Unable to rework contracts, ONGC fails to reap benefits of plummeting crude

NEW DELHI: The steep fall in oil prices have helped reduce the cost of developing and maintaining oilfields by at least 40% but Oil and Natural Gas Corp (ONGC) is unable to gain from this. Reason: Lack of discretion.

Oil majors have deferred investments and cut costs, but ONGC, being a state firm, can't fire people or renegotiate contracts easily. Most of its contracts are written with an intent of not allowing discretionary powers to executives to change the terms midway. This means terms are fixed for the duration of the contract and can be negotiated only at renewal.

This is what is happening. The rates for rigs or other equipment and services needed for exploration and production in the oil fields have crashed across the globe as the oil glut forces companies to shelve projects and cut capital expenditure. This is already benefitting many oil producers who have renegotiated contracts with service providers, terminating or deploying them at far lower rates.

But for ONGC, the gains have been slim this fiscal year as it can't rework contracts underway and must wait for the renewal. In 2016-17, the company hopes to save about 20-25% of its costs as more contracts are now due for renewal, a senior company executive said.

By contrast, Cairn India, a private firm controlling a quarter of the country's crude oil production, started a massive cost reduction exercise at the beginning of the last year, about six months after the crude oil prices had started tumbling from a peak of $115. It fired more than 300 people, terminated several rigs and renegotiated lower rates for many services.

The absence of this flexibility to a state firm is surely a disadvantage when rates keep falling. "But we also escape its flipside when the prices are rising," said another senior company executive. When the commodity cycle is on an upswing, ONGC can keep its rates stable for the entire term of the contract, usually three years.

"Another advantage is that the company gets a much better rate from service providers since we offer them the certainty of income for a fixed period," said the executive, adding that the rates offered to ONGC are almost always lower than those provided for contracts with provision for reopening. Oil prices have lost about a quarter this year and trading at $28 a barrel now. This has also idled rigs across the globe with the utilization falling to about 60%.