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CDR exit will help us in repaying part Rupee Term Loan, L K Gupta, CEO & MD, Essar Oil

30 Aug 2012

Essar Oil is on a roller coaster ride at present. While the company successfully completed the optimization project at its Vadinar Refinery in Gujarat recently, taking its capacity to 20 MMTPA, the private major has also found itself entangled in a legal battle with the Gujarat Government over payment of sales tax dues of more than Rs 6,000 crore. In an exclusive interview with Infraline Plus’s Neeraj Dhankher, Essar Oil’s CEO & MD, L.K. Gupta talks of various issues faced by the company and the likely road ahead. The following are the excerpts: 

With the demand for de-controlling the prices of diesel gathering steam, what strategy have you chalked out to expand your presence in the retail segment?  

Due to the present subsidy regime under which only PSU oil marketing companies are eligible for government subsidy for selling fuel below market rates, sales through our retail network has been adversely impacted.  PSU oil marketing companies are able to sell fuel at subsidised rates because the government compensates them for their under-recoveries. With no such compensation available to us, we have to price the products sold through our retail outlets in tandem with the fluctuations in international crude prices. However recent correction in petrol prices by the PSU marketers have bought back some volume, but diesel, which forms the bulk of all fuel sold in India, continues to be heavily subsidized by the government and hence our volumes are very low there.  

There are more than 1,400 Essar-branded oil retail outlets operating in various parts of India and about 200 outlets are at various stages of completion. Our network is ready to take advantage of fuel price deregulation, whenever that happens. 

We welcome any move to deregulate fuel prices since that would provide a level playing field for private players like us who have invested heavily in the creation of retail network and do not get compensation from the government for under recovery. It would also provide additional choice to customers and bring competition in the sector. 

Keeping in mind that the capacity of the Vadinar Refinery has been ramped up to 20 MMTPA, do you think there is enough demand and market within the country to absorb petroleum products. 

Exports account for about 35%-40% Vadinar Refinery’s revenues. Currently, our product exports comprising Naphtha and Gasoline usually go into the Far East and South Asian countries.  VGO is exported to Far East, USA, etc. Fuel Oil is exported to both Arab Gulf and Singapore markets. In the future, we plan to target the higher quality markets like Australia, New Zealand, North West Europe, Mediterranean, etc. 

In the near term, Indian refining capacity will be in surplus because of the commissioning of several refineries, e.g. Bina by BORL (6 MMTPA), Bhatinda Refinery by HMEL (9MMTPA), and expansion of MRPL (3 MMTPA). Apart from these, IOC’s 15-MMTPA Paradip and Nagarjuna Oil’s 6-MMTPA refinery are in the pipeline currently.  

However, we are witnessing a substantial upswing in Indian demand for petro products, especially diesel, which is increasing at almost 8% per annum and therefore supply is expected to become deficit by 2016. Also, vehicle fuel in the Indian market is currently growing at 11% for petrol. Growth in petroleum product demand in India needs almost 8-9 MTPA of new refining capacity every year.  

In addition, many refineries are either being closed or converted into storage terminals in NW Europe and USA, which will also help in maintaining the demand for exports inspite of new capacity in the Middle East and other Asian Countries. 

From where all will you be sourcing crude oil for the refinery? What kind of crude mix has been envisaged for the refinery?  

With the refinery complexity rising to 11.8, the Vadinar Refinery can now process tougher and heavier crude and hence our dependence on Iranian crude will fall from the present 40% to approximately 25%. Vadinar refinery will be capable of processing over 80 percent heavy and ultra heavy crude for which we have already entered into long-term crude sourcing contract with global suppliers, including several national oil companies from Latin America. We don’t foresee any difficulty in sourcing our crude requirement. 

Talking of CBM, what are the estimated reserves of CBM gas in blocks operated by Essar? Please elaborate on your production/ commercialization plans in this regard.  

We are one of the leading CBM players in the country with 2,733 sq km of acreage and more than 10 tcf of reserves and resources in place across five blocks (see table below). 

At our CBM block in Raniganj, the proven and probable reserves have significantly increased to 113 bcf while best estimate contingent resources are at 445bcf gross and best estimate prospective resources are at 297 bcf.  Raniganj is producing 25,000 scmd of gas from 15 to 20 wells, which is being supplied to end customers through pipeline and cascades.  

Environmental Clearance for Phase – I (15 test wells) &  phase-II (58 wells) has been received and the final environmental approval  from MoEF for Phase III (500 wells) is expected by Sept ember 2012.  

