Cairn gets going PDF Print E-mail
Tuesday, 19 February 2013 04:57
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Oil-starved India finally gives exploration approval

You’d think a country as oil-starved as India, where more than 80% of needs are met through imports, would be keen to encourage firms to spend more time and money on exploration, but not quite. The current production-sharing contract that governs how the oil/gas blocks are to be run, for instance, allows a firm to explore for oil in only the first 7 years, the next 13 are to be used only for developing the wells. It is obviously important for the government to be able to get oil/gas, but which company would go on exploring for more oil instead of producing it if the prospects didn’t look good? It was for this reason that, nearly 7 years ago, Cairn wrote to the oil ministry asking for permission to do more exploration—its 7-year window had expired for the Rajasthan block—but the ministry refused, never mind Cairn’s argument that continuous exploration is something allowed in most countries since, it is only as operators get more data from the fields that they can take decisions on whether to explore more or not. Ostensibly, the reason for why the government did not allow continuous exploration was that, in the case of Cairn’s $1 billion exploration programme, the government stood to lose $500 million—at the peak, Cairn’s profit-sharing was 50%—if the company didn’t find anything. But surely that was a risk worth taking given the data Cairn was showing it on how much oil there was to be explored? And surely a country that is oil-starved needs to take some risks—similar risks taken by PSUs haven’t always paid off either, but they’ve been taken, including for overseas ventures.

An in-principle solution, though a flawed one, was found some months ago when the oil ministry allowed operators to do continuous exploration, but only on the condition that firms could not expense this unless they actually found some oil—so, in case Cairn finds oil, the government will allow it to recover the $1 billion it will have spent on exploration from the oil that it produces; in case no new oil is found, Cairn will not be allowed any expensing from the old discoveries. It is based on this in-principle decision that, last week, the managing committee of Cairn’s Rajasthan block—this has representatives of the government as well as the Directorate General of Hydrocarbons—approved the company’s fresh exploration plans. If all goes to plan, Cairn will end up giving the government—Centre, Rajasthan as well as ONGC—a total of $15 billion on an NPV basis once the oil is found.

While Cairn is going ahead since it is confident of finding oil, linking expensing to finding oil looks like a short-sighted decision, more so since expensing is allowed in the first 7 years regardless of whether oil is found. The obvious solution, if the government doesn’t want to take any risk at all, is to move to pure revenue-share-based exploration instead of the current investment-multiple-based expensing model. Both have their advantages—pure revenue shares don’t allow expensing and so keep the government out of the operator’s day-to-day operations—and a final decision on which India will use is yet to be taken. But a combination of the two—as is now being used in the case of firms like RIL and Cairn—serves no purpose as it doesn’t encourage exploration except where it’s a dead certainty.


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