The Hindu Business Line : Pipeline wars loom in oil sector

THE first shot has been fired in the pipeline wars expected in the free market for the oil sector. Indian Oil Corporation (IOC), which controls two of the biggest and most critical pipelines in the country, has signified its intent to convert one of them, the Kandla-Bhatinda product pipeline, into a crude oil carrier. So what, you may ask. IOC owns the pipeline and it has every right to do what it wants with it. Right? Wrong. The issue is not as simple as it appears to be. In the free market scenario, pipeline ownership is set to be probably the biggest strategic asset for any player and IOC has just signified that it would use that to the maximum advantage. Welcome to pipeline wars.

Strategy in pipeline

In the oil business, logistics is a critical activity and those with the best logistics start off with a big competitive advantage. Typically, three major benefits accrue from an efficient system for transport of crude and products. First is, of course, cost savings. Transportation cost, be it on crude or products, is a major overhead that impacts marketing margins. And the transport of products by pipeline is certainly a much cheaper proposition than road or rail. This is especially so in such a country as India with its widely dispersed markets. Transportation costs acquire importance in a free-market set-up where every oil company has the freedom to set its own prices. Those with the most efficient logistical set-up obviously would be able to price their products cheaper than the rest.

Second, security. A secure transportation mode for crude supplies is a vital pre-requisite for any refinery. A refinery is a continuous process operation; any disruption in crude oil supplies can have potentially damaging consequences. What better way to ensure undisrupted flow of crude oil than own pipelines?

Finally, a good logistics set-up helps in capturing and maintaining market share. Such a need was never too important in a controlled market where the Oil Co-ordination Committee decided on product and crude allocations. In a free market, the company that controls pipelines would be more powerful and efficient than the rest when it comes to reaching products to its markets.

IOC's decisive move

By deciding to convert the Kandla-Bhatinda product pipeline into a crude oil carrier, IOC has scored in more than one way over the competition, especially private refiners Reliance Petroleum and Essar Oil. Expansion of refining capacity is a pre-requisite for IOC to maintain its status as leader. But this has been a problem because its refineries at Panipat and Koyali (Vadodara) are land-locked and the capacity at Mathura cannot be increased without Government permission given its proximity to Taj Mahal. By converting the Kandla-Bhatinda pipeline into a crude oil carrier, IOC can now move about 7.5 million tonnes of crude to Panipat for expanding its capacity. It can also leverage this pipeline to move crude oil to the Koyali refinery, where capacity can also be expanded. Thus, IOC would have addressed the basic problem of feedstock movement that held up capacity expansion at its major refineries.

However, IOC's move has a more significant impact. And that is on the private refiners, Reliance Petroleum and Essar Oil, for whom it is a major strategic blow. While the former already uses the Kandla-Bhatinda pipeline to move products into the northern market, the latter was planning to do the same once its refinery went on stream. These two companies would now have to make alternative arrangements to transport their products to the North.

The construction of a similar pipeline would take at least a couple of years and an investment of about Rs 2,500 crore. Considering that the pipeline was transporting about 7.5 million tonnes of products, it would be difficult to find alternative means to reach a similar quantity to the markets in the North. This is a big blow to both Reliance Petroleum and Essar Oil.

The loss of the two private refiners is IOC's gain. The space vacated by Reliance Petroleum from the Northern markets would now be occupied by IOC with products from the Panipat refinery. The proposed capacity expansion would come in handy for this purpose. The decision to convert the Kandla-Bhatinda pipeline is, thus, a master move by IOC. In one stroke it opens up a big market for itself even as it thwarts the competition.

With the complex network of pipelines owned by it, IOC can, at least in theory, make more such strategic moves to gain a competitive advantage over the others. Bharat Petroleum and Hindustan Petroleum can also act in a similar fashion albeit at a smaller level. Pipelines can be used in more ways to thwart competition in a free market; IOC has only shown one of them.

Needed regulation

IOC's move may be strategically brilliant but it raises the larger question of who will ensure order in the free-market post-April 1. Such pipeline wars will soon become commonplace as the PSU oil companies seek to carve out their own spaces in the market ahead of private sector competition. Petronet Ltd, a joint venture between PSU oil companies and a couple of private refiners, was formed precisely to ensure that pipelines, major strategic assets, are commonly owned among all the players and used on a shared basis. Petronet is on the verge of commissioning or has already commissioned a few pipelines such as the Kochi-Karur, Mangalore-Bangalore and Chennai-Madurai pipelines that have been implemented with equity participation by the interested parties. But what about those that are already in existence and owned by one or the other of the PSU oil companies? If they are shared, what will be the terms of sharing? Importantly, who will ensure that these terms are fair and there is no misuse of strategic power?

These are just some questions that would arise post-April 1. And sadly, we appear to have no idea yet of how they will be handled. It only underscores the need for the constitution of a regulatory authority at the earliest if the critical and strategic sector of oil is not to plunge into chaos.

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Pipeline wars loom in oil sector

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