City gas discoms lose industrial buyers to cheaper fuels

City gas discoms lose industrial buyers to cheaper fuels

As customers flee to fuels that turned cheaper with the fall in oil prices, discoms such as IGL are stuck with expensive long-term contracts

Falling crude oil prices have claimed an unintended victim: India’s city gas distribution (CGD) companies.

Even as their industrial customers flee to liquid fuels that have turned cheaper with the fall in crude oil prices, city gas distributors, such as Indraprastha Gas Ltd and Adani Gas Ltd, must continue to buy costly gas from importers, thanks to long-term contracts they had negotiated when crude oil prices were high.

The future does not appear bright either.

With Iran expected to start exporting oil with the lifting of decades-old sanctions, global oil supplies are expected to go up, softening oil prices which are already weak. This could make CGD’s rivals, such as furnace oil, naphtha and petcoke, even more attractive for bulk customers.

“In the last one year, we have lost almost 25-30% of our industrial customer base,” said Rajeev Sharma, chief executive officer of Adani Gas.

Sharma explained that while the fall in natural gas prices and alternative liquid fuels did not completely match the decline crude oil prices, they still showed some price correction.

However, the long-term contracted gas volumes of the CGD companies are still above $12 per million British thermal units (mmBtu).

“Since we were supplying long-term contracted gas to our industrial customers, now they find it to be more expensive as compared with spot natural gas price, which was around $7-8 per mmBtu, or, let’s say, naphtha,” said Sharma.

So, why are CGD companies losing customers? Prices of natural gas and liquid fuels are linked to crude oil prices, and move in tandem. The 50% drop in oil prices in the last year has dragged down prices of all these fuels.

So, bulk gas customers, such as refiners, cement makers, small steel producers and power companies, have started buying cheaper naphtha, fuel oil and petcoke from the spot market, leaving the city gas distributors high and dry.

The country’s industries consumed 37% less gas in 2014-15 compared to the previous year, according to oil ministry data.

Overall gas consumption fell 9.25% during that period—from 41,458 million standard cubic metres (mscm) to 37,623 mscm. CGD comprises 8.5% of the total gas consumption in the country.

“There was overall decrease of about 44% in consumption in ‘others’ sector, which includes steel, sponge iron, manufacturing and other miscellaneous industries,” said a May note by the Petroleum Planning and Analysis Cell (PPAC), a statistical body under the oil ministry.

While there were several reasons for the fall in city gas volumes, including a decline in domestic supply, low allocation from the government and softer demand, the major reason is the availability of cheaper alternative liquid fuels in the spot market, said CGD company officials.

This is hurting CGD companies such as Indraprastha Gas, Mahanagar Gas Ltd, Adani Gas and Gujarat Gas Ltd.

Natural gas is bought by CGD companies on two bases—long-term contracts, whose price is fixed for a certain number of years, and on a spot basis, which changes with the change in the price of crude. For the long-term contracts, which form the bulk of contracts, they are locked-in a take-or-pay agreement with importers such as Gail India Ltd and Petronet LNG Ltd.

Unlike the CGD companies which are bound by long-term contracts with gas importers, industrial gas customers are free to switch sources when they deem fit.

An official spokesperson of Indraprastha Gas, which serves 560,000 domestic customers and over 750 industrial customers, said the company has seen a shift of 12-15% in volume offtake by its industrial customers in the last one year due to cheaper alternatives. He said that the firm is trying to offer competitive pricing for customers. “Options for cheaper sourcing of gas are also being explored to reduce the input cost of gas,” he said. Indraprastha Gas’s industrial clients include companies in packaging, food processing, automobiles, electronics and textile industries.

Mahanagar Gas did not respond to emails sent on Tuesday.

According to an analyst with a domestic brokerage, small scale industries are now happy consuming furnace oil, which is now available at $10 per barrel while long-term natural gas comes for $14 per mmBtu. He did not wish to be named because of company policy.

Meanwhile, other fuels have gained at the cost of natural gas—PPAC’s May data showed that after seven months of falling consumption since July 2014, naphtha consumption in India grew 7% in March, mainly due to an increase in consumption by the fertilizer, petrochemical and power sectors. Also, petcoke consumption registered a growth of 9.3% during March and a cumulative growth of 22.6% from April 2014 to March 2015. However, consumption of furnace oil fell marginally in 2014-15 compared with the year before, data showed.

“Almost 60% of the customers of CGD companies are industrial customers and a shift of almost 25-30% of these to alternative fuels means a heavy dent on the books of these companies,” said a consultant with a leading international consultancy, who has worked with CGD companies in the past. He did not want to be named.

He said that due to the shift to other liquid fuels, CGD companies are now coughing up money even if they have less off-takes from importers of liquefied natural gas due to the take-or-pay contracts with them.

“We have a three year take-or-pay contract with Gail, which has a floor price of $80 per barrel. Now, as long as the price of crude remains below this number, our contract is fixed at close to $14.5 per mmBtu, while spot price is now down to around $7 per mmBtu,” said Sharma from Adani Gas. He said that while sales are going down, companies are trying to mix spot and long-term gas to make the final product a little less costly and more attractive to customers.

CGD firms are also trying to cut prices for industrial customers.

In a 23 April note on Gujarat Gas, Dhaval Joshi, an analyst with brokerage Emkay Research, said that due to “…weak demand in near term and cheaper prices of alternative fuels (furnace oil, naphtha), company has cut industrial price further by Rs.4/scm (standard cubic metres) to Rs.29/scm on 1st April 2015. Thus, we could see margin and volume growth pressure in ensuing quarters as well”.

In a similar note on 2 July on Indraprastha Gas, Joshi wrote that margins pressure on the company will continue due to falling volumes.

Sharma of Adani Gas said that the Iran nuclear deal can further keep the crude prices under check, prolonging the tough times for the CGD companies.

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