ENERGY: Indian Demand- Supply Gap

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W H I T E P A P E R

W H I T E P A P E R 2 ENERGY: Indian Demand- Supply Gap

Table of Contents ENERGY: Indian Demand- Supply Gap ...................................... 1 1.0 Overview ......................................................................... 3 1.1 Drivers and Inhibitors in Energy Sector..................................... 3 1.2 Major Industry Players............................................................ 4 2.0 Demand Supply Scenario .................................................... 4 2.1 Demand................................................................................ 4 2.2 Supply .................................................................................. 5 3.0 Primary Energy Requirements of India ............................... 6 4.0 Regulatory Framework ....................................................... 9 5.0 Conclusion ........................................................................ 10 Disclaimer: ............................................................................. 11

W H I T E P A P E R Overview ENERGY: Indian Demand- Supply Gap

1.0 Overview Energy sector in India is one of the most challenging sectors for global players given the presence of large profit making Public Sector Units (PSU) with strong regulatory back up and market presence. As per Energy Information Administration (EIA) India is the sixth largest energy consumer and offers immense potential for foreign investors. Energy industry is considered as the primary driver of Indian economy as it is the major fuel for various industries like power sector, steel, chemical, fertilizers, paper, cement, transport and thousands of burgeoning Small and Medium Enterprises (SME) in India. According to recent IBEF estimates this sector contributes about 64% of gross revenues of Government (both Central and State together) through Taxes and Duties. The energy sector comprises of oil, natural gas, coal, petroleum, refined products, electricity and others. Out of these the Oil & Gas industry alone sizes up to USD 110 Bn and constitutes 15% of Indian GDP. With a staggering economic growth rate of 7-8 % India’s energy requirements are increasing rapidly which the major PSUs are not able to supplant. India’s energy-GDP elasticity of 0.58 reflects the industry movement along with economic growth. Energy sector in India is the 5th most attractive sector for Foreign Direct Investment (FDI) with a cumulative inflow of 7.71% of the total FDI inflow in India since 1991. Countries like USA, Japan and EU are investing millions of USD in the energy sector in India. The sector has been able to entice an investment of USD 26.90 bn cumulatively since 1991. When compared with that of China with an overall FDI inflow of around USD 50-60 bn per year; the FDI inflow in India is much lesser. In the last decade Government of India (GOI) has introduced major regulatory reforms to build up the industry attractiveness for more investment. It was an effort to bridge the huge impending demand supply gap. Tariffs on imported capital goods have been lowered and in some cases eliminated such as equipment for large scale power generation projects. Indian government is planning major energy infrastructure investments to keep up for the huge demand especially for electric power. This industry often suffers developmental losses due to transnational disputes and global economic fluctuations time to time.

1.1 Drivers and Inhibitors in Energy Sector The diagram below explains the forces acting upon energy sector instilling its growth upwardly, and the inhibitors which deter growth rate of industry. Dynamics in energy sector is largely affected by the macroeconomic factors as shown. Hence it is important for businesses to keep track of these main parameters. The growth rates of this industry are highly affected by economic growth rate of the country as GDP, growth in population, agricultural and industrial production fuels the demand for energy. Regulatory framework is expected to be an active enabler for the energy sector; however certain stringent government policies make it difficult for private players to pursue business. Recent regulatory reforms taken up by government as a move to attract foreign investment in this sector has improved the efficiency of energy business in India. India also requires huge investments for implementing latest technologies and research and development in the energy sector equipments and facilities which serves as a constraint to better business. International politics is an uncontrollable factor which affects the demand and supply scenario of energy industry. An optimistic view suggests

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W H I T E P A P E R 2.0 Demand Supply Scenario ENERGY: Indian Demand- Supply Gap

that the drivers foreplay inhibitors and hence the industry is expected to grow at a significant rate in the coming decade.

