gfiles magazine

June 13, 2011

Hobbling a champion horse

Hobbling a champion horse 
The neta-babu nexus is actually stifling ONGC to benefit the private sector

THE BJP-led National Democratic Alliance (NDA) government reduced the governance of public enterprises, including core sector ones, to the proverbial sale of the family silver. Had the NDA not lost the 2004 general election, there would perhaps have been no Navratna PSE left by now.
Now, though the Congress-led United Progressive Alliance (UPA) stopped the condemnation and privatization of public sector enterprises (PSEs), it retained privatization as the last option to save a PSE. In its second tenure, the UPA government has tried to create an illusion that it cares for PSEs and wants to enhance their wealth generation potential. It thus created a niche category called Maharatnas for the top-performing giant PSEs in December 2009.
The deception becomes clear by looking at the way the government has handled the management of two of the four Maharatnas – the Oil and Natural Gas Corporation (ONGC) and the Indian Oil Corporation (IOC) – leave aside the raw deal meted out to other PSEs.

Undercurrents of politics and corporate lobbying in the appointment of its CMD are eroding the value of ONGC.

IOC had to function without a regular Chairman-cum-Managing Director (CMD) for a full year since March 1, 2010, when S Behuria was denied extension even though he was some years away from superannuation. The company had two successive officiating CMDs till February 28 this year when RS Butola was appointed.
But ONGC is still bogged down in uncertainty. This Maharatna is being led by an officiating CMD, AK Hazarika, since January 31 this year after the retirement of RS Sharma. Hazarika, Director (Onshore), was not only asked to hold additional charge as CMD but was also given additional charge as Director (Exploration) as this post too fell vacant after the retirement of the incumbent. Corporate lobbying contributed to the delay in selection of a new CMD. This speaks volumes about the manner in which the government governs PSEs – with pressure and manipulation by various quarters.
Sharma’s appointment had also been delayed due to the machinations of vested interests. His appointment was finally regularized in July 2007, 13 months after he took additional plancharge as CMD. His selection as CMD was first turned down on the specious ground that the government wanted to induct talent from the private sector.

The powers that be want to ensure that ONGC does not pose any serious competition to private companies.

The post is the most coveted and most politically sensitive in the public sector. ONGC has been India’s most profitable PSE. It was the most valuable PSE in terms of market capitalization until May 16 this year when it was edged out by Coal India Limited (CIL), which was listed on the Bombay Stock Exchange only a few months earlier. CIL is now the country’s second most valuable company after Reliance Industries Ltd (RIL).
The under-currents of politics and corporate lobbying in the appointment of its CMD are contributing in the erosion of the value of ONGC. This has happened earlier, too. In October 2006, when Sharma served as a stop-gap CMD, RIL dislodged ONGC as the most valuable company.
The continuation of a stop-gap CMD, coupled with earlier delay in making the ONGC Board’s composition compliant with stock market regulations, has cast a shadow on the company’s fresh public offer. In December 2010, the government stated it would divest 5% stake in ONGC through a further public offer (FPO) in the domestic market. “The offering would be a ‘fast track issue’,” stated the Department of Disinvestment. The FPO has already been delayed by a few months. In all probability, it will be launched after the appointment of a regular CMD. Devaluation or under-valuation of ONGC is not the concern of the powers that be.
Not with standing the dismantling of the administrative price mechanism (APM) in the oil sector in March 2002, the government continues to use ONGC as an instrument of subsidization of petroleum products and of public welfare. The company is subject to ad hoc arrangements under which it shares subsidies on kerosene, cooking gas and diesel with other oil and gas PSEs. This not only reduces its net profit, leading to less income tax realization by the government, this casual approach also impacts ONGC’s market value in the eyes of investors.
The powers that be are always keen to have a pliable ONGC CMD, who would help in awarding several contracts on single tender basis or nomination basis to their favoured firms. As it is, ONGC is one of the largest contractors in the country. This profile offers the neta-babu combine an opportunity to influence the company management in changing tender conditions, re-tendering, and so on. More than that, the powers that be want to ensure that ONGC does not pose any serious competition to private companies. They want to ensure that its management aligns its projects and activities with the ones pursued by the private sector companies.
There is a tacit understanding between the ONGC management, the bosses in the Ministry of Petroleum and Natural Gas (MoPNG) and other stakeholders on minimizing friction in the oil and gas sector. This has spawned mediocrity, complacency and a propensity among the managers to err on the side of caution.
Such tendencies are discernible in implementation of projects, investment of surplus cash, acquisitions and mergers, organizational rejuvenation and so on. The time taken by ONGC from planning to commissioning of any project is far more than its private competitors. This is more relevant in the case of downstream integration projects. (See box, “Gassing around”.)

