Mumbai: Canadian hydrocarbon explorer Niko Resources Ltd, which is a 10% partner with Reliance Industries Ltd (RIL) in the rich D6 block of the Krishna-Godavari, or KG, river basin off the eastern coast of India, has announced that the developers will spend almost a quarter more than the originally estimated capital expenditure (capex), in that block.
Niko said in its annual results on 23 June that “the revised field development costs” for so-called oil discovery site “MA” are budgeted at $1.9 billion (Rs9,139 crore) and $6.3 billion for Dhirubhai D1 and D3 gas discovery sites, marking a total capex of $8.2 billion in phase I of the project.
The capex estimate is a 23% increase over previously announced figures of $6.7 billion, noted a 23 June report by CLSA analysts Somshankar Sinha and Vikash Kumar Jain. Roughly $2.2 billion was expected to be invested in the fiscal year ending March by the Niko-RIL consortium, with the rest already invested till March this year.
Value added: Niko said on 23 June that the revised field development costs for so-called oil discovery site MA are budgeted at $1.9 billion and $6.3 billion for Dhirubhai D1 and D3 sites, respectively.
Although the increase was expected by analysts, given the scale of the project and escalating exploration costs globally, sector analysts said that Niko’s announcement has now put a figure to it. Also, it meant that the government’s peak share in the revenue from the reserves will be pushed farther back in time, explained one of them.
Typically, in a revenue sharing contract, the contractor is allowed to first recover his project cost, with government taking a small share in the early years of the project and bigger share in the late years.
“The new spend figures are part of ongoing E&P (exploration and production) capex plans. The hike was expected by the market. We just didn’t know clearly by how much, now we do,” said a Mumbai-based analyst with a foreign brokerage, adding that the huge capex was expected to continue.
The CLSA report pegged the total capex in KG D6 by fiscal 2013 at $18.5 billion while a 24 March Goldman Sachs report put it at $14 billion over the life of the project. But Nilesh Banerjee, Durga Dath and Karthik Bhatt of Goldman Sachs said RIL-Niko’s capex was “very competitive globally”.
“We estimate the global benchmark for unit cost of deep-water projects at $8-13/boe (barrel of oil equivalent) for projects sanctioned after 2006. For projects sanctioned in 2004, around the same time as the KG D6 project, the...cost stands at $4-6 per barrel. Reliance has indicated that its average capex for upstream would be $3-5/boe, which makes it very competitive globally,” they wrote.
“Gas production is currently at 80 mscmd (million standard cu. m of gas a day) and Niko expects this to reach the peak of 80 (mscmd) by December 2009. We continue to model in 80 (mscmd) by July 2010 as full production is contingent on Gail’s pipeline expansion projects”, wrote Sinha and Jain, adding that GAIL (India) Ltd’s projects are likely to be completed only by the fourth quarter of fiscal 2010.
They have an “outperform” rating on the RIL stock with a 12-month target price of Rs1,925 per share.
Emailed questions to RIL’s spokesmen on Monday remained unanswered.
RIL holds a majority 90% interest in the block, which started producing oil in late September. Gas from the block— currently the focus of a lawsuit between Mukesh Ambani-owned RIL and estranged brother Anil Ambani’s Reliance Natural Resources Ltd (RNRL)—commenced in early April.
The analyst from the Mumbai brokerage said the increase in costs is a global phenomenon, since expenses for hiring drilling rigs, skilled and unskilled manpower, and conducting seismic studies, among other things, have all increased.
“It has doubled in the case of some projects in the last four-five years, even tripled for some deep sea projects,” he added.
The increase in investment in KG D6 investment, however, will affect the government, which is engaged in sorting out the dispute over RNRL’s claims to 28 mscmd of natural gas at 44% lower than the government-fixed price of $4.2 per million British thermal unit. The government is the owner of all natural resources such as KG D6 and leases them out to contractors such as RIL for development. It also approves the cost incurred in projects— a hurdle Niko’s estimates haven’t yet cleared.
Director general of Hydrocarbons H.K. Sibal said on Tuesday that the upstream E&P regulator typically approves an activity by a contractor, after which the costs are incurred, audited and then brought in for his approval. This estimated increase in investment by the Niko-RIL consortium, he said, has not yet been approved by his office.
Explaining the impact of an increasing investment, the analyst quoted earlier said: “If the capex rises without an increase in production, then the government loses as its peak share in revenue is pushed back in time. The contractor (RIL here) too suffers as spend rises without any rise in expected revenues. However, if the production too rises along with capex, the contractor may not lose out but it continues to works against the government in the same way.”
In the case of KG-D6, production is also expected to go up. “Additional reserves will move from undeveloped to developed upon completion of phase I as additional reserves are developed in the KG D6 basin,” Niko said in its annual results.
RIL and RNRL are currently in a dispute over claims to KG D6’s gas based on a family agreement that led to the Reliance group being split in 2005. The Bombay high court had last month asked RIL to negotiate and frame a suitable arrangement for giving RNRL its share as per the family pact. Two weeks and at least three letters later, on Tuesday night, in response to an RNRL offer to negotiate, RIL said it “cannot sign any agreement without the approval of the government on price, quantity and tenure”.