Drivers and Inhibitors of Energy Industry

Growing Population Regulatory Framework

Agricultural Production Industrial Production

Growth

Growth

Energy Sector Drivers

Technological Advancement s Quality of life & Purchasing Power

Inhibitors

Limited Funds & Infrastructure

Technological Limitations

International Politics

Rapidly growing SME sector

1.2 Major Industry Players The key Indian players in this sector are mainly PSUs like IOC, HPCL, BPCL, ONGC and RIL (the largest private sector company in this industry). Infact all five Indian companies in the Fortune 500 list are from oil and gas industry. Indian energy sector is made highly competitive with the presence of global majors like BP, Shell, Cairn, British Gas, Essar, BG Group, Chevron, Total and Gaz de France. All these companies take up various upstream, midstream and downstream activities like production, refining, exploration, pipelines and marketing.

2.0 Demand Supply Scenario 2.1 Demand Graph 1 below depicts the expected growth in energy demand that the countries might face in the near future for primary energy requirements of oil, natural gas and petroleum products. While the growth rates stand significantly high for both India and China, US seem to exhibit minor growth rates. As per EIU estimates India is expected to face high growth rates mainly in coal, natural gas and electricity segments i.e. 7.2%, 6.5% and 6.6% respectively which is much higher than that of US. China at the same time might experience a spur in its natural gas demand. The domestic production capacities for these segments in India are not able to keep pace with the fast growing demand hence a huge chunk of electricity, natural gas and crude oil is imported from foreign countries. However the

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W H I T E P A P E R 2.0 Demand Supply Scenario ENERGY: Indian Demand- Supply Gap

demand for coal might be fulfilled with the substantial domestic sources. Indian businessmen believe that the market potential in the country is high but infrastructure enhancements are inevitable. China is believed to be stronger than India in its infrastructural aspects. Regulatory framework is rated excellent for US and average for both India and China.

Expected growth in consumption (Demand) 14.0% 12.0%

CAGR

10.0% 8.0%

India China US

6.0% 4.0% 2.0% 0.0%

Energy

Coal

Natural gas

Petroleum

Refined Products

Electricity

Y rs 2005-2010

Graph 1; Source: EIU

2.2 Supply In India the unbalanced consumption and demand equation clearly reflect the shortages in supply. The demand for the primary sources of energy like oil, natural gas and electricity outstrips the production capacities in the nation. India lags behind China in its overall energy production, as China is among the top 5 energy producers in the world. Graph 2 below depicts the growth projections in production capacities of the 3 countries for primary energy requirements. India is not expected to hit any major increase in its production capacities of any of the primary sources of energy. While an increase is expected in the natural gas production rates in the next 5 years due to the recent KG basin discoveries of potential reserves of over 360 mmboe (barrels oil equivalent) but a huge import probability is still there. For petroleum and crude oil segment India’s production capacities might not experience any significant change, where as the refined products supply is expected to move upward. A comparison of the demand supply scenario clearly shows that the sector might suffer significant demand and supply gaps especially for petroleum, natural gas and electricity segments which are difficult to bridge without any significant imports and global tie-ups. Certain crucial measures are required to be undertaken by the policymakers in order to bridge this expected demand supply gap, some of the important steps are listed below:




Implementation of exploration measures to convert the proven reserves into established resource fetching reserves. Encourage new players to enter into the exploration segment. Entrepreneurs in India still find business in this segment a tough sail, Return on Investment (ROI) typically extends over a span of 3-5 years, apart from the 1+ year of procedural formalities. The business is found lucrative along with all these hassles.

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W H I T E P A P E R 3.0 Primary Energy Requirements of India ENERGY: Indian Demand- Supply Gap








Technological enhancements in existing production and exploration capacities to better productivity and to extract more resources from the proven reserves. Create an enabling infrastructure for energy sector growth by investment in ports, railways, pipelines and power transmission. Tie ups and alliances are inevitably required to set up international pipelines for crude oil and LNG import. GOI should also provide impetus for private participation. Smoothening the regulatory framework and governmental policies to increase the industry attractiveness for foreign investors and entrepreneurs.

