The cabinet committee for economic affairs (CCEA) has approved the Rangarajan Committee's proposal to raise the price of natural gas from April 1, 2014. The price of gas is expected to be raised to around $8.4/MMBTU and then revised every quarter thereafter as per the Rangarajan formula. The price of gas is determined by averaging the netback wellhead prices of Indian imports and the gas prices prevailing at global trading hubs of US, UK and Japan.
While upstream oil and gas companies have been demanding a gas price increase for a few years now, the fertilizer and power sectors have voiced serious concerns over any increase in gas price. The upstream companies felt that a low price of gas did not adequately compensate them for the substantial risks involved in exploration activities. Further, the E&P companies argued that offshore exploration and production is significantly costlier than onshore exploration and the low price of gas makes deepwater and ultra-deep water exploration and production unviable. On the other hand, the power and fertilizer sectors are extremely price sensitive and any increase in the price of gas has a big impact on their profit margins. Both these sectors have zero pricing power as the prices of fertilizers and energy are heavily regulated by the government.
The production of gas from RIL's KG-D6 block was expected to transform the gas market in India. The gas consumers embarked on an expansion spree encouraged by the prospects of cheap and abundant gas. Although the gas field showed great promise in the initial years of production, production has been on the decline over the last two years and production has decreased to just 14 MMSCMD compared to estimated production of 80 MMSCMD. The gas utilization policy of the government that assigns priority to various sectors for allocation of domestically produced gas resulted in a skewed distribution of gas supply when domestic production declined, benefiting the fertilizer sector at the expense of the power sector. While the supply of gas to the fertilizer sector was not affected due to the decline in domestic production, owing to higher priority, the supply to the power sector reduced substantially leading to an overall drop in gas power plants PLFs across the country. As a result, the power industry in India is facing an extremely tough business environment. The sourcing of fuel, both coal and gas, has become extremely difficult. The power companies are burdened by excessive debts and banks have become weary of lending to the sector.
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The decline in domestic production of gas has increased the country's dependence on imported LNG. The share of LNG in total gas consumption has reached around 30% and has been increasing over the years. There was a huge disparity in prices of domestic gas and LNG. While domestic gas cost consumers around $4.2-5.5/MMBTU, LNG prices were in the range $13-18/MMBTU.
Private gas producers have argued that gas should be sold at a competitively determined Â‘arms length' price in line with provisions of the production sharing contracts. However, given the large supply-demand mismatch and dependence on imported LNG, competitive bidding for gas results in a price of gas which is almost at parity with imported LNG. GSPC and RIL conducted competitive bidding to sell gas from their Deen Dayal West (DDW) field and Madhya Pradesh CBM block respectively. The bidding resulted in gas prices as high as $12-14/MMBTU. There was however a difference of opinion between the petroleum ministry and the producers over the manner in which the bidding for gas took place. The ministry was of the view that the bidding should have been confined to only power and fertilizer companies, those who were in the priority allocation list.
The power ministry said that power generation from gas power plants would become unviable at a gas price above $5/MMBTU.Gas cannot compete with coal as a source of energy at higher prices due to increased cost of energy generation.
The increase in gas price will have a huge financial impact on the power and fertilizer sector. The impact on the power sector is expected to exceed Rs 46,000 crore per annum and the impact on the fertilizer sector will be more than Rs 17,000 crore per annum, according to some estimates. The government will need to support these two sectors to mitigate the financial impact of the price increase. The government hopes that increased revenue from oil and gas sector in the form of higher profit sharing, royalty and taxes will offset the financial subsidies outgo to the fertilizer and power sectors.
Availability of gas is expected to be a constraint for gas consumers at least for the next three years. The dependence on imported LNG will increase. The high price of gas is likely to hit demand in the power and fertilizer sectors. The rate of capacity addition in these sectors will slow down significantly due to high prices. The CGD sector will emerge as a major consumer of gas and will grow at the fastest pace among gas consumers. Gas is a viable replacement for liquid fuels such as diesel even at higher gas prices/LNG import prices. The CGD sector, refineries and other industrial users are expected to drive the demand for LNG imports.
The gas shortage is expected to ease after 2016-17 as investments in development of new fields and redevelopment of existing fields lead to higher domestic gas production. Imported LNG supplies are also expected to be ramped up with the commissioning of new LNG terminals and expansion of existing terminals. In the meantime, the struggle to source gas will continue and gas consumers will have to bear the burden of higher gas prices.
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