CAG on Reliance – Part 1

This blog post is in some ways a continuation of the earlier blog on this topic. The earlier blog was intended only as an explanation as to why the Report on Reliance did not evoke as much response as the one on Air India. Now the dust has settled on both. The Nation (or rather the MSM & People on twitter) has moved on. May be this is time to go back to the report and see it in less emotive and more objective way.

Despite the long introduction by way of a full blog post, I would like to reiterate the basic feature of the Private Sector initiative in the oil exploration industry. The Private entity which bids and wins runs the crucial risk of not striking oil (or gas). Once oil is struck, the whole scenario changes. If the strike is significant enough, the returns start to flow. The returns are factored in, in the following manner. The bidder gives a schedule of profit sharing. The initial flows are adjusted towards cost (Cost petroleum). Later flows (Profit Petroleum), is shared between Government and Operator on a sliding scale, initially the operator gets more but later the Government gets more.  Various parties bid for the allotment of predefined fields. The winner is chosen based on an elaborate set of parameters. Once the winner is identified, a Management Committee (MC) is formed. The Director General of Hydrocarbon (DGH) is the nodal authority and this authority is supervised by Ministry of Petroleum & Natural Gas (MoPNG).

To come to hard facts, Chapter – 4 of the CAG report covers the Krishna Godavari basin (KG-D6 Block). In 2000, the area of 7,465 sq  km was awarded to a consortium of Reliance Industries Ltd (RIL) and Niko Resources Ltd (NIKO) with 90:10 participating interests. A total of 19 discoveries were made here between 2002 & 2008 (18 of them were Gas and 1 was oil).

After major gas discoveries at wells D-1 & D-3, a Declaration of Commercial Discovery (DoC) was notified and the D1-D3 development area, covering 339.41 Sq km (4.5% of total block) was delineated. An Initial Development Plan (IDP) for production of 40 mmscmd of gas with reserves of 5.3 tcf was submitted in May 2004.  The initial Total Capital Expenditure was USD 2.39 billion with 34 wells costing USD 944 million and production facilities USD 1.35 Billion. Operating expenditure of USD 62 million P.A was proposed. This IDP was approved by the MC on November 5th, 2004.

But in October 2006, RIL submitted an Addendum to the IDP (AIDP) for production of 80 mmscmd of gas with reserves of 11.3 tcf. This envisaged a Capex of USD 5.2 billion up to 2008-09 with 22 wells costing USD 1.16 billion and production facilities USD 3.74 billion. In November after meetings / correspondences with DGH, the same was revised to USD 5.2 billion (as Phase – I) and USD 3.6 billion (Phase – II) totaling to USD 8.8 billion with 50 wells. The AIDP was approved by MC on Dec 12th, 2006.

In addition, a DoC was notified for D-26 (MA Oil field) with a development area of 49.71 sq. km. An IDP was drawn up for USD 2.23 billion, submitted in August, 2007 and approved in April, 2008. Oil production started in September, 2008 and Gas in April, 2009. This is just the background data (given in Page 33) for the complex analysis that comes in the next 65 pages of the report.

The first point raised by the CAG is “Non Relinquishment of area and declaration of entire contract area as discovery area”.  To quote the CAG:

Acceptance by DGH and MoPNG of entire contract area of KG-DWN-98/3 as discovery area not in terms of PSC

We found that contrary to the PSC provisions, the contractor was allowed to enter the second and third exploration phases without relinquishing 25 per cent each of the total contract area at the end of Phase – I and Phase – II. Subsequently, in February 2009, GoI also conveyed approval to treat the entire contract area of 7,645 sq. km. as ‘Discovery area’, thus enabling the operator to completely avoid relinquishment of area.

