NATURAL GAS PRICE HIKE

Move to Help Lure More Investments, Benefit Producers 

The proposed increase in natural gas price will attract more investments and help improve domestic availability in the next few years. It is good for producers as well as transporters and even consumers, excluding those who are subsidised. A barrel of crude oil typically translates into slightly less than 6 million metric British thermal units, or MMBTU, and at $100 per barrel it costs roughly $17 per MMBTU. The energy equivalent cost of refined products such as LPG, petrol and diesel is even higher. Compared to this, the natural gas price even at $8 per MMBTU is substantially lower. In other words, even at the higher price, there will be growing demand for natural gas as consumers switch from liquid fuels. Still, coal will compete as a cheaper alternative. Domestic production of natural gas has been stagnating for a long time. The annual average rate of growth for India’s natural gas production was just 1.2% for the last decade. In fact, during the last three years, production has fallen at over 10% on an average annually with the KG basin output crashing. It is imported natural gas — in the form of LNG — that is increasingly used to bridge the gap. Over one-third of the natural gas consumed within the country is imported. But it is the power sector which will be worst hit. “If gas prices were to increase from the current levels, gas-based power plants would move further down in the merit order despatch schedule, thus increasing offtake risks. The benchmark cost of generation from a domestic gas-based power plant could be 53% higher at . 5.41/kwh, compared with a coal-fired domestic plant operating at benchmark parameters,” says Salil Garg, director, corporates at India Ratings. However, the opinion is somewhat divided. According to Debasish Mishra, senior director, Deloitte Touche Tohmatsu India, a landed cost of up to $10 per MMBTU could be manageable for the power industry since the cost of power would still remain below . 4.5 per unit at that price. For the fertiliser industry, the gas price is pass-through, so any hike will have an impact on the fertiliser subsidy bill. However, the key question, as Deloitte’s Mishra points out, is whether there will be any immediate improvement in the domestic availability of natural gas if the gas prices are raised. Needless to say, the development is positive for the producers such as ONGC, Oil India and Reliance Industries and the only question could be which one benefits the most. A report from Macquarie, a foreign research house, mentions ONGC and Oil India as the biggest beneficiaries with potential profit growth of 10-14%, but cautions against a subsequent increase in subsidy burden. For Reliance Industries, it estimates net profits of FY15 to gain 2% from every $1/mmbtu increase in gas price. 

MBIQUE BLOCK DEAL: ONGC, OIL may See Returns in Long Run Only

The signing of the much-talked about deal involving state-owned companies ONGC and Oil India to acquire the 10 % stake of Videocon Industries’ in the Rovuma field offshore in Mozambique could prove expensive, because of the long gestation period of the project. Although the deal will boost the hydrocarbon reserves of the buyers, it will take several years before the deal actually translates into revenues and profits. The amount—$2.475 billion which the consortium has agreed to pay for the 10% stake—values the entire block at $24.75 billion, which is around 12% higher than the valuation of Cove Energy-PTT deal in May 2012. This along with the recent rupee depreciation means the acquisition is at a considerable premium to the earlier transaction. Yet, funding the acquisition is not a major concern for both ONGC and Oil India, since both companies have adequate cash balances. The gestation period is going to be long for the project, which can support a 50 million tonne per annum LNG export terminal. Anadarko estimates first sales to start in 2018, which is subject to timely government approvals and project execution. The investment now and over the next few years will generate revenues only after five to seven years. The valuation which has been agreed upon and the long gestation could make this deal expensive, according to a few market analysts. A report from Barclays says that the valuations are 60% higher than the bank’s base-case value of $1.5 billion. This is based on assumptions such as $20-billion capex for the first two LNG trains, $13.7 per mmbtu LNG price, 35 TCF reserves and commencement in 2020. Undoubtedly, the acquisition will boost the hydrocarbon reserves of ONGC and Oil India considering the huge natural gas deposits discovered in the block. Anadarko, the operator of the field, has estimated the recoverable reserves in the range of 35 to 65 trillion cubic feet. The field is yet to be fully explored, which means there is a possibility of further accretion in the future. In the near term, the deal will not impact the earnings of ONGC and Oil India, other than the loss of interest income. In the long term, however, this asset could be critical.

