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Energy: Budget succor - Views on News from Equitymaster
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  • Feb 25, 2003

    Energy: Budget succor

    Refining and marketing companies are looking at the forthcoming Union Budget with expectations of lower duties and at least partial removal of steep subsidies on LPG and SKO (kerosene). The expectation seems genuine, as profitability and cash generation of these companies have been under severe pressure in the last quarter, denting the financials.

    To make matters worse, they have also not been able to revise prices of petrol and diesel during the fortnight ended February 15, due to pressure from the Government. Therefore, it is only logical for the companies to expect the Government to atleast heed to one of the two requests, either remove the subsidies, which indirectly means allowing freedom to fix LPG and SKO prices based on import parity of crude oil. The second alternative would be to lower duties (customs and excise) on petroleum products, which will help the oil companies to absorb the rise in crude prices without hurting margins.

    With elections in major states (Madhya Pradesh, Rajasthan and Himachal Pradesh) in the next few months, and general elections in 2004, reforms again run the risk of taking a backseat, as the Government is expected pursue a populist agenda with electoral interests in mind. Free pricing therefore, is unthinkable in this context. However, the second option too, will not be easy, given the fact that fiscal deficit is alarmingly high and the government is less likely to further pressure its already scarce revenue streams.

    To put things in perspective, the ex-finance minister Mr Yashwant Sinha, who presented the Budget last year, pegged the subsidy on LPG and Kerosene to prevailing oil prices (around US$ 20 per barrel then) and allocated an absolute amount of Rs 65 bn in the Budget for the same. This subsidy was to remain fixed, irrespective of the global oil price movement. In other words, if prices were to rise, as has been the case, the government would not shell out the extra subsidy but pass on the increase to the consumer. At least, that was the intention.

    But in reality, it was not the consumer who bore the brunt of the incremental price but the oil companies, as the Government failed to revise prices of LPG and Kerosene, both of which continue to be administered. The impact on the oil companies can be seen from the fact that international LPG price has shot up by almost 60% since the last budget, while domestic retail price has risen by 10% only. SKO (kerosene), which was around US$ 22 per barrel same time last year, now trades at US$ 32 a barrel, a rise of over 45%. In comparison, the domestic retail price has increased by only 20%.

    As a result, the performance of refining and marketing companies in the current quarter will be no different from that witnessed in the third quarter. The government is now facing a Hobson's choice of either deciding to increase subsidies on these two products (LPG/SKO) or bite the bullet and increase retail prices.

    It is more likely that Mr. Jaswant Singh may reduce/revise the surcharge on petro products or lower customs/excise duties on crude/products respectively, given the political compulsion on retaining consumer prices at current levels. The oil companies are already bearing a small subsidy on petrol and diesel as the Government has not permitted them to fully price the two at global levels.

    The increase in global oil prices coupled with substantially higher oil imports (21% rise in April-November 2002) has buoyed customs revenues. This increase should make up for any losses from reduction in excise duty on petrol and diesel.

    With the two major oil companies HPCL and BPCL up for privatisation, the government will have to get its act together quickly before the hole in these companies balance sheet gets any bigger.



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