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Natural gas pricing in India

Current policy and potential impact

Natural gas pricing in India Current policy and potential impact
Current scenario in Indias
natural gas market
Intricacies of natural gas
pricing in India
Potential impact of new
pricing on energy industry
Natural gas pricing in India Current policy and potential impact
Current scenario in Indias natural gas market
Chapter 1
Indias natural gas consumption far behind the global average
Indias expanding economy and growing population have led to increased consumption
of primary energy resources such as coal, oil and natural gas in the country. In line
with this, its primary energy consumption grew at a compounded annual growth rate
(CAGR) of 6% to 563.5 million tonnes of oil equivalent (MTOE) in 2012 from 420.1
MTOE in 2007. The share of natural gas in its primary energy mix increased marginally
from 8% in 2008 to 8.7% in 2012.

This is fairly low, compared to the global average
of 24%, primarily due to supply-side constraints. Furthermore, in terms of individual
consumption, Indias annual gas consumption of 44 cubic meters (cm) per capita is far
behind the global average of 470 cm per person.
Figure 1: Low consumption of natural gas in India, 2012
0.0% 10.0% 20.0% 30.0% 40.0% 50.0% 60.0%





Gas share in energy mix, %
Source: BP Statistical Review of World Energy 2013, The World Bank and EY analysis
South Korea
Sinihcant as dehcit ~ demand fcr suppIy traiIs; increasin
reliance on imported LNG
lndia's naLural qas markeL is seeinq a supply delciL, primarily due Lo low domesLic
production and an inadequate transmission and distribution infrastructure. Domestic
qas producLion received a siqnilcanL impeLus wiLh commencemenL ol producLion aL
Lhe KCD6 leld, locaLed in Lhe counLry's Lhe easL coasL, in 2009. However, Lhe leld's
output has been steadily declining after reaching 60 million standard cubic metres per
day (mmscmd) in 2010, and has hit a trough of 12 mmscmd in 3QFY14
. According
to Reliance Industries Limited (RIL), the fall in KG-D6s production is mainly due to
qeoloqical complexiLy and a naLural decline in Lhe lelds. 1he decline in mosL ol Lhe
counLry's aqeinq lelds has lurLher compounded Lhe supply delciL.
On Lhe oLher hand, Lhe demand lor naLural qas in lndia has increased siqnilcanLly due
to the demand from the power and fertilizer sectors, and cumulatively accounted for
more than 61% of gas consumption in FY13. The demand is also driven by its growing
usaqe in Lhe ciLy qas disLribuLion (CCD) secLor and indusLrial secLors, such as relninq
Natural gas pricing in India Current policy and potential impact
and petrochemicals. Rising concerns on carbon emission have also contributed to the
demand for natural gas in the country.

