In an attempt to attract fresh investment in the highly regulated fertiliser sector, the government will soon offer 12% post-tax return for those building new urea plants. These units will also get additional subsidy to cover the cost of liquefied natural gas (LNG) imports.
With this, firms like Matrix Fertilisers and Chemicals that are planning to set up new urea units will be able to use imported LNG, which costs three to four times more than domestic gas. Gas prices account for 80% of the cost of urea production and several companies willing to set up urea units are cagey since the pricing policy and subsidies offer no protection from the high cost of imported LNG. The extra subsidy will ensure that the companies are able to sell their produce in the domestic market at the maximum retail price of about R5,200 a tonne fixed by the government and still make a decent profit.
Domestic gas from Reliance Industries is priced at $4.20 per million British thermal unit (mmBtu).
Industry executives, however, did not find the proposal attractive enough, taking into account high borrowing costs and inflation which has stayed above 9% for 13 months till November 2011.
?While the 12% return on equity is fairly low, there is also the risk of not delivering this promised 12% if some costs are not considered for calculating subsidy,? said Tarun Surana, equity research analyst at Sunidhi Securities & Finance.
Currently, the government does not consider the marketing margin that Reliance Industries charges customers for subsidy calculation, although it is a real cost that buyers pay. Besides, industrialists have other avenues to deploy their resources, say in power projects, which offer 15.5% assured return on equity after recovering borrowing costs. The regulated tariff of power takes into account return on equity and borrowing costs.
The proposal is part of the new urea investment policy of 2012 finalised by a committee of secretaries led by Planning Commission member Saumitra Chaudhuri. The recommendations will go to a group of key ministers and then to the Cabinet committee of economic affairs. The government intends to make an announcement on this in Union Budget 2012-13.
An official privy to the discussions told FE that a decent return on investment after taking care of the the volatile cost of imported natural gas through subsidy is the best deal that could be given to new investors. This is in addition to the incentive of full deduction of capital expenditure from the taxable profits of new fertiliser units that finance minister Pranab Mukherjee announced in the last budget. A policy to promote investments in the sector announced in 2008 had not enthused many entrepreneurs as it did not protect new units from the volatile imported gas price.
More production capacity in the sector is crucial not only for food security but also for economic growth in the next five years, for which, policy makers are pinning hopes on the manufacturing sector. India now has a urea production capacity of 121 lakh tonne but the plant nutrient’s use by farmers is going up by 4.7% a year. Urea usually gets the largest share of total fertiliser subsidy except in years like 2008 and 2011 when commodities like phosphorous and potash that India entirely imports become expensive in the global market.