Urea investment policy – a flop show, yet again

The Cabinet has recently approved an ‘amended’ new urea investment policy (UIP) which was notified in January 2013. The amendment drops the provision of guaranteed buy-back of urea from projects covered by it. Key features of the policy are in order.

It assures investors in green-field and revival projects of sick public sector units of FCI & HFC a price linked to import parity price (IPP) with a floor (F) US$ 305 per ton and ceiling (C) US$ 335 per ton. This corresponds to gas price of up to US$ 6.5 per mbtu.

For increase in gas price beyond this level, it provides for suitable adjustment in ‘F’ and ‘C’. Thus, for each $ increase up to US$14 per mbtu, these would increase by US $ 20 per ton each. For gas price increases beyond US$14 per mBtu, manufacturers would be eligible only for ‘F’ price with full protection for gas cost.

For price up to US$ 14 per mBtu, maximum mark up works out to US$ 150 per ton [(14-6.5)x20]. Therefore, ‘F’ can go up to US$ 455 per ton and ‘C’ to US$ 485 per ton. If a unit is on imported LNG paying US$ 20 per mBtu, applicable ‘F’ will be US$ 575 per ton [305+(20-6.5)x20].

IPP for a month will be lower of actual average CIF price of urea imported in to India during preceding three months and IPP reported in Fertilizer Market Bulletin (UK); Fertilizer Week, British Sulphur (UK) and Fertecon Weekly Nitrogen Fax (UK) during same preceding three months.

IPP for a month equals f.o.b (free on board) price Arabian Gulf (AG) plus freight for AG. Average of f.o.b price and freight mentioned in 3 magazines is to be taken. The exchange rate will be average exchange rate during same preceding three months.

The manufacturer of urea from green-field project and revived projects of FCI/HFC will receive 95% of IPP – determined as above – subject to specified floor and ceiling.

For substantial expansion at existing location or brown-field project, IPP are subject to floor of US$ 285 per ton and ceiling US$ 310 per ton. Producer will receive 90% of IPP. Variation in gas cost will be covered @ $20 for every $ increase.

For production from revamped projects, ‘F’ and ‘C’ are US$ 245 per ton and US$ 255 per ton. These are for gas price up to US$ 7.5 per mBtu. Producers will receive 85% of IPP. Variation in gas cost will be covered @ $22 for every $ increase.

Increase/decrease in ‘F’ and ‘C’ price will be calculated at end of each quarter on the basis of average gas price of previous three months. Accordingly, IPP shall also be computed each quarter for each plant. Gas prices are to be taken on ‘delivered’ basis.

The policy provides for subsidy on domestic sale of urea for 8 years from start of production. Projects that start production within 5 years from date of ‘amended’ notification will be covered.

The stated objective of policy is ‘(i) to allow market forces to operate for new urea units and (ii) attract investments in sector for required indigenous capacity addition leading to increased production of urea domestically’. Alas, its contents are completely out of sync.

Government seeks to perpetuate controls to a point of micro-managing each unit. It prescribes different prices for different project categories and each unit gets a specific price. Incentives and dis-incentives – hallmark of market forces – are missing.

If, a revamped plant can deliver urea at a lower cost than green-field or brown-field, why should it be denied that advantage? If, a unit can manage to procure LNG at lower price, why should it not be incentivized?

Under new pricing scheme (NPS), each of 30 operating units gets a specific price which can be as high as Rs 45,000 per ton. UIP exacerbates heterogeneity and does nothing to rein in cost as price can go up to a high Rs 34,500 per ton (575×0.95×63) or even higher depending on gas cost.

As regards attracting investment, mere assurance of good price will not enthuse investors. Critical factors are access to gas, ability to sell entire production and getting paid in time. But, there are lingering doubts in each of these areas.

There is not enough domestic gas to run even existing gas based plants which account for about 80% of urea capacity. Nearly 30% of gas requirement is met from imported LNG. The situation will only deteriorate in years ahead.

Thanks to guaranteed buy-back initially, fertilizer firms came in droves submitting proposals for total of around 18 million tons capacity vs deficit of 8-9 million tons. Now, with this safety harbour gone, interest has declined dramatically.

Even those players left in fray, face a huge risk as inability to sell to farmers would mean that surplus urea is either exported or sold to makers of complex fertilizers. Saddled with high production cost, they won’t be able to compete with global supplies.

As regards payment, due to under-provision, situation is so pathetic that during 2014-15, net funds available (after clearing arrears of Rs 38,000 crores from 2013-14) will be Rs 30,000 crores. This is against requirement of around Rs 90,000 crores! The money will get exhausted in just 3 months leaving industry high and dry for remaining 9 months.

Given government’s obsession with fiscal deficit red lines, under-provisioning for subsidy will continue to rule the roost. New projects under UIP will also have to bear the brunt.

In 2008, Government had brought in a UIP whose basics were similar. That was a flop as a mere 2 million ton was added vide revamp route. This time too, outcome won’t be different!

A coherent policy is needed for all units, existing as well as new. Government should adopt pending GoM recommendation (2012) for  a nutrient based scheme (NBS) for urea on same lines as for P&K fertilizers.

Under NBS, a uniform subsidy Rs per unit nutrient is given to all units and they are free to fix selling price. This will inject competition, lower cost, reduce subsidy and remove imbalance in nutrient use leading to higher crop yield.

Will new political dispensation at the helm – post elections – bite the bullet?

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