Union Budget 2017-18: A merged oil giant could be disastrous sans operational freedom

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Shishir AsthanaMoneycontrol Research

State oil firms ran up around 2.5 percent on Finance Minister Arun Jaitley’s Budget proposal to merge them to create an oil behemoth. The move, which is on the lines of forming more autonomous corporations like Shell, British Petroleum and Rosneft, will succeed only if the meddlesome government takes a hands-off approach.

Sound LogicTheoretically, it makes sense to have one single unit perform all the various functions along a supply chain. Prospecting, refining and marketing the oil, if they remain the lookout of one company, cuts costs. With the refining sector having opened up to international players, ring-fencing public sector companies, especially standalone refineries, will be a step in the right direction.

There are 10 public sector companies in the oil and gas space which are broadly divided into oil exploration and production (ONGC and OIL), refining (Chennai Petroleum, Numaligarh Refinery and Mangalore Refinery), refining and marketing (IOC, BPCL and HPCL) and gas import and transportation (GAIL and Petronet).

But making an oil behemoth compete with international players is a different ball game. Global oil majors are swift-footed and politically well-connected.

The Hand that FeedsIndian oil companies, however, will need the government to sign off on major capital expenditures. Their dividend policies are dictated by the government. If a company is sitting on a pile of cash the government uses it to buy back its stake to fulfill its divestment commitment. Public sector refineries are compelled to produce subsidized products like kerosene and LPG to meet social commitment. On the other hand, private sector players have no such compulsions.

Furthermore, irrespective of market conditions, the government pushes these companies to expand capacities or are threatened to announce higher dividend. Global oil companies do not work under such restrictions.

The government’s logic of merging the companies is sound, especially since it wants to ensure the country’s oil security. But it will have to cede control and give the oil majors more autonomy in all aspects of running their business. In the past ONGC Videsh (a subsidiary of ONGC) could not acquire oil wells because the government was dragging its feet on the file. The result: Chinese companies took away these oil reserves.

If government really wants to create a global oil giant it has to ensure that it has the same flexibility as their global peers. Creating a merged giant would be disastrous if there is no operational freedom.

Follow: Moneycontrol Budget Page