existence of a dispute. It is a classic case of a company pre-empting a government decision by seeking refuge under the contract law.
The imminent legal dispute is also likely to shift the focus away from the larger and more critical issue of falling output from KG-D6. Not much is known of what RIL – or, for that matter, the government and its technical arm, the Directorate-General of Hydrocarbons – is doing to arrest the declining production. All that RIL tells its analysts is that reserves had been overestimated, and that it is working with its new-found partner, BP, on some plan. The fall in production has compromised the expected profitability of investments made in downstream industries. An estimate of the impact of linkages not materialising can be made from looking at just three sponge iron producers: investments worth Rs 70,000 crore that they had made are lying idle because gas is unavailable. And in the shortage-plagued power sector, every 1 mscmd (million standard cubic metres a day) shortfall of gas results in the underutilisation of 223 MW of power generation capacity. Going by an estimated gas shortfall of 53 mscmd from the KG-D6 field this year, the idle capacities in power and other sectors will hit project developers, lenders and the economy. RIL maintains that gas reservoirs are unpredictable and that physical drilling of wells will not help. The company’s executives have also cited the case of ONGC to argue that oil and gas fields do not always behave in accordance with the estimates at the time of discovery.
What the dispute, however, brings to light is the lack of trust between the government and the operator. Has RIL deliberately suppressed production because a price revision of KG-D6 gas is due in 2014? For deep-water gas, a price of $4.2 per million British thermal units is not commercially attractive, even though there is a government decision on fixing that price. The other question is whether the PSC is being interpreted in a way that suits only the government. The case of Vedanta’s buy-out of Cairn India that saw the government forcing Cairn not to exercise its right to arbitration was one instance where the PSC’s terms were ignored. The government on occasions reads the PSC in letter but not in spirit; and, on other occasions, violates it completely. It is time for the government to rethink how it should maintain consistency in its interpretation of the New Exploration Licensing Policy – and even pre-Nelp contracts – without jeopardising India’s energy security, turning off potential investors in India’s oil and gas exploration blocks, or causing the exchequer any undue loss.
