Oil Producers See Higher Realisations Despite Windfall Tax Hike

The Union government has raised the windfall tax on domestically produced crude oil again recently by 41% from Rs 6,800 per tonne to Rs 9,600 per tonne. The hike comes amid a surge in global oil prices so far this year: Brent crude price rising 19.5% and the Indian basket of crude oil—a benchmark for import prices—experiencing a 16.8% increase.

While this tax increase suggests a potential dip in profits for oil production companies, a closer look at the data reveals a more nuanced picture. There might be somewhat of a cushioning mechanism in place to ensure a steadier income stream for the upstream when compared to historical prices.

The rise in Brent crude price has been fuelled by a tight global supply market and rising geopolitical tensions in the Middle East. Similarly, the Indian basket of crude oil, which is a calculated average price of Dubai and Brent crude and is used as a benchmark for the crude-oil India imports, has surged 16.8% since January.

Upstream companies stand to benefit from the surge in prices. The most direct benefit is a significant rise in revenue. Higher prices mean the upstream companies can sell their extracted crude oil at a higher-per-barrel market price. With production costs not necessarily increasing in proportion to the oil price hike, the significant revenue boost leads to higher profit margins for oil producers.

Introduced on July 1, 2022, the special additional excise duty, or the windfall tax, is levied on upstream companies like Oil & Natural Gas Corp. and Oil India Ltd. It aims to capture a portion of the unexpectedly high profits oil and gas companies can make due to a surge in global oil prices.

The windfall taxes are typically applied on the profit of the upstream companies, and basically limit excess profits that can be made by selling oil at higher market prices.

The realisation prices per barrel is derived from subtracting the average windfall tax per barrel for a month from the Indian crude basket price for the same month. The realisation price is the actual amount of money per barrel that upstream companies get to keep after the windfall tax is deducted.

India's oil basket price has been on a tear in 2024, reaching $90.46 per barrel in April, the highest since September 2023. This also marks a 14% jump from the average price in January.

The government has raised the windfall tax on crude oil production. In April, the tax stood at $13.17 per barrel, compared to the $3.22 rate earlier in January.

But despite the higher tax burden, oil producers in India might be catching a break. The realisation price per barrel in April stands at $77.29 per barrel. This is even better than the realisation price during the first three months when oil basket prices were actually lower.

When comparing the current realisation price (money kept per barrel by producers) to previous months with similar Indian crude basket prices, it seems producers are keeping more money now.

For instance, in October 2023, the basket price was around $90.08 per barrel, close to April 2024's $90.46. However, the windfall tax was higher at $14.57 per barrel in October compared to April's $13.17. This led to October's realisation price being at $75.51 per barrel, which is lower than April's price of $77.29.

This suggests a possible cushioning mechanism implemented by the government. While oil companies do pay more in taxes when prices are high, the current policy might be allowing producers to retain a larger portion of their profits compared to earlier, even when the crude basket price remains in a similar range. This could benefit companies like ONGC and OIL.