Gassing around! ONGC has had a tendency to squander opportunities and resources
THE Oil and Natural Gas Commission (as it was known then, later becoming the Oil and Natural Gas Corporation) played a stellar role in the birth of the Indian petrochemicals industry in the 1960s but thereafter failed to capitalize on this early lead. Its attempt to diversify into the business of petrochemicals since the late 1980s has been marked by tortuous delays, project abortions and goof-ups. It is thus unsurprising to see ONGC finally leaning on other public enterprises such as the Gas Authority of India Ltd (GAIL) and the Indian Oil Corporation (IOC) to minimize further turbulence in its stroll into downstream value-additions.
Way back in 1964, ONGC created a petrochemical division which in turn examined the techno-economic feasibility of setting up aromatics and olefins projects in Gujarat. 9, the government incorporated the Indian Petrochemicals Corporation Ltd (IPCL). ONGC can thus be credited with the birth of this Navratan company, which the NDA government sold to Reliance Industries Ltd (RIL) through a global bidding competition in 2002. Thereafter, in 2006, RIL and IPCL merged.
ONGC was later happy providing feedstock to IPCL from its gas processing complex(GPC) at Uran, Maharashtra, and to both IPCL and RIL in Gujarat from its GPC at Hazira. A GPC’s task is to remove impurities from natural gas and split the gas into different components to derive maximum value from this versatile fuel. The ethane and propane fractions are precursors to the building blocks for plastics and other petrochemicals. Similarly, the propane and butane fractions can be blended and marketed as liquid petroleum gas (LPG). The majority component, methane, is used as feedstock for production of nitrogenous fertilizers or as a fuel for power generation and so on. A GPC also produces natural gas liquids (NGL), similar to naphtha produced by refineries.
NGL/naphtha is a building block for several petrochemicals. In the 1980s and 1990s, ONGC revived the idea of setting up a plant for manufacture of paraxylene and other petrochemical intermediates. The project was a strategic fit for ONGC as the naphtha feedstock was produced by its GPC at Hazira. It even explored for long the idea of forming a joint venture with Bharat Petroleum Corporation Ltd (BPCL) to implement the project. But the project never moved beyond the detailed feasibility reports. The petrochemical flip-flop turned ironic in 2002-2003, when ONGC aborted its naphtha-based project for manufacture of food grade hexane (FGH) and special boiling point solvents (SBPS) for want of a long-term marketing arrangement. At the time IOC had offered to market these products without entering into a formal long-term marketing contract. The project, which was to use naphtha from the Hazira GPC, was being executed by public sector engineering enterprise Mecon Ltd when it was decided to shelve it.
ONGC’s reluctance to learn from its mistakes is clearly visible in the disjointed and improperly-sequenced approach in the planning and implementation of the mega petrochemicals complex at Dahej, Gujarat.
In 2003, it decided to set up a GPC downstream to the Petronet LNG Ltd (PLL) liquefied natural gas import terminal at Dahej. The GPC would extract ethane (C2), propane(C3) and butane (C4) fractions from the imported gas. But ONGC did not decide what it would do with the extracted fractions. After firming up the Dahej GPC project, it decided to use the fractions for manufacture of petrochemicals. And thus was born the idea of setting up a world class multi-feed petrochemicals complex at Dahej. The proposed complex would also use LNG from Uran and Hazira as supplementary feedstock.
THE Rs 976.08-crore GPC was completed in December 2008 but has not yet been commissioned. Plant is in preservation since January 2010,” says the ONGC annual plan for 2011-12. ONGC has been making frantic efforts to enter into interim marketing arrangements for C2, C3 and C4 since 2008.
The downstream petrochemicals complex is expected to be ready in the third quarter of 2013. ONGC has minimized its exposure to the Rs 19,535-crore complex by putting its ownership under a tripartite joint venture named ONGC Petro-additions Ltd (OPaL) with 26% equity stake. The other co-promoters are GAIL with 19% stake and the Gujarat State Petroleum Corporation (GSPC) with 5% stake. The remaining 50% of shares are to be offered to strategic investors and financial institutions. ONGC has been scouting for such investors for almost three years. The company formalized GAIL’s participation as co-promoter in January 2011 and has also given GAIL the task of marketing part of the production of the proposed complex as well as the right to set up a synthetic rubber plant within the complex.
In entry of petrochemicals through the refinery route, ONGC fares better. The company acquired a controlling stake in the Mangalore Refinery & Petrochemicals Ltd (MRPL)in March 2003. After turning around this loss-incurring subsidiary, ONGC put it on the expansion-cum-petrochemical integration route. It thus opened its petrochemical account with production of mixed xylenes by MRPL in 2006. MRPL is expected to complete the expansion of its refinery capacity to 15 million tonnes per annum (mtpa) from 9.69 mtpa by December this year. This will be followed by completion of a 440,000-tpa petrochemical-grade propylene unit in April 2012.
ONGC has also formed a joint venture with MRPL called ONGC Mangalore Petrochemicals Ltd – in which it has 46% stake while MRPLhas 3% – which is slated to complete an aromatics complex in the last quarter of 2012.