1his has led Lo lndia's increased dependence on imporLed liqueled naLural qas (LNC).
1he counLry's LNC imporLs have increased lrom approximaLely 8 million meLric Lons
(mmL) in FY09 Lo 11 mmL in FY13, accounLed lor 287 ol Lhe LoLal supply.
to the BP Statistical Review of World Energy 2013, India is the worlds fourth-largest
imporLer ol LNC in Lhe world.
LikeIihccd cf !ndian as market remainin in suppIy dehcit
despite rising production and import of gas
Over the next few years, the shortfall in natural gas production in the country is
expected to continue with its supply trailing demand. Shortage of gas is likely to reach
its peak in FY15, with around 37% of the demand being unmet.
However, lrom FY16
onwards, Lhe delciL may decrease, primarily due Lo Lhe planned producLion ol privaLe/
|oinL venLure companies and increased LNC imporL capaciLy. Power and lerLilizers are
expected to remain the anchor segments that consume natural gas and are likely to
account for around 68% of the total demand for it in FY17. Furthermore, deregulated
pricing of petroleum products and an increasing focus on addressing environmental
concerns are expected to drive the demand for natural gas from industrial users,
residenLial users Lhrouqh piped naLural qas (PNC), and in Lhe LransporLaLion seqmenL
Lhrouqh Lhe demand lor compressed naLural qas (CNC). However, Lhis demand is hiqhly
price-sensitive and will depend on the price affordability of end users, especially in the
power and fertilizer sectors.
Figure 2: Future natural gas demand-supply scenario (mmscmd)
Source: Ministry of Petroleum and Natural Gas
87 87 129 150 149 170 177 209 371 405 446 473
FY14 FY15 FY16 FY17
LNG imports
Natural gas
1he LoLal supply ol naLural qas is expecLed Lo reach Lo 359 mmscmdin FY17, a CACR
of 15% from FY14 in India. Most of this incremental supply is expected to be met
by LNC imporLs, since Lhe qrowLh in domesLic supply will lail Lo keep pace wiLh Lhe
anLicipaLed rise in demand. 1he counLry's poLenLial Lo imporL LNC is expecLed Lo
increase to 150 mmscmd in FY17, contributing around 42% of the total supply.
Domestic production is expected to increase at a CAGR of around 12%.
This is likely
to come from new discoveries which are currently under development, expectation
of partial recovery in the output from KG-D6 and increased production from
unconventional sources, particularly coal bed methane.
Natural gas pricing in India Current policy and potential impact
Intricacies of natural gas pricing in India
Chapter 2
PrevaiIin naturaI as pricin reime in the ccuntry
complex and heterogeneous
There are multiple natural gas pricing regimes in India. These can be divided into the
Administered Pricing Mechanism (APM)
APM gas pricing: NaLural qas produced lrom Lhe exisLinq lelds ol Lhe nominaLed
blocks ol lndian sLaLeowned companies, OlL lndia LLd. (OlL) and ONCC, caLers Lo
fertilizer and power plants, court-mandated customers and those requiring less than
50 thousand standard cubic metres per day (mscmpd) at APM rates. The price of APM
gas has been set by the Government on a cost-plus basis and is US$4.2 per mmbtu in
lndia (USS2.52 per mmbLu in Lhe NorLheasL). 1he price in Lhe NorLheasL is 607 ol Lhe
APM price elsewhere in the country (the balance 40% is paid by the Government to
naLional oil companies or NOCs as subsidies).
Indias move toward a market-based pricing regime: In June 2013, the Cabinet
Committee on Economic Affairs (CCEA) approved a market-based pricing formula
for produced natural gas produced in India. The revised prices are based on
recommendations made by the Rangarajan Committee. The pricing formula, valid for
Lhe nexL lve years, peqs Lhe base price ol naLural qas aL around USS8.^ per mmbLu,
up from US$4.2 per mmbtu currently. The upward revision in prices is based on the
weiqhLed averaqe ol Lhe neLback price aL Lhe wellhead ol counLries exporLinq LNC Lo
lndia and qas prices in Lhe Lradinq hubs ol NorLh America, Lurope and Japan. 1hese
are calculated on a trailing 12-month basis. Prices will be revised every quarter.
Non-APM gas pricing: NonAPM qas is divided inLo Lwo caLeqories (i) imporLed LNC,
for which prices are determined by the market, and (ii) domestically produced gas from
Lhe New LxploraLion Licensinq Policy (NLLP) and preNLLP lelds.
Pre-NELP PSC pricing: This is applicable for gas produced from in Panna-Mukta,
1apLi and Ravva lelds. Cas prices are deLermined on Lhe basis ol Lhe lormula
speciled in Lhe producLionsharinq conLracL (PSC). All Lhe qas produced is sold Lo
CAlL. CurrenLly, Lhe preNLLP pricinq is beLween USS3.5 and USS5.7 per mmbLu.
NELP gas pricing: 1his applies Lo qas lelds awarded under NLLP rounds. 1he
price of gas is determined on the basis of arms length prices (market prices),
subject to the Governments approval, and is controlled by PSC terms. This pricing
regime was valid until March 2014. After this, a new pricing mechanism has come
into force, based on the Ranagrajan Committees recommendations. Currently,
NLLP qas is priced aL beLween USS^.2 and USS^.7 per mmbLu.
Price of imported gas (LNG): 1he price ol lonqLerm LNC imporLed lrom OaLar has
been linked to Japanese Custom Cleared (JCC) prices and varies on a monthly basis for
PeLroneL LNC. However, lndia's dependence on expensive spoL LNC Lo meeL Lhe bulk ol
its demand sees limited growth from this source. According to industry estimates, the
imporLed qas lrom lonqLerm LNC conLracLs cosLs around USS13 per mmbLu, while Lhe
spot price was at around US$18 per mmbtu in January 2014
Natural gas pricing in India Current policy and potential impact
Potential impact of new pricing on
energy industry
Chapter 3
Overall, the new gas pricing policy augurs well for Indias natural gas market. It is
expected to increase domestic production by encouraging upstream investment.
This will improve Indias energy security and increase availability of gas for its key
gas-consuming industries.
So far, the gas market has been adversely affected by the Governments current
gas-pricing policy and investment in the upstream sector declined to US$1.8 billion
in FY12 lrom USS6.3 billion in FY09. 1he new policy, which has been puL on hold due
to the on-going General Elections in the country, is expected to increase certainty and
transparency in pricing of natural gas in India.
Upstream sector
The increase in natural gas prices is expected to encourage investment in the upstream
segment and boost production. It will also improve the commercial viability of
marqinal, deepwaLer and lronLier lelds, which require cuLLinqedqe Lechnoloqy and
increased capiLal spendinq. Accordinq Lo lHS CLRA's esLimaLes, lndia's recoverable qas
reserves could increase by 55 Lrillion cubic leeL (Lcl) Lo 91 Lcl aL qas prices ol USS10
US$12 per mmbtu due to the factors mentioned above.
lncreased domesLic producLion due Lo Lhe enhanced commercial viabiliLy ol qas lelds
is expecLed Lo decrease Lhe prevalenL qas supply delciL in lndia. lL could reduce Lhe
counLry's LNC imporL bill.
According to Morgan Stanley, gas prices of more than
USS8 per mmbLu could resulL in incremenLal producLion ol nearly 95 mmscmd over 20
years. 1his would help Lo reduce lndia's LNC imporL cosLs by around USS16 billion.

