Is the oil sector ready for competition?

Last year, Petroleum Minister Dharmendra Pradhan had set up an expert committee under Kirit Parikh to “look at various issues related to implementation of existing guidelines for grant of marketing authorization of market fuels —petrol, diesel and aviation turbine fuel (ATF), identify entry barriers, if any, for expansion of retail outlets for private marketing companies and recommend easing of fuel retailing licensing rules.”

On October 23, the government announced major changes in the licensing rules. These include dispensing with the requirement of minimum investment of Rs 2,000 crore in oil or gas infrastructure -- in hydrocarbon exploration and production, refining, import terminals, transportation, etc. Henceforth, “the applicant needs to have minimum net-worth of Rs 250 crore and commit to invest in the marketing of at least one new generation alternate fuel such as CNG, LNG, biofuels and open 5% of total outlets in rural areas.”

On the face of it, it appears that the changes would generate huge interest among private firms. But this is easier said than done as the conditions, at a fundamental level, are far from conducive.

At present, marketing of petroleum products is the monopoly of public sector undertakings (PSUs) in the downstream oil sector, such as Indian Oil Corporation Limited (IOCL), Bharat Petroleum Corporation Limited (BPCL) and Hindustan Petroleum Corporation Limited (HPCL).

Out of 63,498 petrol pumps in the country, these three PSUs own 57,145 pumps, which is 90% of the total. The share of private firms is a meagre 10%.

This is despite the fact that the investment threshold of Rs 2,000 crore was never an entry barrier for global energy majors. A couple of years back, British Petroleum (BP) had secured a licence to set up 3,500 pumps but hasn’t yet opened one. Royal Dutch Shell – another energy conglomerate of UK and Netherlands-based MNCs — operates just 114 pumps. Even Reliance Industries Limited (RIL), which operates the world’s largest oil refining complex, has fewer than 1,400 outlets. So, what has prevented them from making a significant foray?

First, for private firms to be able to run an oil or gas pump, they need to have uninterrupted access to supply in desired quantities. For this, they should be free to import or source from domestic refineries and have hassle-free access to the infrastructure for storage, handling and distribution. But they are hamstrung as imports of LPG, LNG, diesel, kerosene, etc., are canalized through PSUs who also largely own the infrastructure. Put simply, the ability of the former to run their businesses is largely controlled by the latter.

Second, private firms are also handicapped due to the extant policy of routing subsidy through oil PSUs only. Until 2010, all major products, namely petrol, diesel, LPG and kerosene were covered by subsidy schemes. Under them, PSUs were asked to sell the products at prices below their cost of supply and were reimbursed the difference between the two. However, between June 2010 and November 2014, petrol and diesel were deregulated and subsidies on them withdrawn. From January 2015, the government switched over to direct benefit transfer (DBT) of LPG subsidy.

The routing of subsidies only through PSUs puts companies in the private sector to a serious disadvantage. This is because, without subsidy, it is impossible for the latter to match the price offered by the PSUs. Although withdrawal of subsidies on petrol and diesel has removed discrimination with respect to their sales, continued subsidization of LPG and kerosene remains a major deterrent.

Even in respect of petrol and diesel, the government often gives oral instructions to PSUs not to increase the price even when it is warranted as per underlying circumstances – when international prices go up. This happens especially during election times. This forces private companies to act likewise, else they run the risk of losing business.

Third, the extant policy of pricing petroleum products (POL), though touted as market-determined, is in reality a blend of formula-based and actual cost. The PSUs fix retail prices by adding freight, marketing costs, marketing margin, dealers’ commission and taxes and duties to refinery-gate prices (RGP). RGP is taken as import parity price (IPP) and export parity price (EPP) in the ratio of 80:20. Since, import of petrol and diesel attract higher customs duty at 2.5% against ‘nil’ on import of crude, PSUs get a fortuitous gain in pricing to the extent the product is sourced from their own refineries. The gain is boosted by ocean freight, insurance and port charges which are included in the IPP but not incurred.

Furthermore, since customs duty is an ‘ad valorem’ rate, or a percentage of the basic value, in a scenario of increase in the import price in dollar terms and rupee depreciation, oil PSUs add to their windfall. In contrast, a private firm wanting to run a retail outlet with supply of petrol and diesel – be it from import or domestic refinery -- and paying for the inflated cost will be at a serious disadvantage.

With so many fetters, it is but natural that even oil and gas majors who meet the existing eligibility criteria have not shown much interest in retailing. Therefore, it is unlikely that relaxation in the investment or net-worth criteria alone would help. Private participation on the desired scale will be possible only when the government carries out wholesome reforms in the sector.

This should include de-canalization of POL imports and hiving off the storage, handling and distribution infrastructure to an independent entity which should make it accessible to all players on ‘common carrier’ principle in an ‘equitable’ and ‘non-discriminatory’ manner at tariff determined by competitive bidding. The subsidy on LPG and kerosene should be given directly to beneficiaries, bypassing PSUs. The existing controls on pricing – overt and covert -- should go.

The government may also consider drastic cut in the Rs 250 crore threshold to enable small traders to sell these products, which will serve rural areas better and help create jobs.

(The writer is a Delhi-based policy analyst)