Merger, he said

You have to hand it to Petroleum Minister Mani Shankar Aiyar. When he’s convinced of something, he keeps at it. So, when the Synergy in Energy committee that he set up to recommend merging of the oil sector PSUs into two behemoths rejected the idea, he’s now got the go-ahead to set up another committee which will consider the issue of integrating the oil PSUs all over again.

On the face of it, the argument in favour of merging oil companies is a simple one. Globally, all oil majors are vertically integrated, which is to say they both drill for oil as well as process it and then sell petrol and other refined products to the end consumer.

The global majors are also much larger than India’s oil PSUs. So, if you merge HPCL with ONGC, for instance, the combine becomes much larger and can play in the big league (read: attempt global takeovers). Also, since the prices of crude and petroleum products move with a lag, an integrated oil company’s cash flows look better.

The problem with this approach, however, is that the history of large mergers is poor, the latest high-profile disaster being the HP and Compaq merger, which finally saw Carly Fiorina lose her job. In the Indian scenario, where oil companies may not have the freedom to seek cost reductions born from synergy, the chances of failure are higher.

In any case, if vertical integration is what Mr Aiyar wants, it is surprising that companies like ONGC that want to get into petrol retailing are being denied permission to do so. It is surely better for a company to grow organically than through mergers, especially ones that are being decided by politicians.

It doesn’t help that, when merged, the resultant oil PSUs will make them impossible to privatise, given that the funds required to buy them will be that much greater and given also that the “national champion” argument becomes that much more powerful.

Also, since the Cabinet has decided that one company in each segment of the hydrocarbon chain will remain a PSU (ONGC in oil exploration, GAIL in gas and IOC in refining-marketing), any merged company that has any of these three companies cannot be offered for privatisation.

All these aside, the real issue for consumers is increasing competition, and that is something the proposed mergers will work against. Even now, though under the direction of the government, oil companies act as a cartel and control prices.

Indeed, there is little doubt that the process of fixing prices includes hefty margins for the oil firms—it is a different matter that since global oil prices are so high, these margins are inadequate, which is why the oil firms are making losses.

Merging oil companies will only make this cartelisation worse. The other reason for not merging, of course, is that with the merged oil comany’s finances in better shape than that of the individual companies (if all goes well, that is), the government will use this as yet another excuse for not allowing oil companies the freedom to charge market-determined prices.

If the merger had already taken place, for instance, and IBP was merged with ONGC, the government would find it easy to ignore the fact that IBP is going to slip into losses due to non-revision of prices, since ONGC has enough profits to cover IBP’s losses. The real issues in the sector are increasing productivity and competition, and the proposed course of action is not a solution.