The proposed hike in gas prices will help to boost the revenues of indigenous gas
producers. CurrenLly, ONCC, OlL and RlL accounL lor 857 ol Lhe LoLal ouLpuL ol
domestic gas. According to Moodys estimates, the proposed increase in gas prices
will auqmenL ONCC's revenue by USS1.5USS2 billion and RlL's revenue by USS300
US$500 million in FY15.
Furthermore, the rise in gas prices will augment the
CovernmenL's revenue in Lhe lorm ol increased Laxes, royalLy, prolLs and dividends.
Increased production of gas will help to alleviate the existing supply crunch, and
reduce the countrys reliance on high-priced LNG. However, price-sensitive sectors
such as power and Iertilizers may hnd it diIhcult to absorb this hike. ThereIore,
there is a need for the Governments policy to effectively address the concerns of
the consuming sector.
Natural gas pricing in India Current policy and potential impact
Power sector
The power sector is the largest consumer of natural gas in India. Gas-powered power
plants are plagued by high generation costs and a low average plant load factor (PLF).
Currently, around 6,000 MW of commissioned and 1,000 MW of un-commissioned
(aL an advanced sLaqe ol consLrucLion/commissioninq) qasbased power planLs are
non-functional due to unavailability of gas. While the new pricing regime is expected
to increase domestic gas supply, which can be used to bring these power plants on
stream, the demand for natural gas for gas-based power generation remains highly
price-sensitive. Power plants are currently being supplied APM gas at US$4.2 per
mmbLu aL a variable cosL ol lNR2.1 per uniL. AL a PLF ol 507, Lhis LranslaLes inLo a
qeneraLion cosL ol lNR^.8 per uniL lor new commissioned planLs owned by privaLe
players. The increase in gas prices to US$8.4 per mmbtu is expected to result in a rise
in iLs variable cosL ol lNR2 per uniL and increase Lhe LoLal cosL Lo lNR6.7 per uniL. 1his
will only make iL allordable lor peak load purposes. FurLhermore, iL will be dillculL lor
the companies to switch from natural gas to coal due to high conversion costs, a longer
gestation period, their reliance on imported coal and environmental constraints
Fertilizer sector
In the case of the fertilizer sector, another major consumer of gas, increased gas prices
would result in a rise in feedstock costs and working capital requirements.
Natural gas pricing in India Current policy and potential impact
NeverLheless, any rise in domesLic qas producLion will be a posiLive developmenL in
the fertilizer industry, since it enjoys a top priority position for allocation of gas.
addiLion, Lhis would reduce Lhe indusLry's dependence on hiqhpriced LNC