Take the Krishna-Godavari (KG) basin case. Both ONGC and RIL discovered gas in this basin around the same time in 2002. The latter, which was then a greenhorn compared to ONGC in E&P, started gas production in 2009. RIL has thus already monetized the discovery as well as helped the fertilizer, power and other industries generate wealth through KG gas utilization. ONGC is expected to start gas supplies from its KG basin assets in 2016-17.
THE comparison between the two giants drives home the point that ONGC needs to pull up its socks and the government has to provide full autonomy to the company’s management. (See box, “Head to head”.) In the past, the government has not only pushed ONGC towards mediocrity but also cited its very mediocrity as the excuse to privatize its discovered oil and gas fields or discourage it from tapping new business opportunities. That ONGC has to go a long way to improve its core competency, exploration and production of hydrocarbons has been succinctly said by the Comptroller and Auditor General (CAG). In its report on ONGC’s wholly owned subsidiary, the ONGC Videsh Limited (OVL), issued in March this year, the CAG says: “The company is yet to succeed as an (overseas E&P) operator.” It has pointed out that, of the 36 assets acquired at the exploration stage at a cost of Rs 6206.17 crore, only five have been successful. OVL’s major investment of Rs 46,285 crore is in nine assets that it acquired at the producing/discovered stage.

The ONGC management, the bosses in the Ministry and other stakeholders ensure minimal friction in the oil and gas sector.

The CAG recommends that OVL “should formulate a policy and prepare standard guidelines in line with practices of Petroleum Resources Management System for evaluation of investment opportunities for acquisition of producing, discovered and exploration assets so as to mitigate the risks.” As for E&P, the CAG says: “There is an urgent requirement for the Company to strengthen its internal control system, including its internal audit, and ensure a strong monitoring mechanism with multi-level controls for financial and operational activities. Also, the Company should put in place timely audit arrangements for audit of the JV partners.”

Head to head
On October 31, 2002, RIL reported discovery of India’s largest gas reserve in around 30 years in the KG basin.
? On November 25, ONGC announced that it too had discovered gas in the KG basin. The announcement came as clarification to the BSE’s query on a news story.

The company stated: “ONGC has struck hydrocarbons in a new culmination. This well falls in G1 structure, which extends from the shallow to the deepwater, where hydrocarbon find had already been established. The well is presently under testing and has flowed gas. The testing of the well will add new reserves. ONGC had gas leads from two deepwater exploratory wells located in its deepwater PELs, on Godawari Deep-GD and Krishna Deep-KD structures situated off the mouth of rivers Godawari and Krishna, in water depths of 677 and 850 meters and drilled depth of 2706 and 3460 meters, respectively.” ONGC also acquired 90% Participating Interest in Exploration Block KG-DWN-98/2 from M/s Cairn Energy India Ltd in 2004 - 05 for a lump sum consideration of Rs 3,71.12 crore. Says an ONGC document: “Initial-in-Place-Reserves have been established in this block and a conceptual development plan is also under preparation. This being deepwater block, needs more time for completion of appraisal programme.”

? On April 2, 2009, RIL announced start of commercial gas supplies from the gas of its four KG basin assets/discoveries. A company release said: “RIL has started gas production in six and a half years from discovery, in comparison to the world average of 9-10 years for similar deepwater production facilities.”

? Compare this with ONGC’s hesitancy in enlightening the public on its KG basin gas development prospects. Answering a query from an investment analyst at a conference call on January 28 this year as to when the company would file a field development plan for its KG basin offshore blocks, ONGC Director (Finance) DK Sarraf said: “I think this question we would not like to address

It is not the first time the CAG has pointed out laxity and deficiencies in ONGC’s functioning. In its report (no. 6) of 2005, the CAG audited 195 arbitration cases out of 212 existing / settled cases in ONGC and found ambiguities and other deficiencies in contracts. The CAG stated, “A more efficient and effective contract management mechanism may reduce the incidence of disputes and arbitration in ONGC. It also needs to frame clear policies relating to appointment of Arbitrators and Advocates, payment of fees and time period for finalising the cases in order to ensure timely and economical settlement of cases. Timely pursuance of the conciliation mechanism may also help ONGC in settlement of pending cases.” s.”
APART from improving its operational efficiency, ONGC also needs to take a hard look at treasury operations to improve its “other income” and thus net profit. The company had surplus cash of over Rs 14,000 crore parked in relatively safe investments as of March 31, 2011. The company is happy complying with investment guidelines laid down by the Department of Public Enterprises (DPE). ONGC parks its surplus funds in the UTI liquid cash plan and in term deposits of specified banks. It does not invest funds in inter-corporate deposits, debentures, equity shares and other financial instruments. A cash-awash company has to strike a balance between risk and returns. It cannot and should not play safe by investing funds in relatively secure instruments.
ONGC had shied away from implementing the recommendations of the PricewaterhouseCoopers (PWC) report on efficient deployment of surplus funds in 2002. The ONGC Board appreciated PWC’s “well thought-out study” that called for increasing risk appetite and duration of investments. The Board, however, felt that there was a need to exercise caution and take a considered view. It said, “At no time, the investment decision be such which are outside the extant DPE guidelines, and wherever need be, due clarification / relaxation be obtained from DPE.”

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