While debate is raging on social media regarding petroleum prices, ticking time bomb of growing gas circular debt is conspicuous by its absence in these discussions. Consumers are addicted to inexpensive gas even though reliable supply (at throw-away prices) is rarely available to the poor. This is evident from the fact that Sui companies (SNGP and SSGC) have 11 million gas connections – which is one third of the country’s households – while rest rely on expensive LPG and other sources. Even those belonging to higher income segments lament gas pricing revision, even if they comfortably pay a higher bill (relative to their monthly gas bill) for two people dine out in a decent restaurant.
Provision of cheap gas to households was manageable back when domestically produced gas was abundant to meet local consumption requirements, and non-residential consumers (paying higher rates) were enough in numbers to cross-subsidize the domestic supply. With natural gas supply depleting, the marginally higher price paying customer (industrial, transportation and commercial) has moved towards imported RLNG, and the remaining good costumers are not enough to cross-subsidize domestic. Thus, receivables start building up due to the gap of cost and revenues of the Sui companies. Moreover, the supply of expensive LNG to domestic consumers in winters at a small fraction of full cost is further exacerbating the receivables.
When Sui companies are unable to collect sufficient revenue from consumers, they are unable to pay to their gas suppliers – mainly two state-owned E&P (Exploration and Production) companies – OGDC and PPL. And when these Sui companies don’t recover cost of imported RLNG from customers, they fail to pay to LNG providing state- owned companies- PSO and PPL. This chain of non-payments is known as gas circular debt. It is similar to power sector circular debt that has grown into a monster over the last two decades. Now another monster is in the making. Power circular debt stands above Rs 2,500 billion while gas circular debt is hovering at Rs 600-700 billion and growing.
E&P companies are usually cash rich and spend on exploration of oil and gas wells and fields. A few of these explorations become successful and produce oil and gas for decades to earn. Due to build-up of power circular debt, E&P companies’ ability to explore is hampered, as they do not have enough cash flows. A few foreign E&P companies exited Pakistan; while the domestic companies (being state owned) survived but are far from thriving. Now the gas circular debt is further damaging companies such as OGDC and PPL. And because of this, country’s energy security is challenged and its reliance on imported fuel is growing.
The issue of gas circular debt is not as complex as the case of power. Gas prices for domestic consumers in Pakistan are cheap and its use is inefficient. With higher electricity prices, the market for energy saving lighting and air conditioning grew, and today it is hard to find old style window ACs installed in homes and offices. Today, even high-end architects incorporate energy conservation in their design. Similarly, use of solar panels is growing. However, in case of gas, use of age-old extremely inefficient geysers, heaters and stoves is common among domestic consumers who are otherwise conservation-savvy when it comes to electricity. Pricing does impact consumer behavior.
The government needs to articulate a narrative for the right energy use and should use pricing to signal to consumers that the country is running short of gas supply. One element is to encourage use of electricity during winters in homes and offices for space and water heating. The government has announced that incremental use of electricity in winters (relative to previous years use in same months) is to be provided at marginal cost. Concurrently, the government must increase gas prices for Sui companies to generate enough revenues to match cost. Ad campaigns should be run on media to educate the public and to buy reversable inverted ACs, electric heaters, and efficient geysers. The government should reduce taxes on these appliances in order to make them affordable.
These steps are required to arrest gas circular debt flow tap. The foremost need is to clear the already built-up of outstanding debt stock. That is not only hampering E&P companies’ exploration activities but also impacting government’s non-tax revenues from these companies in the form of dividends, and it is adversely impacting the stock market performance as these listed companies are heavyweight entities but underperforming.
The government owns 75 percent of PPL’s and 85 percent of OGDC’s shares. These two companies’ combined un-appropriated profits (retained earnings) are over Rs 900 billion (PPL Rs 215 billion; OGDC Rs 689 billion) as of March 2021. But because of cash flow problems, they are not paying enough dividends. If Sui companies pay them their due share, these E&P companies can pay majority as dividend to government. Then the government will also earn on tax on dividend to be paid by private shareholders. Moreover, this will bring life back to fundamental stocks at PSX where these two companies are trading at price to earning (P/E) multiple of less than 4. The share prices can easily double as 10 years historic P/E multiple is above 8.
As of 31st July 2021, SNGP payables to these two companies stood at Rs 272 billion (OGDC: Rs 128 billion; PPL: Rs 144 billion) and SSGC payables are at Rs 257 billion (OGDC: Rs 150 billion; PPL: Rs 107 billion). These gaps are pertaining to gas circular debt on domestic natural gas supply and are on principal amount (without any accrued interest). Then SNGPL has payables to LNG supplies – at Rs 105 billion — due to PSO and PPL. These are all tariff differential numbers — difference between the cost and determined tariff by the regulator.
One proposal is to partially convert these tariff differentials on both LNG and domestic gas into public debt — in the form of PIBs and Sukuk. For example, issue Rs 150 billion of SNGP payable — Rs 50 billion of RLNG and Rs 100 billion of domestic natural gas — and Rs 50 billion of SSGC on natural gas. Use this Rs 200 billion from Sui companies to pay Rs 100 billion each on pending receivables to OGDC and PPL. And let these E&P companies pay dividend – Rs 160 billion will come back straight to the government and part of the rest will come back in the form of withholding tax on dividend from private shareholders.
These steps are no-brainers to ease the chocked system liquidity. The circular debt eventually ought to come on government’s books. It is better to do it now, to bring life back to these companies. But more importantly, the government must take tough decisions of gas prices upward revision to close the tap. These decisions are tough because the nation is addicted to cheap natural gas. Otherwise, these decisions make total economic and commercial sense. But we all know, it is not an easy task to handle addictions.
Copyright Business Recorder, 2021