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Senseless petrol-buying procedure costs nation $ 3 billion

India is sitting on a petrol bomb. As the United Front government continues to procrastinate the contentious petrol price hike, the oil pool account deficit threatens to play havoc with the economy.

While tomes are being written about the options before the government to offset the oil poll deficit, no one seems to be questioning the very mode of oil purchases being practiced by successive Indian governments.

India is the only significant buyer in the world that still employs the time-consuming tendering process, according to a London-based independent consultant company for crude oil and LPG with 30 years' standing in the business. The consultancy stated this in a memorandum submitted to the petroleum secretariat in April this year. It has also written letters dated April 9 and 11, 1997 to the parliamentary standing committee on petroleum and chemicals, headed by former Maharashtra chief minister A R Antulay, which has been constituted to go into the petroleum ministry's demand for grants for 1997-98.

The Indian government has lost close to three billion dollars, perhaps more, over the last 10 years due to the senseless purchasing procedure as its import bill crossed Rs 350 billion.

The tendering process has overridden the crucial aspect of price transparency, as the so-called ''registered'' tenders have assumed a silent understanding amongst key persons occupying high offices.

The Indian Oil Corporation (IOC) tenders invariably result in an upward pressure on oil prices. Needless to say, the prices fall as soon as the business has been conducted. To avoid this phenomenon, a simple solution of spreading out requirements around the year, relying on spot business and long-term arrangements including risk management is not being followed by the IOC.

While oil requirements are met through spot purchases and long-term contracts the world over, India has exposed itself to the vagaries and fluctuations of the oil market.

The country has had a setback in oil production in the last three years. Up to December 1996 the indigenous crude oil production has been 23,917 mmt while the imported crude oil has been to the tune of 25,646 mmt. The crude oil production in India fell from 55.6 per cent in 1990 to 41.6 per cent this year. And, within a decade, it is likely to fall to 23.5 per cent as India employs shallow drilling. The results would be better if deep drilling is employed.

At present crude oil is being purchased by India through annual term contracts with international oil companies. The purchases are made at market rates.

The standing committee has, in its report, expressed doubts over the tender procedure. It is clear that the IOC is not following the procedure followed by international companies in importing oil, the report said. Internationally, the most common procedure is through the application of risk management.

The petroleum ministry has been blindly relying on the ''expertise'' of consultants, Arthur Andersen, who have made presentations before the IOC and the petroleum secretary recently. Other consultants including Arthur Little and Petroleum Economic Limited based in London made their presentations around December last year on risk management techniques. In the past too, companies like Gerard & National Inter Commodities, London, Morgan Stanley and New York Mercantile Exchange (NYMEX), USA, made similar presentations.

Significantly, petroleum secretary Vijay Kelkar admitted to the standing committee that ''most of our systems have not changed from Warren Hastings' time. We have to change the entire procedure.'' Interestingly, Hastings was the governor-general of India during 1773-1784! However, Kelkar wishes for no change in the present system.

The government's aversion to using risk management techniques is primarily due to the fact that the existing policies in India do not permit participation in forward, futures and over-the-counter markets, all of which are key instruments of risk management techniques. The ministry has time and again dismissed the consultants as merely companies out to expand their business activities and develop their client base, although it did employ the services of Arthur Andersen as consultants.

In reply to the standing committee's query over the appointment of Arthur Andersen as consultants, the petroleum secretary stated that their services had been hired to study the entire procedure. ''In view of the complexities and changing pattern of oil trends and markets, it was considered prudent to have the activities of the international trade department reviewed through some reputed international consultants, so as to ensure that the best purchase practices followed in the world market are adopted by the department of the IOC.''

The terms of reference for the consultants were: reviewing the existing systems of the department and making recommendations about the procedures followed by international firms including those on risk management, the petroleum secretary told the committee.

The petroleum secretary informed the committee that they had implemented the procedural changes suggested by Arthur Andersen which involved hedging and internal financial control systems. Entering into risk management activities would require: imparting proper training and developing skills; development of a dedicated team of officers to deal with sophisticated risk management activities; creating internal financial controls; opening of representative offices in main trading centres such as New York, London and Singapore; delegation of authority to officials for timely decisions; investment in procuring requisite computer hardware, software and advanced communication facilities including satellite.

In the absence of Cabinet approval, the petroleum secretary said that it was helpless as far as the implementation of major recommendations were concerned. It recommended that the present system should continue!

The committee was shocked that a Fortune-500 company like the IOC did not take these rudimentary steps in running such gigantic operations.

Doubts have been raised about the credentials of Arthur Andersen who have been boasting of their ''vast Indian contact'' and that, with this consultancy, ''they had their bed made''. It has also been reported that the firm has been appointed the ''internal accountant'' of IOC, much to the dismay of industry circles. ''Where is the need for such a move when there is no death of highly qualified accountants in India?'' they ask. However, due to pressure from quarters concerned, this contract was terminated by the IOC.

Industry sources said that the consultancy fee being paid to Andersen for producing a report on ''something obvious'' would have fetched IOC a fully staffed office in London.

The standing committee has in its report categorically stated that it has reasons to believe that Andersen was selected in an ad hoc manner without following proper procedure and therefore ''it lacked transparency''. The report further said that the committee doubted whether the ministry and the IOC had properly analysed the offers of the other experts who had made presentations before them.

The committee report said: ''In view of the importance of the subject which relates to containing the import bill and the pool deficit, the committee recommend that the appointment of Arthur Anderson may be kept in abeyance and the whole matter relating to the selection process of consultants including the evaluation of offers made by all the seven experts should be examined afresh. The committee would like to be apprised about the specific action taken by the government in this regard within a month's time.''

The London consultant, which found fault with its petrol-buying procedure, had offered free consultation to the IOC, which has conveniently been ignored. The independent consultant's memorandum suggests the importance of having a representative office in London which is the headquarters of the International Petroleum Exchange. It also allows prompt access to the New York Mercantile Exchange.

What is surprising is that the IOC did not consider having a representative office in London in all these years. Also it is not known whether the IOC's trading/ purchasing personnel interact with the world's international oil trading community, or have face-to-face contracts with them. Considering the facilities available in London for arbitrage dealings, virtually the whole oil world and all major oil companies have offices there. Ashland Oil of the USA claims that by having an office in London it saves $12 million every year on a small volume of trade.

It is learnt that the finance ministry has ordered the IOC to borrow $ 1 billion in the international capital market to resolve the oil pool account deficit. The IOC will not be able to repay this billion dollars till the government takes a decision on the petroleum product prices.

The committee has directed the petroleum ministry to modify its existing policies to enable the IOC to adopt to risk management techniques, and apprise the committee of the action taken within four weeks.

The committee report is likely to be discussed by the Cabinet in the next few days, it is learnt. Unless the United Front government takes a decision soon, the oil pool deficit would shoot up from Rs 155 billion as on March 31 to Rs 245 billion by the end of the fiscal year. A deficit which will probably leave the economy bankrupt.