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Lalit Kumar Gupta, CEO and MD, Essar Oil

13 Apr 2012

Essar Oil is a leading private player engaged in exploration and production of oil and natural gas, refining of crude oil and marketing of petroleum products. The company also operates Vadinar Refinery in Gujarat with a capacity of 18 MMTPA. It is also the largest Coal Bed Methane (CBM) player in the country with acreage of over 2,700 sq km.

The company's CEO and MD Lalit Kumar Gupta in email responses to InfralineEnergy's Sangeeta Tanwar, highlights company's capacity enhancement undertaken at Vadinar Refinery. With exports accounting for about 35 percent to 40 percent of Vadinar Refinery's revenues, the company is targeting higher quality markets including Australia, New Zealand, North West Europe and Mediterranean for exports. Gupta also comments on impact of increasing crude oil prices and discusses Essar Oil's ambitious plans for its CBM acreage.

Edited excerpts.

Essar Oil has recently commissioned its Vadinar Refinery with an expanded capacity of 18 MMTPA. What is the refinery expansion likely to add to the company's overall portfolio?

The refinery expansion completion is a very important landmark event for the organisation.

The capacity expansion and complexity enhancement gives Vadinar Refinery the flexibility to process a much heavier crude diet. Besides light, medium and ultra heavy crude oil, grades with high sulphur content can also be processed. The increase in complexity will enable refinery to process more than 80 percent of heavy/ultra heavy crude, which are available at lower prices and still produce high quality Euro IV/V products, resulting in substantial increase in the refinery margins going forward.

"Essar Energy operates Stanlow Refinery in the UK, which is mainly focused on the domestic market. By virtue of Stanlow being a port based facility, it gives us the option to make inroads into the UK and European markets."

On the products side, we now have the flexibility to produce higher value, high-quality products, including gasoline (petrol) and gasoil (diesel) conforming to Euro IV and V norms, that have growing acceptance in both domestic and international markets. Close to 80 percent of our production will now be of valuable light and middle distillates; and 50 percent of the production of gasoil (diesel) and gasoline (petrol) will meet Euro IV and Euro V specifications.

All motor vehicles in the top 20 Indian cities (by population) are required to comply with BS IV norms and a further 30 cities will be added to this list gradually and hence there exists a robust domestic demand for these products. We are also looking at newer markets like Australia, New Zealand and north-west Europe, in addition to countries in the Indian subcontinent for exporting high quality fuels.

What is the total investment planned for your expansion plans?

We have completed the train I expansion project at our Vadinar Refinery, which has increased our capacity to 18 MMTPA with a complexity of 11.8, which is among the highest in the world. The total investment for the expansion is Rs 8,300 crores.

Concurrently, we are also implementing an optimization project that will further enhance the refinery capacity to 20 million tonnes. The investment in this project is Rs 1,700 crore and we expect to complete it by September 2012.

Till date we have invested about $5 billion in the Vadinar Refinery complex.

Which markets are you looking at for exporting your products?

Exports account for about 35 percent to 40 percent Vadinar Refinery's revenues. Currently, our product exports comprising naphtha and gasoline usually go into the Far East and South Asian countries. Fuel Oil is exported to both Arab Gulf and Singapore markets. In the future, our exports will target the higher quality markets like Australia, New Zealand, North West Europe, and Mediterranean.

Our parent company Essar Energy operates Stanlow Refinery in the UK, which is mainly focused on the domestic market. By virtue of Stanlow being a port based facility, it gives us the option to make inroads into the UK and European markets.

How do you plan to improve your gross refining margin (GRMs) in near future?

The increase in complexity will enable refinery to process more than 80 percent of heavy/ultra heavy crude, which are available at lower prices and still produce high quality Euro IV/V products, resulting in substantial increase in the refinery margins going forward.The refining margins for such complex refineries are expected to be $7-8 over the IEA Singapore margins.

Essar Oil buys five million tonnes of crude from Iran every year - with US and European nations coming down heavily on Iran, what is the company's back-up strategy to secure its oil imports?

With the refinery complexity rising to 11.9, we can now process tougher and heavier crude and hence our dependence on Iranian crude will fall from the present 40 percent to approximately 25 percent. Vadinar 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.

The company owes about US$1.2 billion towards Iran on account of oil imports. In absence of a reliable payment mechanism what is the way forward for resolving the payment issue?

As a policy, we do not comment on transactional details involving our counterparties. All I can say is that we continue to follow the mechanism available for payment of dues from Iran.

Crude is once again touching US$125/barrel. What is your short-term and long-term view of crude prices? What is the kind of impact you see on Essar Oil's profitability vis-a-vis decline and rise in crude prices?

Crude prices are generally determined on the basis of demand and supply of crude in international market which is directly linked with demand of petro products. However, it is also impacted due to other factors like geo - political situation in global market.

Currently, crude price are higher mainly due to US and EU sanctions on Iran rather than actual incremental demand of petro products. We believe that crude price should be around US$100/ bbl for CY 2012 but it may sustain at higher level till resolution of geo-political issues.

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

Crude prices don't have any direct impact on the company's profitability which is being determined based on petro products cracks (difference between crude and product prices). Generally, product prices move in tandem with crude prices and therefore the refinery margins are not much inspected due to increase or decrease in the crude prices. Essar Oil sources its crude oil requirement through long-term contracts as well as open international markets at competitive prices. Management prepares four-month rolling plans on a weekly basis to identify any changes in the profile of price risk and take appropriate action on a timely basis. The use of commodity hedging further reduces fluctuation in refining margin.