Expected growth in production (Supply) 20.0%

CAGR

15.0% 10.0% India China

5.0%

US

0.0% -5.0%

Coal

Natural gas

Petroleum

Refined products

Electricity Production

-10.0% Yrs 2005-2010

Graph 2, Source: EIU

3.0 Primary Energy Requirements of India Through the process of planned development undertaken over the last five decades, the country has taken major strides in stepping up the production of primary commercial energy. Coal continues to be the main source of primary commercial energy not only for direct energy use in industry but also for indirect energy use through power generation. Concerted efforts made in exploration and development of hydrocarbons has led to a significant step up in the production of oil and natural gas. However, in the recent years, the production of crude oil has been stagnating. The availability of hydro-electricity has also increased significantly. There have been additions to nuclear power generation capacity as well as power generation from nuclear power plants. The wind power generation has also picked up significantly during the last few years. Graph 3 below depicts the expected growth in demand for energy across various sectors in India by 2019-2020 as projected by world energy council. These projections are done as per the past and current trends in the global business scenario and also takes into account the overall availability of resources and the likely growth in the demand for energy in the economy. The three major consumers for energy are expected to be the household segment, industrial sector and the transport segment.

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W H I T E P A P E R 3.0 Primary Energy Requirements of India ENERGY: Indian Demand- Supply Gap

Expected sectoral rates of consumption (Year 2019)

7%

5%

Household Commercial Industry Transport Agriculture Others

32%

29% 24%

3%

Graph 3, Source: WEC The current per capita commercial primary energy consumption in India is about 350 kgoe/ year which are well below that of developed countries. Driven by the rising population, expanding economy and a quest for improved quality of life, energy usage in India is expected to rise to around 450 kgoe/ year in 2010 growing at a CAGR of 6.5 %. Graph 4 depicts the expected consumption pattern in India over the next 5 years and the highest growth segments are coal, natural gas, electricity and petroleum.

6.5%

7.2%

6.6%

6.5%

Pr od uc ts ed

Re f in

Pe tr ol eu m

as ra lg

N at u

Co al

y

5.3%

Yrs 2005-2010

Graph 4; Source: EIU

5.6%

El ec tr ic ity

8.0% 7.0% 6.0% 5.0% 4.0% 3.0% 2.0% 1.0% 0.0% En er g

CAGR

Expected Demand in primary energy consumption

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W H I T E P A P E R 3.0 Primary Energy Requirements of India ENERGY: Indian Demand- Supply Gap

Coal Coal is the most abundant and important component of India’s energy matrix with an increasing domestic demand at CAGR of 7.2%. India holds the 4th largest coal reserves in the world and is one of the cheapest suppliers of coal. Coal serves as the primary source of energy for the 25% of the population in India which is below the poverty line. India’s industrial production in sectors like textiles, chemicals, food processing, steel, transportation equipment, cement, mining, petroleum, machinery etc. is growing annually at a rate of 7.9% for which coal forms the major input. The power sector accounts for 70-75% of the total coal consumption but the domestic coal production is still not able to suffice the power generation requirements in India hence it imports over 1 billion kwh of electricity.

Oil India stands way behind US and China in its annual oil production capacity of oil at 24th position in the world; being able to produce only 785,000 bbl/day which sums up to only.98% (approx.) of the world’s total annual oil production. Inspite of having 5.7 billion bbl of proved oil reserves India stands the 10th largest importer of oil in the world and depends mainly on Saudi Arabia, Russia and Iran for its oil imports. The major mode of petroleum transportation in India is railways accounting for 43% usage whereas in US it is mostly through pipelines and coastal mode accounting for 92% usage cumulatively.

Natural Gas India has limited natural gas resources although the demand is rising at high rate and depends mainly on Russia for its gas imports. Natural gas is rated as the second fastest growing primary energy source in the world after coal as it burns more efficiently than coal and is the most preferred source of energy across the world. The industrial and electric power sectors are the major consumers of natural gas. India lies way behind in its natural gas reserves with less than 1% of reserves all over the world inspite of the recent KG basin discovery of natural gas reserves of over 20 TCF in 2005 whose production has not yet kick started. It is projected by EIA that the production of natural gas in both these countries will be increasing at an average annual rate of 3.5% and 4.9% respectively, where as the consumption levels will be increasing at 4.8% and 6.7% per annum for India and China respectively. This displays the huge supply shortage that the country might face in another 30 years and imports are expected to rise subsequently.

