Private oil companies suggest gas price at $5.7-7.4 per unit

The premium promised by the government for natural gas produced in geologically challenging conditions must be linked to the prevalent market prices of a basket of alternative liquid fuels, with a discount factor that would reduce progressively, allowing the price to come close to arm’s length price over a period of three to five years, major private sector explorers have argued.

Contending that cost-plus principles won’t suffice to incentivise low-cost development of deep-, ultra-deep-water and high-pressure and high-temperature fields, the companies including Reliance Industries, BP, Cairn India, BG and Niko suggested a formula for pricing of natural gas from such fields with annual announcements of premiums over the government-fixed price for gas in other fields.

The premium-included price, the companies said, can be calculated as the discounted annual average prices of fuel oil, unsubsidised LPG, naphtha and distillates in the domestic market. The high risk involved in development of these blocks needs to mitigated with clarity on revenue streams, the firms said, arguing against the government determining annual absolute premiums that are not based on a known formula. To start with, the firms said, the premium price could be 70% of the annual average price of the above-mentioned alternative fuels, which could be moved up over three to five years to 90% of the average price.

The Narendra Modi government on October 18 last year came out with a formula based on select global gas indices for the pricing of domestic gas (the resultant gas price of $5.61/million British thermal units came into effect on November1) with a facility for six-monthly review, but said a premium over this price would be available to gas from tougher fields.

The prices of alternative fuels move in tandem with global crude oil prices. If the formula is applied, at a crude oil price of $50 a barrel (which is around the current level), the premium gas price would be $5.74/mmBtu, marginally above the gas price for other fields, taking into account the discount factor of 70%. If the discount factor is 90%, then the premium price will be $7.38/mmBtu (of course, the companies want such reduction in discount to be effective only three to five years after the new regime is put in place). At a crude price of $90 a barrel, the premium gas price would range between $10.01 and $12.87/mmBtu.

The companies’ proposal comes at a time when the Directorate General of Hydrocarbons (DGH) is expected to suggest a mechanism to decide the quantum of premium to the petroleum ministry on January 20.

The linkage to alternative fuels, as suggested by the private explorers, is based on the contention that India has priced natural gas by referencing it to the price of liquid fuels, specifically alternative liquid fuels, which can replace gas.

Currently, China is using 85% parity to alternative fuel price with an objective to increase the same to 90% by 2016. This would result in pricing for incremental domestic gas similar to that being adopted in many countries, say the explorers.

Industry body CII has also suggested to DGH that there should be a “separate formula for such fields, linking the price to liquid fuel or LNG as all new gas production will immediately replace these fuels”.

“All new production from deep-water, ultra-deep-water and high-pressure-high-temperature fields should be allowed price discovery through arm’s length competitive bidding process without any constraints. This will be the most transparent process of arriving at the premium,” CII wrote to DGH.

CII has also suggested to DGH that a premium that is decided based on costs after discovery will also be counterproductive to investment attractiveness and intent of government. The industry body is of the opinion that the formula put in place by the Modi government does not work for deep-water and ultra-deep-water projects.

CII told DGH that under the current gas price formula (approved by government on October 18), the indices from gas exporting countries can be dropped and effective producer net-back prices of gas importing countries could be included.