Recent media reports indicate that Aban Offshore Ltd, the country’s largest offshore drilling services firm, might sell its thermal power business. This is perhaps an option for the debt-ridden company to cut its rising finance charges that are eating into profitability and dragging down valuations.
The adverse impact of a high debt:equity ratio of around 4.5 (as at end-March 2012) is reflected in Aban’s performance over the past six quarters or more. A mismatch in cash flows from operations and debt-repayment began since its prized asset, Aban Pearl, sank in early 2010. Of course, the gross debt of around Rs 13,700 crore at end-March 2012 came down to about three-fourths of what it was three years ago.
At this juncture, the problem is the rising cost of funds. A report by Edelweiss Securities Ltd explains that the cost of funds has risen from 6% to 8.9% in two years as refinancing of bonds (which were due for redemption in December and March) has become more expensive in the global markets due to economic uncertainties.
Deep Driller 1, Aban offshore.
March-quarter interest costs, therefore, rose by about 28%, compared with the year-ago period, to a huge Rs 285 crore. This almost gobbled up the operating profit of Rs 422 crore, which had contracted by about 29% from a year ago. Lower operating profit was on account of slightly lower revenue due to lower-than-expected utilization of the rigs and the higher expenses incurred on maintenance of rigs.
In fact, fiscal 2013 is critical for Aban. Analysts say contracts of seven rigs come up for renewal, which the management is confident will continue. However, the contractual rates, which hinge on crude prices and demand, will determine cash flows from operations.
Further, four rigs deployed in Iran and comprising a little less than one-third of the total revenue could be faced with some payment issues, following sanctions from Europe.
The sale of non-core assets is one way to alleviate the problem. In fact, debt-ridden companies across sectors have been adopting the same strategy to cut their debt and interest burden. This might help improve valuations for Aban, given that its assets and operating profit margin in the region of 55-60% are comparable with global peers.
Aban’s shares have not only underperformed the Nifty mid-cap index on the National Stock Exchange, but have steadily slipped since December, when the strain on its balance sheet increased. For the moment, brokerages seem to have cut earnings estimates for fiscal 2013 by around 8-10%, which would dampen investor sentiment.
Graphic by Ahmed Raza Khan/Mint
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