Refined Products Indian refined products market consists of high speed diesel, naphtha, fuel oil/low sulphur heavy stock, LPG, superior kerosene oil, motor spirit, bitumen, automatic transmission fluid, light diesel oil, lubes and others. Current consumption level of refined products in India is at 2623,000 b/d where as the production levels are above 1 Bn metric tones showing an optimistic view for the Indian energy sector. It is the only segment of Indian energy sector that provides foreign exchange revenues to the country. India’s refining capacity has nearly doubled from 1998 to 2005. India will add more than a million barrels per day of refining capacity through 2010 if all projects on the board materialize. In addition to it the geographical proximity to China and Japan is a forte for India’s refined products export market. Indian exports (on a net basis) are expected to exceed 900 kb/d by 2010 surpassing South Korea to be the 2nd largest refined products exporter in the region.

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W H I T E P A P E R 4.0 Regulatory Framework ENERGY: Indian Demand- Supply Gap

4.0 Regulatory Framework Energy sector has undergone major restructuring in the recent years with price deregulation policies initiated since 2002. The market has moved from the administered pricing mechanism to market determined pricing and now towards controlled pricing thus enabling the prices to be highly market driven hence minimizing the influence of government in petroleum pricing. This move has prevented the huge fluctuations in retail prices occurring due to changes in world oil prices.

Coal In the past years government has realized that the demand for coal will be far outstripping the supply, hence some major policy reforms have been introduced since a score to liberalize the market. PSUs no longer monopolize the mining of coal. The policy initiatives include:











Deregulation of coal pricing & distribution Withdrawal of budgetary support to coal PSUs Introduction of legally enforceable commercial supply agreements between the suppliers and consumers Coal mining has been liberalized to help iron and steel manufacturers grow on captive basis. Private companies setting up of coal washeries have been allowed 100% foreign equity investment in the Indian subsidiaries. Private companies with Indian subsidiaries engaged in iron & steel production and cement production have been allowed foreign investment to the level of 74% Automatic approval route for Reserve Bank of India for foreign direct investment in the equity of Indian companies up to 50% has also been allowed. JVs in the existing mines and new greenfield projects opened up with 49% equity for private players.

However the domestic and foreign entrepreneurs have given a lukewarm response as regulatory regime is still not flexible, smooth and investor friendly. There are restrictions imposed on selling surplus coal and numerous clearances are required from the Govt. agencies; which makes the Indian energy sector challenging for foreign investors.

Oil and Refined Products Some of the major regulatory reforms in this category are:







Abandonment of full privatization of the state-owned petroleum sector which are profit making. Price deregulation SEZ for petroleum products Reforms in exploration licensing policies

The government realized the potential benefits of synergizing the public and private sectors soon after liberalization. Hence it is emphasizing on accomplishing various public-private sector partnership to build up the industry. Government is planning major investments of around USD 15-20 Bn in establishing gas pipelines across borders. Targeted pipelines under the spotlight are Iran-PakistanIndia pipeline, Myanmar- India pipeline, Afghanistan-Pakistan-India pipeline to supplement the supply

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W H I T E P A P E R 5.0 Conclusion ENERGY: Indian Demand- Supply Gap

which is projected to grow at an average rate of 3.2% over a period 2002-25.

This entails a

significant investment in the production capacities too.

5.0 Conclusion Demand outlook for India between2005-2010 is very strong due to high economic growth rate and huge population of India which is growing at a CAGR of 1.4%. The high rate of economic growth is likely to be accompanied by an increasing per capita income and changes in life styles. This will have an effect on the energy demand. The supply is not expected to catch up with the demand in near future or even later. With the supply demand gap widening there would be tremendous opportunities for all global and local players to invest and meet these challenges. India offers a huge domestic market potential for the global oil majors with a current estimated market size of 71 Bn USD for oil and gas market alone making it one of the most attractive industries in terms of business potential. Various new energy reforms and initiatives by the GOI coupled with industry initiatives will help to close the supply demand gap. India’s complete potential is still left largely unexploited. The proven commercial productivity basins are mostly concentrated on the coastal regions of Gujarat, Maharashtra, North eastern states and south east coastal regions. But huge potential prospective basins are still left under utilized lying in major areas of Maharashtra, MP and Ganga basins.

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W H I T E P A P E R Disclaimer: ENERGY: Indian Demand- Supply Gap

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