CAIRN INDIA: Underperforming, But Analysts’ Favourite

Cairn India appears to be still a favourite among analysts in brokerage firms tracking it despite the stock grossly underperforming the markets over the past year. The stock has lost close to 12% in the past year against the 13% gain of the benchmark BSE Sensex. 
The underperformance is mainly due to investor concern relating to the company’s production, which has become stagnant much before expected. The natural decline at its biggest oilfield, Mangala, resulted in Cairn’s March quarter production dipping below the Dec ’12 quarter output. 
The company has investment plans to ensure that the production dip is arrested early and that other fields start producing in time, which should enable it to produce over 2,00,000 barrels daily from its Rajasthan field by March 2014 — over 15% higher than the current level.
This doesn’t appear to have enthused investors since the company is battling other problems. Cairn’s profit-sharing with the government is set to go up, while its renewed focus on exploration work in Rajasthan as well as other blocks makes it susceptible to sudden write-offs if its efforts go awry.

ONGC Project Delays, Flat Oil Output a Worry

India’s biggest oil and gas producer, the state-owned ONGC, is losing favour among the analyst community due to concerns over production growth. The expected revision in natural gas prices could be the only positive trigger for the stock and for investors, the upside would be only in the long term. According to the data compiled by Bloomberg, the percentage of analysts recommending a ‘buy’ on ONGC has come down to 67% in June from over 73% in May. The reason appears to be two-fold. ONGC’s results for the March quarter, published on May 29, turned was disappointing in spite of a benign subsidy burden. This was mainly due to the jump in exploration costs. “4Q exploration costs at . 4,740 crore were above our expectations of about . 3,000 crore,” said a Goldman Sachs report on the earnings. The second reason is more chronic in nature. ONGC has faced a prolonged stagnation in crude oil production. “ONGC’s crude production declined to 22.6 million tonnes in FY13 from 23.7 MT in FY12, while gas production remained flat at 23.6 billion cubic meters… its crude production in particular has declined at 2% CAGR in the last eight years,” said Jefferies. FY14 was supposed to be a turnaround year for the company’s output, but delayed projects are making analysts cautious. “ONGC has progressively cut its FY14 domestic oil output target, but still reiterated 25.3 million tonnes in its recent analyst meeting. Our forecast that follows from the state of its 40 projects is 7.5% lower at 23.4 MT,” said a research report from Barclays Capital. Apart from the natural gas price hike, it is production growth that will act as a catalyst to the company’s share price. ONGC is working on several projects that include intensive or enhanced oil recovery (IOR/EOR) for its old fields apart from bringing several marginal fields under production over the next 2-3 years. This should help the output rise by an average of 5%-6% each year between FY14 and FY16. However, the biggest gains would come only in FY15 and FY16. Retail investors should be prepared to wait for 2-3 years for a meaningful upside in the scrip. 

India Inc’s Performance Fails to Impress, Again

Companies’ falling revenues and weak profit margins in the March quarter of 2013 reflect the country’s lacklustre GDP growth

    The March 2013 quarter results season has drawn to a close with India Inc’s scorecard more or less reflecting the country’s GDP growth performance, which at best can be described as lacklustre. Revenue growth is slipping, profit margins are dull, while the bottom line depends heavily on non-operating other income. An ETIG analysis of aggregate numbers of 1,747 companies, for which the past 13 quarter’s data is available, showed that India Inc continues to face a slowdown in revenue growth. The sample excludes petroleum majors for their ability to skew the aggregates due to their disproportionate size, and banking and finance companies for their different business and reporting structure. Wherever available, consolidated numbers are considered. India Inc’s revenue growth during the March 2013 quarter was just 4.8% over the same period last year, which was lower than 6.6% of December 2012 quarter and slowest in at least two years. The operating profit margin, or the pre-interest depreciation-tax profits on every . 100 of sales, dipped below 14% — lowest in the past 13 quarters at least. This was mainly because of a rise in staff, fuel and other expenses, although raw material costs were benign. The pressure of interest and depreciation costs was slightly lower during the quarter compared to the immediately preceding couple of quarters, which enabled net profit margins to maintain a level on a sequential basis. However, this doesn’t mean there is any meaningful correction in interest or depreciation costs of India Inc.
The mid-season result reviews done earlier, when the results season was under way, had projected a positive picture: there was an expectation that India Inc’s performance might have bottomed out with hopes for an uptrend. However, the aggregate results review shows that there are hardly any signs of a turnaround.