In just one day Reliance Industries (RIL) saw its future earnings get slashed, courtesy a court order. The extent of loss, according to ICICI Securities,“If RIL starts supplying gas to Reliance Natural Resources (RNRL) immediately i.e. FY10 onwards at $2.34 per mmBtu price, instead of FY13 when its Dadri project will be ready, RIL’s FY10E-11E earnings would decline 11-17%.” This came on the back of the Bombay High Court’s view on RIL-RNRL case. The verdict dragged the RIL share price down 8 per cent and sent RNRL stock up by 20 per cent that day.
Court has directed RIL, to forge a “suitable arrangement” with RNRL within a month to sell natural gas at $2.34 per mmBtu, a price that is lower (by 44%) than the government-stipulated price. If an agreement is not reached then the brothers should take the help of their mother Smt. Kokilaben D. Ambani. If no solution can be reached even then, the court should be approached to look into the demerger.
What most people are looking at is how the whole arrangement will affect RIL, but the real cause of concern is how the government will react to it and how this incident will shape the country’s future policies in the sector.
New Exploration Licensing Policy (NELP) was introduced in 1997 by the government to provide thrust to the exploration and production (E&P) activities with world class corporate participation. This license was won by the consortium of RIL (90%) and Canadian company Niko Resources (10%).
On April 12, 2000, production sharing contract (PSC) was signed which mandated the government share and the amount this consortium can charge for supplying gas to clients.
Then in 2004, National Thermal Power Corporation (NTPC) called for competitive bidding to supply gas for its proposed project in Kawas and Gandhar in Gujarat. And RIL won the bid to supply 12 mmscmd of gas for its power stations for 17 years at $2.34 per mmBtu.
Next year the bickering had come to the forefront between the Ambani brothers after the death of Dhirubhai (December 28, 1932-July 6, 2002) and his empire was split between Mukesh and Anil. Reliance group was demerged between the two Ambani brothers in 2005 and a Memorandum of Understanding (MoU) was signed between the two on. While RIL came under the ambit of the elder brother Mukesh, RNRL was vested with Anil. Crucially in the MoU, RIL agreed to provide gas to RNRL at the rate of $2.34 per mmBtu.
However, RIL then sought to deviate from NTPC-granted bid on gas supply obligation and development and production plans. For this NTPC dragged RIL to the High Court in December 2005.
This is the bizarre part — despite refusal to sell gas at the bid price to NTPC, in January 2006, RIL signed an agreement with Anil Ambani’s RNRL to supply at the low rate.
The government’s stand on this deal (RIL-RNRL) was put best by the Petroleum Secretary M.S. Srinivasan, “NTPC had used a competitive bidding process where one from many bids was chosen. We are fine if RIL sells gas to RNRL. But instead of a secretive understanding between the two brothers, RIL should have called competitive bids.” (India Today, August 21, 2006).
The government stand made RIL back off from the family deal too. Not wanting to buy gas at market rate, RNRL took the case to the court.
Meanwhile the government formed the Empowered Group of Ministers (EGoM) to decide on price of gas. On September 12, 2007 the eGoM set the price at $4.20 per mmBtu which would only be revised after five years.
So, for all intents and purposes there is a dual pricing structure in effect — the price RIL will sell gas to RNRL and the price at which it will sell to others. The only hitch is that the government will stand to lose revenue from the low price at which RNRL will get the gas — in effect family ties, and the resultant MoU, has given RNRL raw material at a cheaper rate — an undue favour. This could be interpreted as biased, considering all natural resources belong to the country and not to any individual or company.
Since the government’s share of the profit and the royalty it receives is affected by the price on which it is calculated, the court verdict must have made it anxious. In its filing to the High Court the counsel for the government said, “Sales at a price less than $4.20 mmBtu has not been envisaged as per the EGoM decisions taken in accordance with the provision of the PSC.”
Although the PSC gives the government the mandate to choose the higher of the two — market price or effective sales price. It has been reported in certain sections of the media that the government will lose to the tune of Rs 4,000 crore if RIL sells gas to RNRL at $2.34. But if the deal turns sour for RIL then in future no other company will bid under NELP.
it was reported that the RIL has refused to sign any contract with RNRL without the approval of the government. And both the companies will be approaching the Supreme Court with their respective cases. Perhaps, with falling revenues and increased expenditure government may not be a willing partner to grant benefits that slash its share of the proceeds.
The article appeared in the July issue of Wealth Insight magazine