The Hindu : Business : Subsidy burden tells on oil companies' finances

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Monday, Jun 06, 2005

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Business

Subsidy burden tells on oil companies' finances

The control over oil companies by the government is worrying the stock market

With the Government yet to make up its mind on increasing retail prices of petrol and diesel, the losses from the two products are mounting for the marketing companies.

HANDICAPPED: The compulsions of sharing Government's subsidy burden have handicapped public sector oil companies in meeting their increased crude costs.

FINANCIAL YEAR 2004-05, especially the fourth quarter, was nothing to write home about for the oil companies. Despite global crude oil prices ruling at all-time high levels, the three oil marketing companies — Indian Oil Corporation, Bharat Petroleum and Hindustan Petroleum — registered a fall in their net profits. Indian Oil's net profit fell 30 per cent for the whole year while that of Bharat Petroleum and Hindustan Petroleum crashed by 43 and 33 per cent respectively.

Isn't it a paradox that when global steel prices rise, steel companies such as Tata Steel and SAIL post bumper profits (as they indeed did in 2004-05); when petrochemical prices rise globally, petrochemical producers such as Reliance Industries reap the harvest, but when oil prices rise, the oil companies actually lose money?

Sharing Govt.'s burden

The paradox is due to two factors — a rising share of the subsidy burden on kerosene and cooking gas and the inability to increase retail prices of petrol and diesel in tune with the higher crude oil cost.

The government had provided for just Rs 3,500 crore in the budget as subsidy on cooking gas and kerosene for 2004-05. But the total subsidy bill for the year is placed at as high as Rs. 18,000 crore which means that the three marketing companies, along with Oil and Natural Gas Corporation (ONGC) and Gail India, were forced to bear Rs. 14,500 crore of the subsidy bill between them. For example, Indian Oil had to bear Rs. 6,589 crore last year in the form of under-recoveries on kerosene and cooking gas sales, while ONGC shared more than Rs. 4,000 crore in the form of price discounts to Indian Oil, Bharat Petroleum and Hindustan Petroleum on crude oil sold to them.

The second factor that affected profitability was the compulsion to maintain retail prices of petrol and diesel unchanged in the face of rising cost of crude. Retail prices of the two products were last raised in November 2004 when the ruling price for the Indian crude oil basket was $39 per barrel. Today the crude price has increased to over $52 a barrel and yet, retail prices of petrol and diesel have remained at the same level.

The oil companies call this "under-recovery" which essentially means that the prices they get for the two products are less than what they pay to the refineries.

Indian Oil's loss on this count during 2004-05 was Rs 1,188 crore.

Bleak first quarter

The first quarter of the current financial year, 2005-06, is likely to be a washout for almost all the companies in the industry, including the stand-alone refining companies, Chennai Petroleum and Kochi Refineries. They are likely to report a significant drop in profits for the April-June quarter.

With the Government yet to make up its mind on increasing retail prices of petrol and diesel, the losses from the two products are mounting for the marketing companies. The only solace for them is the high refining margins, courtesy the high global oil prices. This has given Indian Oil, Bharat Petroleum and Hindustan Petroleum some cover to shield them from the loss of marketing margins.

The Government is yet to notify the subsidy-sharing mechanism for cooking gas and kerosene for the current financial year. The companies' bid to reduce their respective burdens has already begun with Gail India writing to the Government as to why it should be kept out of the subsidy-sharing mechanism. ONGC has always been complaining that it is being unfairly burdened with the subsidy.

Meanwhile, the Government is said to be considering widening the net to include the stand-alone refining companies along with the only private refiner, Reliance Industries, to share the subsidy burden. Naturally, there is some opposition to this proposal from those likely to be affected.

The continuing control over the oil companies by the government is something that is indeed worrying the stock market. The oil companies are all listed and account for a very large share of market capitalisation and trading activity. They have a significant public and foreign institutional shareholding; a fact that the Government does not appear to have considered in its calculations. These companies are no longer wholly government owned and the latter is answerable to the public shareholders for its actions.

The strain of taking on the Government's burden is beginning to show in the financials of the oil companies.

They are forced to increase their borrowings and consequently, interest costs are beginning to rise. For instance, Indian Oil says its borrowing has increased by a big 80 per cent to Rs. 18,000 crore in the last one year alone.

How can these companies invest in increasing capacity or upgrading technology or, in the case of ONGC, invest in exploration if the Government saps them of their free cash flows? This is the most worrying aspect of the entire issue and could cause long-term damage to not just the oil majors but to the country's energy security itself.

RAGHUVIR SRINIVASAN

in Chennai

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