CBM Blocks Place Certified Acreage  (km2) 2P/2C resources (bcf) Prospective Resources (bcf) In Place Unrisked Resource (bcf)
Raniganj West Bengal NSAI, Jan12 500 558 297  
Rajmahal Jharkhand CPR, ARI 1128   4723  
Sohagpur Madhya Pradesh & Chhattisgarh DGH 339     600
Talcher Orissa DGH 557     2600
IB Valley Orissa DGH 209     1200
Total     2733 558 5020 4400

Ramping up of production at a CBM block is a time consuming process. We are ramping up production at Raniganj (East) and commercial production will commence soon. We believe there is no dearth of customers to sell the gas produced from our Raniganj block. As you may be aware, the industrial belt in and around Raniganj is heavily industrialized and mainly uses traditional mode of fuel like furnace oil. However, over the period of time these industries have realised that use of gas can not only save in cost but also improve the productivity.

Essar Oil is planning to invest over US$ 500 million in the sector over the next 5 years. When fully operational, Raniganj block will contribute about US$ 160 million to the topline. 

There has been a lot of talk from the government in recent days on increasing private investments in the oil and gas sector by way of fast tracking clearances required for various projects. Even in your case, most of the CBM blocks have not received timely clearance from the environment ministry. What are your views in this regard? 

The timely clearance from environment ministry has been an issue for the Industry. We hope that clearances will be fast tracked since these delays adversely impact all stake holders. 

In case of CBM blocks, ideally right after the MoU is signed with the state government the player should be allowed to start the testing process to find out if the field is commercially viable, so that if the field has commercial potential the company can proceed for the environment clearance. However, in many cases even the initial testing, which does not have any sort of environmental hazard, takes even more than two years making the developmental process even longer. 

The sale of CBM gas from your Raniganj (East) block seems to have become a concern, especially after the government indicated that the bids submitted by one of the companies did not confirm to arm’s length principle of transaction. What are your comments?

Essar has followed due process as per the CBM contract to arrive at the discovered price of $4.2 /MMBTU for a high volume, long term off-take and is awaiting government’s approval on the same. The contract with Matix Fertilisers is strictly on an arm’s length basis and also satisfies the gas utilisation policy giving priority to the fertilizer sector.  

There seems to be a lot of confusion in the government over pricing of CBM gas considering that there is a wide gap between prices offered by customers to RIL and Essar. What are your comments? 

We have undertaken a transparent price discovery process and have approached the government for their approval. We are awaiting their decision. It must be noted that owing to several factors like local demand-supply of gas, regional infrastructure constraints, alternative fuel availability and off-take capacities etc, the price of CBM gas is likely to be different in different geographies. 

The company has been asked by the Gujarat High Court to pay up Rs 6,300 crore as sales tax. Do you plan to take any further legal recourse on the matter?  

As the Gujarat High Court has not favourably considered our petition on the terms of repayment of sales tax dues, we are looking at various options including appealing to the Supreme Court. Separately, we are also in talks with banks for loan to meet the sales tax payment, if the need arises. We are confident of meeting all our obligations.

The company’s total debt is known to have shot up in recent times. How do you plan to raise capital to fund requirements?

Our net debt, at about Rs 13,500 crore, as on 31st Mar 2012, compares favourably with the book value of our asset (about Rs 26,000 crore) we have created. We have completed our capex programme and created a world class refinery of 20 MMTPA capacity with 11.8 complexity factor at about half the global cost. Now we are ready to reap benefit from the asset we have created.

Higher complexity will improve our GRMs, which will be used to deleverage our balance sheet.

Essar Oil is in the process to exit the Corporate Debt Restructuring (CDR) mechanism. It will provide additional flexibility in terms of raising foreign currency loan to retire part of Rupee Term Loan since EOL has a dollarize balance sheet. With the recent steep depreciation of Indian Rupee, the equivalent US dollar amount has come down by almost 25% and therefore the refinancing of rupee loan with US dollar loan will reduce the debt in terms of US dollar, which will be beneficial for the company as Essar Oil’s revenue streams are all US dollar linked. With completion of its expansion & optimization projects, Essar Oil is well positioned to generate extra cash flow every year, which will redeployed accordingly in the interest of all the stakeholders.

(InfralineEnergy thanks L K Gupta, CEO & MD, Essar Oil for sharing his valuable insights with our readers. The column 'In-Conversation', is a platform to engage experts from various sectors to share their views on the different transformations happening in the Indian energy sector.)