By R. Sasankan

The COVID-19 pandemic has torpedoed plans and projects across the world. India is also grappling with the deleterious ripple effects of the Black Swan event. The Narendra Modi government's decision to privatise the Mumbai-based Bharat Petroleum Corporation Ltd (BPCL) -- the country's second largest oil marketing company -- has run into problems as well. The Union cabinet decided to sell off the government's 52.98 per cent stake in November last year and the preliminary information memorandum seeking expressions of interest (EOIs) was released on March 7. The deadline for submission of the EOIs has been extended three times since then with the latest one set for September 30. The government is determined to go through with the sale; it is after all, critical to the achievement of the government's aim to rustle up Rs 1200 billion through the sale of shares of public sector companies this year. On present reckoning, the BPCL sale could happen before the end of the current fiscal.

The government is keen to sell the stake to an international oil major as this would inject a modicum of competition in a tightly-controlled domestic market for retailing petroleum products. The intention is noble but the pandemic has wrecked the plans as no one is prepared to stump up the huge price that the government expects to realise for its BPCL stake. The real competition has now boiled down to two players: Saudi Aramco and Russia’s Rosneft.

If industry sources are to be believed, Aramco faces a serious threat from Rosneft whose strategy is being shaped by Russian President Vladimir Putin. That is just the sort of situation that allows Reliance Industries Ltd (RIL) -- one of the canniest players in the Indian market -- to emerge as a crucial player in the mix. At present, Aramco and Reliance are wrangling over the enterprise value of RIL’s oil-to-chemicals (O2C) division which will be spun off soon from the conglomerate. Last year, Aramco had agreed to pick up a 20 per cent stake in the O2C entity for $ 15 billion. Since then, Aramco has been trying to knock off $ 2 billion from the valuation -- a stand that Mukesh Ambani finds unacceptable. At that point of time, the deal was critical to RIL's plans to emerge as a net debt free company. Once the talks with Aramco stalled, Ambani was able to more than meet that goal by raising Rs 1520.56 billion through the sale of 33 per cent stake in Jio Platforms to 13 investors in an aggressive capital-raising spree that began on April 22 and was concluded by July 15 that was bookended by Facebook and Google.

Despite their differences, there is a strong personal affinity between Ambani and the Saudi rulers. So, no one can quite rule out the possibility of the two partners joining hands to make a joint bid for BPCL. RIL is after all flush with cash. A joint venture with RIL will be more acceptable to the hard-core elements within the BJP that are not comfortable with an entity from the Gulf acquiring a controlling stake in BPCL. RIL's presence will effectively mollify them.

But that still leaves a crucial question unanswered: Will the government get an attractive price for BPCL? Is the government going to be so hard-nosed in its negotiations that it will be driven solely by price considerations? Or is there a larger strategy behind the privatisation of the country’s second largest downstream company which enjoys a 25 per cent market share?

To understand the issue of valuation of the asset, I just checked the BPCL share price (last week). It is up 65 per cent from its 52-week low but is still 25 per cent below its 52-week high. The Price-to-Earnings ratio (P/E) is just below 34. IOC, on the other hand, has risen by only 25 per cent from its yearly low and about 45 per cent below its 52-week high. Yet, it commands a P/E ratio of over 66.

HPCL is 39 per cent above its 52-week low but still 35 per cent below its 52-week high and has a P/E of under 13. The price to book value of BPCL is 2.7 times, HPCL is 1.1 and, in the case of IOC, it is only 0.9. In other words, the market price of IOC stock is below its Book Value yet it commands a stupendous P/E --reflecting an extremely high valuation while HPCL in comparison has a very low valuation.

This makes no sense quite honestly. And it points to a troubling issue: the bids for BPCL will probably come in well below its prevailing market price. The only way that such a situation can be avoided is if the contest between Aramco and Rosneft becomes so fierce that it prompts them to quote a higher price.

This brings us to a very important aspect in the debate over the quiddities of the BPCL sale. Acknowledged oil experts feel that even if the contending parties quote a higher price, there is little value in selling BPCL to an outsider. In their view, it will be far more prudent to merge BPCL with Indian Oil Corporation (and throw in HPCL or the ONGC refinery for good measure) to create a large downstream company. This will make the IOC stock more valuable and the government can then dilute a small part of its holding in the new IOC to meet its disinvestment objectives. Of course, this could be wishful thinking since the government remains resolute in its decision to privatise BPCL.

I have come across oil experts who see no value now in investing in an existing or new refinery. Refinery margins are minimal today, if not negative, for some refiners. Everyone is emphasizing the need to move into petrochemicals to stay profitable. But even here we have to contend with the fact that there is no real shortage of petrochemical capacity worldwide. So, the global interest in India seems to stem from the desire to grab a chunk of the country's crude and natural gas market that can grow by at least 2.5 and 4.5 times respectively if India attains the status of a middle income nation.

Saudi Arabia is not a big player in gas and is currently placed sixth in terms of gas reserves after Russia, Iran, Qatar, Turkmenistan and the US. Importantly, Saudi Arabia seeks to use gas internally and is not planning to become a major LNG player as its proven gas reserves are only 20 per cent of Russia's and 60 per cent of the US.

Aramco and Rosneft look extremely keen to get BPCL. India needs gas more than oil. According to experts, India should sell BPCL only if it is part of a much bigger plan that ensures long term supply of crude and LNG to India on reasonable terms. The government should explore the possibility of accessing LNG from Sakhalin via displacement under a tripartite deal: Sakhalin LNG can go to Japan and South Korea, and Qatar LNG contracted to these two nations can come to India. ONGC Videsh is already a minority partner in one of the Sakhalin projects. Rosneft can play a big role in facilitating such a deal.

The prospects for a deal with Aramco could brighten if the Saudi oil giant agree to jointly develop a gas field exclusively for India together with an LNG facility of say 40-50 MTPA with dedicated shipping (much like the Farzad deal with Iran that never came about). Such a deal could ensure long-term LNG supply to India at around $3/MMBTU CIF basis.

If the privatisation plan has to be seen as part of an overarching strategy for the petroleum sector, then we will need an honest and dedicated team that looks solely at India’s interests and refuses to allow its judgement to be clouded by narrow, self-serving or private corporate interests. The entire exercise will need to be monitored on a regular basis by the Prime Minister’s Office and ensure complete involvement of the petroleum minister.