This will help ease government’s subsidy burden and reduce wasteful consumption

With under-recoveries of oil marketing companies (OMCs), as a result of their selling diesel, LPG and kerosene below the market prices, also massively inflating the government’s subsidy burden, it is crucial that prices of the regulated fuels be raised by at least 10-15 per cent immediately and gradually linked to international prices, says Crisil Research.

Such an alignment may affect domestic fuel inflation in the short-term, but in the long-term it would help ease the government’s subsidy burden.

Reducing dependence

Apart from helping the companies — IOC, BPCL and HPCL — reduce their dependence on the government for reimbursement of under-recoveries and provide enough flexibility to undertake capital expenditure and make acquisitions, it would help strengthen India’s energy security, according to an opinion paper of the research agency. With the share of oil subsidies in the fiscal deficit, only set to increase, the government would have to borrow additional funds to compensate the OMCs. This would “adversely impact the government’s fiscal position. It will also limit the government’s ability to fund critical social and infrastructure projects,” it says.

Losses arising from under-recoveries are typically shared by the government, upstream oil companies and OMCs as per a proportion determined by the government. In 2011-12, when the under-recoveries shot up significantly, the OMCs did not share the burden because of weak refining profits and rising interest costs.

Profitability affected

“The absence of a fixed annual sharing mechanism for under-recoveries and the uncertain timing of cash payouts by the government adversely affected their profitability and liquidity.” The OMCs’ liquidity position worsened and debt-equity ratio almost tripled from 0.6 times in March 2005 to 1.7 times in March 2012. As a result, interest costs doubled from Rs.5,100 crore in 2010-11 to Rs.10,500 crore in 2011-12. Consequently, profits of OMCs dropped to Rs.6,200 crore in 2011-12 from Rs.10,500 crore in 2010-11.

“Given the crippling under-recoveries, a hike in prices of regulated fuels, especially diesel, which accounts for 60 per cent of under recoveries, is essential and inevitable,” it says.

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