Conditions for Cairn deal to cost govt Rs 5,000 crore

ONGC’s return on investment becomes positive after govt makes Barmer block royalty cost-recoverable.

The government’s income from Cairn India’s Barmer field is estimated to fall 9 per cent to Rs 52,757 crore after the royalty from the block is made cost-recoverable.

This is one of the conditions the government has put to clear Vedanta Resources’ deal to buy a majority stake in Cairn India.

The government’s income from a gas/oil block is known as profit petroleum. “The government’s share of profit petroleum is estimated to fall by about Rs 5,000 crore if the royalty is made cost-recoverable,” said a senior government official.

HOW GOVT TOOK THE HIT

* Govt makes royalty payment from the Barmer block cost-recoverable

* ONGC will continue to pay 100 per cent royalty but will be able to cost-recover the amount

* This will bring down the share of profit petroleum

He, however, added that if the entire royalty was paid by ONGC, Cairn’s partner in the Barmer block, the government would have had to reimburse the full amount, incurring an expenditure of Rs 12,600 crore. “In a way, this is a saving for the government,” he said.

While making a case for approval to the deal, Cairn had time and again impressed upon the government that making the royalty payment cost-recoverable would hit it hard as the amount went to the state government. The Centre got its share in the form of profit petroleum.

While ONGC, as a licensee, was obliged to bear the full royalty burden, the accounting procedure in the production sharing contract said the royalty paid by ONGC was cost-recoverable from the common pool of revenue before profit petroleum was calculated. The issue surfaced after Cairn Energy announced the sale of a majority stake in Cairn India to Vedanta Resources.

ONGC insisted that the royalty should be treated as cost-recoverable. In line with ONGC’s suggestion, the government has given conditional clearance to the deal, but has decided that the royalty will be treated as cost-recoverable.

If Cairn and Vedanta accept this condition, ONGC will continue to pay 100 per cent royalty despite holding a mere 30 per cent stake in the block, but will be able to cost-recover the amount. ONGC’s return on Barmer investment would have been negative if it was to bear the full royalty burden. Since royalty has been made cost-recoverable, the net present value of ONGC’s investment in the project has become positive. The royalty is 16.67 per cent, assuming the crude oil price of $70 per barrel. Over the full life cycle of the block, the amount is estimated to be Rs 18,000 crore.

Barmer is the largest onshore oil block in the country. Crude oil production from Mangala, the main field in Barmer, started in August 2009. The field produces 125,000 barrels crude oil per day and is expected to produce 175,000 barrels at its peak.