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Uttam Gupta
Much bitterness has been generated over the recommendation of the high- powered Hanumantha Rao Committee regarding the new pricing policy for urea. It was rejected by the industry lock, stock and barrel. Reportedly, after a lot of brainstorming, the government, too, seems to have disfavoured this. In fact, the department of fertiliser has mooted its own package.
The committee has recommended dismantling of the existing unit-specific retention pricing scheme (RPS) and its replacement by a system of uniform normative referral price-based (NRP) long-run marginal cost principle (LRMC). Its adoption will affect viability of all naphtha- and coal-based plants, all but one plant based on fuel oil/LSHS and almost half of the plants based on gas.
This is because the recommended NRPs, namely, the Rs 6,050 per tonne for gas- based plants, Rs 7,800 per tonne for naphtha/coal-based plants and Rs 7,350 per tonne for fuel oil/LSHS-based plants are lower than reasonable cost of production. In a number of cases, these do not even fully cover the variable cost, which means immediate plant closure.
The use of the LRMC method for pricing is seriously flawed as it assumes that the industry is homogeneous, which fertiliser is not. Units differ widely in respect of feedstock, location, vintage, etc, leading to unavoidable differences in reasonable cost of production. Therefore, giving a uniform price to all plants within a group is bound to cause distortions.Unfortunately, the committee has not even implemented the LRMC concept in its true spirit. It involves determining the long-run average cost (LRAC) of a marginal unit/new grassroot project. The committee has deviated from this by clubbing two grassroot projects with two expansion units and taking an average. This results in artificially lowering assumed cost as the latter's investment cost is significantly lower than the former's, mainly due to saving on infrastructure and offsite facilities.
The cost is further lowered by assuming - for all these four plants - investment cost significantly lower than their reasonable actuals. These are essentially based on working by FICC for arriving at the retention price (RP) under the existing dispensation, which are still ad hoc/provisional. Logically, when final RPs are computed, reasonable investment levels will be recognised. However, under-recovery under NRP would remain unless reasonable actuals are used from the word go.
For arriving at energy cost, the committee has used the energy-consumption level, which is significantly lower than what is capable of being achieved under practical operating circumstances. For instance, for one unit, the norm is taken as 0.60669 thousand cubic metre for producing a tonne of urea. At CV of 9,250 kilo calories, this translates to 5.61 million K cal. Against this, the concerned plant achieved only 6.0 million kilo calories during 1996-97.
For arriving at the feedstock differential cost reimbursement (FDCR) for naphtha-based plants, the energy-consumption norm of 5.523 million kilo calories for producing a tonne of urea has been used. This is even lower than energy consumed by a new gas-based plant and defies any logic. Naphtha being an inferior feedstock, how can it consume less energy than a gas- based plant.
Even the delivered cost of energy has been assumed lower than actuals by making unrealistic assumptions. For instance, even though gas-based plants along the HBJ pipeline face a shortfall of at least 25 per cent in supply of gas, forcing them to use high-cost naphtha to run the plant at optimum load, the committee assumes the entire energy requirement to be supplied through gas.
Even though one member of the committee pointed out this anamoly, it was dismissed as a temporary hiatus on the presumption that gas supply will not be a constraint. In doing so, the committee even ignored the fact that supply constraint is the result of a conscious policy decision of the government to deny gas for use in captive-power and steam generation.
Yet another major distortion in the LRAC calculation relates to raising the normative production to 100 per cent of capacity - from the existing 90 per cent under RPS - without increasing allowable return on net worth which continues to be at 12 per cent post-tax fixed two decades ago.
If only these distortions are removed and LRAC recomputed on a realistic basis, the picture will change dramatically. Appropriate adjustments for investment cost and delivered cost of energy alone will increase the NRP from the recommended level of Rs 6,050 per tonne to about Rs 7,700 per tonne. This would ensure the viability of majority of gas-based plants and help them maintain cash flows.
In respect of naphtha-based plants, apart from low energy consumption, the FDCR is also arbitrarily reduced to per cent of the computed number. Making a correction for both these factors would give a minimum FDCR of about Rs 2,500 per tonne. Together with bench mark NRP of Rs 7,700 per tonne, these plants would, thus get an ex-factory price of Rs 10,200 per tonne. This would ensure the viability of majority of efficiently operated plants and help them generate resources for undertaking timely revamp and modernisation.
The computation of FDCR for plants based on fuel oil/LSHS also suffers from similar distortions as for plants on naphtha. Removal of these by taking realistic energy-consumption norms and rolling back arbitrary disallowance of 15 per cent will lead to a reasonable FDCR, and in turn, the ex-factory price. This would take care of majority of efficiently run FO/LSHS-based plants.
Even after reworking of NRP using realistic assumptions/numbers, although the unit-specific advantages/disadvantages would remain, the government will at least have an opportunity to take an objective and realistic view of the committee's recommendations.
Copyright © 1998 Indian Express Newspapers (Bombay) Ltd.
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