by R. Sasankan

The Narendra Modi government has a penchant for coming up with bold ideas. These ideas need not always have immediate relevance but can make lasting impact on the Indian economy if implemented sensibly. In the volatile world of petroleum products, ideas can lead to disastrous long-term results if they aren’t fully thought through and backed by a strong, what-if spread sheet analysis that considers all possible factors and variables.

Recently, India’s petroleum minister Dharmendra Pradhan dropped a hot brick of an idea that left experts in the industry scratching their heads to find definitive reasons that would justify it. Pradhan said the government was seriously considering a proposal to expand the country’s strategic crude reserves by another 10 million tons. India already has an existing crude storage capacity of 5.33 million tons. The plan is to create new storage capacity at two locations in the states of Karnataka and Odisha. But that is not all: the government isn’t going to put up all the money for it. Instead, it wants to execute these projects under Private Public Participation (PPP) mode – a route that has not midwifed too many ventures during the Modi regime. The general impression was that the Narendra Modi government had more or less abandoned the PPP route as it did not work well in the infrastructure sector.

Dharmendra Pradhan is a heavy-weight minister, considered close to Prime Minister Narendra Modi who elevated him to the cabinet rank on the back of his strong performance in the ministry of petroleum and natural gas. Therefore, it is unlikely that he would make a statement without consulting the Prime Minister. In all likelihood, a proposal mooted by Pradhan will win cabinet approval.

The task of executing the expansion in PPP mode is also likely to be recommended by consultants who will shortly be appointed by the petroleum ministry. The consultants invariably do a technical job and are not expected to be guided by the larger interests of the country. The government, therefore, should have examined it with expert bodies like NITI Aayog, its policy think-tank, and petroleum experts within and outside the government. This can be done even after it gets the report from the consultants.

Until now, crude oil storage facilities have been set up exclusively by the government. The idea to create strategic crude reserves stemmed from the government’s perception that there was need to beef up the country’s energy security. When it decided to set up 5 million metric tons (MMT) of strategic crude oil storage, it created a special purpose vehicle, Indian Strategic Petroleum Reserves Limited (ISPRL), as a wholly-owned subsidiary of Oil Industry Development Board (OIDB) which was given the responsibility to construct and operate the storage facilities.

ISPRL set about constructing three underground rock caverns to store around 39 million barrels (5.33 million tons) of crude oil at three locations – Visakhapatnam (1.33 million tons) on the East Coast, Mangalore (1.5 million tons) and Padur (2.5 million tons) at a total cost of Rs 40.98 billion. Out of this, Rs 2.65 billion is being provided by HPCL for the 0.3 MMT compartment at Visakhapatnam.

The previous NDA and UPA governments strongly supported the idea of strategic crude storage and its capacity expansion in phases. What seems to make the whole idea controversial now is the proposed PPP route. Even in the initial days, there were experts within the government who had questioned the very idea of creating such a crude storage facility, about which I will come to later.

Why is the PPP mode questionable? PPP structures essentially allocate risks between the public and private sector partners. The crude is typically stored in underground rock caverns. The government will have to be involved in providing the sites with the required geology. Similarly, the government will most likely wish to retain the ownership of the crude. In any event, no private sector company would want to bear the price risks associated with crude oil.

Similarly, the government would also want to keep control over the delivery infrastructure that carries the strategic crude oil to the designated refineries in an emergency. So the only risk that the government can pass on to the private sector is the risk of building the storage at a given time and at a given cost so that the government does not suffer time delays and cost overruns. The risk of proper design of the storage facility can also be passed on to the private partner. Here again, the private sector is unlikely to absorb the geological risk of the underground caverns and would want the government to absorb the burden of cost over runs and time delays due to geological surprises.

Finally, the private sector partner can invest in the storage facility and collect rent over years. The same banks that fund the private sector to do this would likely provide loans at better terms to the public sector companies owning the facility, thus reducing the financing costs. According to experts, the case for a PPP structure is weak and all the likely benefits through sharing of risk can be replicated under a well- structured EPC contract for building the storage facility directly by the government.

That brings us to a crucial question: Who in the private sector will want to set up these storage facilities under the PPP mode? After the exit of the Essar group which sold its petroleum refinery to Rosneft and with bankruptcy proceedings initiated against Nagarjuna Oil, the only potential private partner for strategic storage is Reliance Industries Ltd (RIL) which is led by Mukesh Ambani, the country’s shrewdest business brain.

The United State has huge strategic storage facilities. The US keeps rotating the reserves which are basically used as a measure to influence the crude market by releasing them when the prices surge beyond a point. The size of the strategic storage that India is talking about is barely 7-10 days of the current crude consumption. The question is whether such a requirement requires underground caverns or whether it can be met simply by expanding the facilities already with the refineries. True, not all refineries have the space to expand the storage facilities. But refineries outside Mumbai should be able to find land for additional storage without much difficulty. In any event the crude will have to be carried from the strategic storage to these refineries. If the refineries are bombed in a war-like situation, the strategic reserves will not help.

Experts question the very idea of crude storage itself. They reckon that oil demand will peak in the coming 15-20 years. It would not be in anybody's interest to choke the supplies in a buyers’ market. In any event, these experts do not see any possible scenario wherein the supplies would be disrupted for more than 7-10 days at the most. Indian refineries already have about 30 days of crude and product storage in place today, excluding the strategic reserves of defence forces.