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Strings attached in Cairn/Vedanta deal

Vedanta Resources is inching closer to its proposed take-over of Cairn India, after the Indian government cleared the long-delayed deal

The transaction will give the London-listed Indian mining group control of one of India’s biggest onshore oil assets.

Oil minister Jaipal Reddy has granted Vedanta Resources conditional approval to buy a 40% stake in UK explorer Cairn Energy’s Indian business, nearly 11 months after the pair first unveiled plans for the $6 billion sale – one of the largest in India’s energy sector.

But there are strings attached. The government requires that Cairn India’s new owner share lucrative oilfield royalty payments with state-owned Oil and Natural Gas Corporation (ONGC) – which has a 30% stake in the Cairn-operated Rajasthan blocks, in western India, but pays 100% of the royalties.

Less-favourable terms

The revised terms are less favourable for both buyer and seller. But completion of the deal would allow Cairn Energy to focus on, and fund, its Arctic exploration campaign in Greenland. While Vedanta’s founder, self-made billionaire Anil Agarwal, will realise his plans to secure a slice of India’s strategic energy reserves and exposure to surging domestic demand – transforming Vedanta from a mere metals-mining company into an influential, integrated natural-resources group.

Cairn Energy’s founder, Bill Gammell, has previously described the proposed sale as a litmus test of whether foreign companies can exit from Indian investments in a time and manner of their choosing.

Meanwhile, the lengthy delays are curbing investor sentiment in India’s upstream sector (PE 12/10 p37). According to R S Sharma, a former chairman of ONGC who led opposition to the royalty provision, a conditional approval by the government would not go down well with investors. Sharma says it is against global practices. And although ONGC has a case as far as royalty payments are concerned, it should not have been linked to the approval.

Cairn and Vedanta cut the price of the deal for the stake in Mumbai-listed Cairn India, from $6.65 billion to $6.02 billion, just days before the government’s decision last week. The creative strategy is interpreted by analysts as bringing the pair closer to agreeing to India’s demand that royalty payments be shared, which effectively reduces Cairn India’s profitability.

Deal, or no deal?

But Cairn India’s board, which is due to meet later this month, has long resisted suggestions that it should scrap a pre-1999 deal under which Cairn India pays no royalties on production – an incentive offered by the government to encourage foreign oil and gas exploration companies to bring their expertise to India. Indeed, parent Cairn Energy or Vedanta may have to bulldoze minority shareholders, for which acceptance of the government’s conditions would lower the value of Cairn India’s assets.

Vedanta will split the transaction into two parts: by 11 July, it will hold a 28.5% stake, buying a 10% share from Cairn Energy -- leaving the UK firm with a controlling stake of 52.2% -- 10.4% of Petronas’s 14.9% holding and 8.1% from institutional investors.

It will then secure another 30% from Cairn Energy once it clears the government’s regulatory hurdles, leaving Cairn Energy with a 22.2% share and exposure to future expansion. Vedanta is waiting for the official announcement of the approval and details of the pre-conditions from the government.

 

The strategically important Rajasthan Block RJ-ON-90/1 holds at least 6.5 billion barrels of oil equivalent (boe/d) in place and began production in 2009.The fields are the biggest onshore energy resource discovered in the past two decades in India, which relies on imports for about 70% of its energy needs. The block’s capacity of 130,000 boe/d has the potential to reach 205,000 boe/d with the planned start-up of a fourth processing train later this year and potentially 240,000 boe/d.

Cairn Energy secured the operatorship of its Rajasthan assets in 2002 with the purchase of Shell’s 50% stake for a knock-down price of just $7 million (PE 2/06 p21). Cairn India made a third-quarter net profit of Rs20.1 billion ($448 million) in the financial year ending 31 March 2011, from production of over 100,000 boe/d.

As well as interests in Rajasthan, the company operates the producing Ravva block in the eastern Krishna-Godavari basin and CB/OS-2 block in the western offshore Cambay basin. It holds other exploration acreage in India, and offshore Sri Lanka. Damon Evans, Singapore

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