According to a report submitted by the Governments Parliamentary Standing
CommiLLee on Finance, producLion cosLs would increase by lNR1,38^ per Lonne wiLh
every rise of US$1 per mmbtu in gas prices. Consequently, this would lead to an
increase in the Governments subsidy burden. An increase in gas prices to around 8.4
per mmbLu will increase Lhe CovernmenL's subsidy burden by lNR120 billion (USS2
billion). This subsidy burden can be offset by additional revenues received by the
CovernmenL lrom increased royalLy, prolLsharinq and Lax collecLions lrom upsLream
operations expected in development of new gas resources.
City as distributicn sectcr
The CGD sector is another key consumer and has witnessed rapid growth in recent
years. The sector will continue to create a demand due to the addition of gas networks
in new ciLies, Lhe price advanLaqe ol CNC over auLo luels and increased use ol PNC in
Lhe domesLic, indusLrial and commercial secLors. However, Lhe new qas pricinq policy
will increase sourcing costs for CGD companies with a high APM gas allocation. CGD
companies are expected to witness a decline in their earnings due to an increase in
their input costs. These companies are unlikely to pass on the increase in gas prices to
industrial and domestic consumers due to their limited headroom with alternative fuels
(domesLic LPC and lurnace oil). 1he new qas pricinq will noL have a siqnilcanL impacL
on operaLions in reqions wiLh a predominanL mix ol LNC in Lheir sourcinq ol qas, e.q., in
lndia's wesLern reqion. 1his is because CNC prices are already hiqh in such qeoqraphies.
However, Lhe LhreaL ol depreciaLion ol currency will conLinue Lo be a cause ol concern,
since the cost of sourcing is dollar-dominated
. Overall, increased availability of
domesLic qas lrom new pro|ecLs is likely Lo increase invesLors' conldence in Lhe secLor.
Petrochemicals and other consuming sectors
The petrochemicals sector uses natural gas to extract ethane and produce
polyethylene, propane and butane for production of LPG. Input costs account for
around 80% of manufacturing costs. Increased gas prices would mean reduced
prolLabiliLy lor peLrochemical companies. 1his would also hold Lrue lor oLher indusLries
such as ceramics and glass, since their input costs are also likely to go up with the price
revision. On the other hand, companies that have replaced expensive fuels such as
naphLha and diesel wiLh naLural qas will sLand Lo benelL lrom Lhis revision, since iL will
remain compeLiLive aL revised prices. Relninq would remain unallecLed lrom Lhe hike in
gas prices, since the sector meets most of its demand from imported gas or naphtha.
Natural gas pricing in India Current policy and potential impact
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Natural gas pricing in India Current policy and potential impact
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