India: City Gas Distribution: Creating Demand For India's Energy Future – The Balancing Act

Last Updated: 22 March 2019
Article by Jatinder (Jay) Cheema, Akshat Razdan and Nakul Vohra

In part one of this two-part blog series, we looked at the challenges and new approaches that are being devised to increase the share of natural gas in India's energy market, including some of the challenges faced in effectively implementing the "Authorising Entities to Lay, Build, Operate or Expand City or Local Natural Gas Distribution Networks – Amendment Regulations, 2018" (2018 Amendment Regulations).

In this piece, the second part of this two-part blog, we look into how the 2018 Amendment regulations will work in practice, to provide a balance between expansion of the natural gas industry and consumer interest – while also supporting the development of the right infrastructure to ensure the smooth supply of gas.

Introduction

The CGD network is at the tail end of the natural gas value chain and, thus, the development of the antecedent infrastructure is pivotal for the development of the rest of the supply chain. The Government and the upstream industry players are responsible for the adequate and uninterrupted supply of natural gas to the CGD market. However, it too is contingent on a fully integrated gas supply infrastructure with uniform pricing alongside affordable end user prices, which can only be determined with targeted regulatory policies. Several Government initiatives have also been indexed to the growth of the industry by means of facilitating the ease of doing business. The Reserve Bank of India (RBI) has accorded the status of infrastructure to CGD projects, which allows for financing from commercial banks and other financial institutions.

The new regulation has given teeth to the recommendations of the committee by prescribing the MWP under the 2018 Amendment Regulations, which shall provide for checks and balances with regard to the progress made for each individual year, which were quoted at the time of the bid submission. The tariff to be charged for transportation of the priority fuel, i.e. CNG and Pipelined Natural Gas (PNG) – which was previously the sole basis for awarding a licence – now has a mere 10% weightage, with primacy given to infrastructure creation in three major segments of steel pipeline length, CNG stations and domestic connections in order to achieve maximum network penetration in the market. The bid winner would now, have market exclusivity for a period of eight years, extendable up to ten years for performers, as compared to the previous rounds, which granted exclusivity of merely for a period of five years. This, coupled with right to first use, provides a greater incentive for the bidders to enjoy monopoly, and to make good off their investments.

Further, a pre-determined penalty shall be levied within three months of the end of each contract year, which shall be cumulative in nature, with respect to any shortcoming in achieving the targets, in order to warrant strict adherence to timelines. Such penalty is also imposed in case of interruption of the supply of gas to its consumers and non-adherence to service quality standards. The new regulation, therefore, along with providing a greater scope for expansion, also provides for greater accountability on the part of the bid winner. Furthermore, any penalty levied, shall be recoverable from the performance guarantee of the bid winner, which shall severely impact the financials of such entity, thus, proving it to be a deterrent against any such default.

The Board aims at providing a skeletal timeline so as to avoid inordinate delays by mandating the licensee to enter into a supply agreement with a natural gas producer within 180 days, and financial closure within 270 days of the grant of the licence. Recently, the Board cancelled a licence of the Gas Authority of India Limited (GAIL), for the construction of the Gujarat – Odisha pipeline1, on account of its failure to make any progress in the preceding six years of the project. In this matter, the Board ordered encashment of the performance bank guarantee under Regulation 16(1)(c) of the 2018 Amendment Regulations, and thus permanently revoked their licence. This is the first instance of such a licence cancellation since June 2012, when the licence granted to Reliance Gas Transportation Infrastructure Limited (RGTIL) was revoked due to the absence of physical work on the project sites. Such an action from the Board, is a welcome change, as the cancellation lays down a strong precedent ensuring stricter compliance to commitments.

Demand Creation

The 2018 Amendment Regulation gives a push to the demand from both sides of the table, by making investment in the industry lucrative, alongside increasing the customer demand for gas. It aims at adequately reflecting the relation between income of the operator and the tariff quoted during the bidding, as the operators add marketing margins that are not quoted and are eventually charged to the consumers. In 2016, the Ministry of Petroleum and Natural Gas had set up a committee to examine the various CGD Bidding Rounds related issues, which submitted its' recommendations in January 2017, which were partly adopted in the 9th Round and is set to be completely incorporated in the 10th Round.

According to the committee recommendation, the proposed GA to bid out, should have a Natural Gas pipeline within 50 kms, so that timely connectivity and access can be provided to consumers within 270 days of the grant of the licence. Steps such as strengthening public transport facilities, the introduction of the odd-even rule, decline in the prices of domestic natural gas, and the initiatives taken up by the Government to allow LNG to be used as an automotive fuel2 have resulted in escalation in the demand, centered on the transport sector. Further, road shows in various states, Public Sector Undertakings being advised to have PNG provisions in residential complexes and a change in the priority allocation for domestic gas in favour of the CGD sector have also aided the volume growth of the industry. However, there is a requirement for stricter reforms in anchor consumer sectors of power and fertilisers in order to accelerate growth in the gas sector.

For the industry, clearly defined exit options for the bidder, post the completion of the MWP, reduces the overall business risk for new entrants thereby lowering the barriers to entry to the market. The positive externalities caused by the projects cannot be captured by the revenue from the project, thus making it commercially unviable. The Viability Gap Funding (VGF), which was devised in order to provide financial support to Public Private Partnerships (PPPs), would cover up to 40 per cent of the entire cost3. In September 2016, the Cabinet Committee on Economic Affairs (CCEA) approved the funding of 40 per cent of the total project cost for the natural gas pipeline from Jagdishpur to Haldia and Bokaro to Dhamra, pursuant to such scheme, and is set to be on track by this year. This eliminates capacity utilisation risks and paves the way for a speedy build-up of infrastructure, and encouraging public private partnership in the industry.

Conclusions

A balance between the expansion of the industry and consumer interest has to be struck. Thus, if there are persistent defaults that are detrimental to public interest, the Board being the sectoral regulator, can withdraw authorisation so given to the entity, and comply with its mandate under the 2018 Amendment Regulations.

Being a downstream industry, unbundling the activities of transportation and marketing of natural gas, is yet to happen. The future of the industry lies in consumer choice, which shall result in increasing competition, leading to rapid market development. However, such transition is incidental to infrastructure growth, and a fair transition period is needed with regular follow ups to determine whether the market is sufficiently competitive and to modify the CGD's service obligations accordingly.

Further, the recognition of innovative cost-effective technological solutions, which will mitigate the costs of pipeline replacement and excavation, thus reducing overall cost and service disruptions, are pivotal for the development of infrastructure of the industry. The increasing use of natural gas would not only be cleaner for the environment but it would also lead to greater diversification of the energy/fuel basket of India.

Footnotes

1 GAIL (India) Limited for Surat-Paradip Natural Gas pipeline (SPPL), PNGRB, New Delhi

2 2017 Amendment to the Central Motor Vehicles Rules, 1989,

3 Scheme and Guidelines for Financial Support to Public Private Partnerships in Infrastructure, 2013 , Ministry of Finance & Department of Economic affairs,

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