The CAG lists over the next 20 pages, communication back and forth on this. The first communication is on Apr 21st, 2004 when DGH informs RIL its obligation to give a 30 day notice prior to expiry of Phase – I and proceed to Phase – II or relinquish entire area and limit it to area where discovery has been made. This is when RIL started its obfuscation and relying on 2D Seismic Surveys (Complete) and 3D surveys partial wanted to proceed to Phase – II without relinquishment. (April 29th, 2004). On May 7th, 2004, DGH replied disagreeing with the reasons put forth by RIL and identied two priority areas asking RIL to give up rest. RIL on May 22nd, 2004 replied that it was not keen on giving up areas. CAG here points out the crux of the problem – “The Spirit of NELP is to maximize exploration efforts and minimize hoarding of exploration area”.

In Layman’s terms what was happening was RIL went against the agreement and wanted to hoard all 7,645 sq. km. On the other hand the whole policy was drafted on the principle that the first bidder gets a large area, explores in parts, identifies major strikes and gives up rest. The rest is then taken up for further bids.

On June 11th, 2004, DGH wrote to RIL saying that no well had been dug in Priority Area – II. On July 19th, 2004 DGH again wrote to RIL saying that after even after discussions between RIL and DGH on June 25th, the DGH was of the opinion that total block cannot be considered as one area. But the CAG notes at this point RIL violated the PSC and gone ahead with Phase – II without relinquishing 25% of the area.

On July 24th 2004, RIL wrote a very verbose letter giving many reasons for treating the whole area as a single block. But the CAG summed up the argument thus:

“The contractor’s opinion that petroleum was “likely” to exist in the entire contract area and ‘could be produced after an exhaustive exploratory / appraisal programme’ is not in consonance with the PSC definition of ‘Discovery Area’ which is centered on ‘existence’ of petroleum based on wells drilled in that part.”

The correspondence meandered over the next few months, while RIL went ahead with Phase – II. CAG points out that the DGH did not prevent RIL from proceeding. On the other hand the conditions were repeatedly watered down till the DGH in their letters  dated April 22nd, 2005 and May 2nd, 2005, merely stated that 3D data should be acquired on remaining part and relinquishment should be worked out in proper manner subsequently. Thus from the stringent conditions of wells to be dug, the conditions were watered down not even to 3D data but to 3D data to be acquired subsequently.

But on May 24th, 2005, RIL gave notice to proceed to Phase – III without relinquishing the second 25%. DGH replied saying that RIL was proposing to cover only 70% of the total area by 3D survey and that RIL request to retain entire area would be considered only after the remaining 30% is covered. Here CAG points out that DGH was no longer insisting for relinquishing any part of the block. After correspondences over the next 1 year on August 1st, 2006, DGH wrote to MoPNG saying that RIL had “Almost” covered entire area and that DGH agreed with RIL view that it should be treated as one whole block. On Nov 1st 2006, MoPNG wrote to DGH asking them to clarify how they could let RIL proceed to Phase – II without relinquishing the first 25%. But by this time RIL had proceeded to Phase – III without relinquishing second 25%. On Nov 23rd 2006, DGH wrote to MoPNG justifying RIL’s act. MoPNG reply had further queries and it also stated that in future all such relinquishment not in consonance with PSC must be sent to MoPNG for its decision. CAG point out that this indicates that MoPNG viewed the current case as a breach.

After lot of correspondences, with MoPNG also diluting its stand step by step, on June 9th, 2008 a recommendation for approval was sent to the Minister accepting RIL stand that entire block was one and no relinquishment was needed. The Minister granted his approval on July 31st, 2008.

The net effect of this has been that RIL is sitting on a huge area without the ability to exploit it fully. An old Tamil saying sums up the situation succinctly – “a Dog with a Coconut”. The dog would neither be able to break the coconut and eat it nor would it allow others to touch it.

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2 thoughts on “CAG on Reliance – Part 1

    • Really tough question to answer. Hence the last para. I think RIL is reluctant to give up any area thinking they are giving up a legacy. 1. That is against the agreement. 2. They are unable to develop the area for many reasons. I will address the same in future parts in more detail.

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