With the company owning largest Coal Bed Methane (CBM) acreage in the country - what are your concerns regarding the Government's suggestion to impose restrictions on independent price discovery by the companies and instead operators inviting price-bids only from identified customers in priority sectors?

For the Raniganj block, which is currently the only producing block in our portfolio of five CBM blocks, the government directed us to conduct a price discovery exercise by inviting bids from prospective customers of gas. The exercise was conducted in accordance with the Ministry of Petroleum and Natural Gas (MoPNG) directive and guidelines, and was a transparent process. Prospective customers of gas in the Durgapur area responded to Essar Oil's public advertisement by specifying the amount of gas they required and the duration, while mentioning the price they would be looking to pay. The exercise therefore provided an indicative value of the gas produced from the block.

For starting long-term commercial sales to customers at Raniganj, we have approached the MoPNG, seeking their approval on our proposed price.

How much is CBM gas expected to contribute to the company's topline on year-on-year basis? How much investment are you planning to make in CBM over next five years?

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

The Empowered Committee of Secretaries has rejected Essar Oil's bid for the CB-ONN-2010/11 block despite the company scoring the highest points and having the required minimum net worth of US$19.42 million. How is this decision going to impact the company's exploration plans?

The rejection of our bid for the CB-ONN-2010/11 block has no impact at all on our plans in the upstream space. Essar Oil's focus in the upstream business is on developing its CBM assets, which include five blocks with estimated reserves and resources of 10 tcf and spanning acreage of over 2,700 sq km.

"With healthy growth in demand for petro products in India's domestic market, we feel that the country may be short on petro products by 2015-16. There is therefore a possibility of new investments in the refining sector in the coming years."

Essar's overall exploration and production portfolio includes offshore and onshore oil and gas blocks in India as well as several geographies in Asia and Africa. However, we are at early stage of exploration activities in any of these acreages.

The Company has plans of raising fresh equity capital of Rs 3,000 crore. How are you going to raise this money?

We are yet to decide the form in which this equity can be raised. However, it will involve the dilution of the promoter holding in the company from 89.96 percent currently to 75 percent by June 2013, as has been mandated by SEBI. We have 12-15 months to decide in what form this equity can be infused. We will be taking a call at an opportune moment.

What has kept Essar away from bidding in New Exploration Licensing Policy (NELP) rounds? What are the changes that you recommend in the NELP policy to elicit more interest from both national and international players?

Essar Oil makes investment decisions based on what fits into its long-term business strategy and unlocks value for its stakeholders. As said before, our focus in the upstream space is on CBM exploration. We have actively participated in the CBM bidding rounds and have built up India's largest acreage of CBM blocks.

As a leading exploration company are you keen on being a part of shale gas policy. What are the salient features that you recommend to be a part of the government's much awaited shale gas policy?

We are open to any new business that is a strategic fit. We will evaluate opportunities as and when they present themselves.

Besides India what are the other key countries where you see Essar's oil business growing in refining and upstream?

In refining segement, we already have three refineries. While Essar Oil operates the Vadinar Refinery, our parent company, Essar Energy, operates the 296,000 bpd Stanlow refinery and a 4 million tonne refinery in Kenya as part of an equal shareholding with the Kenyan government. The medium term focus is on consolidating these assets and tapping their synergies.

"The major challenge to competitiveness of the domestic refining industry is the lack of complete de-regulation of oil pricing in the country. Capital goods for refineries should be exempt from duties / taxes, tax holiday benefit should be extended, with MAT already there to ensure payment of Income Tax on Book Profits."

In the upstream space, we continue to be in the lookout for oil and gas blocks that add value to our exploration and production portfolio.

With high demand for petroleum products, how much investment is expected to come into the Indian refining sector in the next five years?

Most of the new refineries coming up in India are already in the final stages of completion. No additional refineries, apart from Indian Oil Corporation's Paradeep and Nagarjuna Refineries are in the pipeline. So it is difficult to make a forecast on new investments. Presently the Indian refining capacity is higher than the domestic requirement and contributes significantly to India's export basket. However, with healthy growth in demand for petro products in India's domestic market, we feel that the country may be short on petro products by 2015-16. There is therefore a possibility of new investments in the refining sector in the coming years.

India accounts for nearly four per cent of the global refining capacity and fast emerging as a major refining hub in Asia-Pacific region. What are the factors required to make India a global refining hub? What are the challenges faced by the refining industry in the country?

The de-regulation of the refining sector in India has led to substantial addition of complex refining capacity over the last couple of decades transforming the country into a large exporter of petroleum products. The current exports are over 1 million barrels/day. The exports include high value transport fuels like gasoline and gas oil. Currently petroleum product exports are perhaps the single largest contributor in the country's portfolio of exports.

The major challenge to competitiveness of the domestic refining industry is the lack of complete de-regulation of oil pricing in the country. Capital goods for refineries should be exempt from duties / taxes, tax holiday benefit should be extended, with MAT already there to ensure payment of Income Tax on Book Profits. Unless benefits are there, the Indian refiners which have to import most of its crude requirement and therefore have freight disadvantages will be finding difficult to compete in the International markets.

Refinery industry is highly capital intensive industry with low margins coupled with very high risk of price fluctuation and therefore needs encouragement from Government (both central and State) to ensure that India becomes a export hub and the refinery capacity over domestic demand will also act as a strategic storage as in case of exigencies the stock of petroleum products can be diverted to domestic markets. This will therefore save substantial capital outlays of government on the proposed strategic storages of crude.

(InfralineEnergy thanks Lalit Kumar Gupta, CEO and 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.)