Consequences of muted gas prices plus a strong rupee
Domestic gas prices for six months starting 1 April are set lower on a gross calorific value basis, albeit very marginally. Muted gas prices are not good news for state-run upstream companies Oil and Natural Gas Corp. Ltd (ONGC) and Oil India Ltd (OIL), but the revision was on expected lines. However, the rupee has been stronger and if the trend persists, then it can weigh on sentiment for these stocks.
So far in 2017, the rupee has appreciated about 4.5% against the US dollar. An appreciating rupee means lower oil and gas realizations for ONGC and OIL in rupee terms. According to analysts from Kotak Institutional Equities, a Rs2 appreciation against the dollar will result in around 6% negative impact on FY2018-19E earnings per share of OIL and ONGC.
Note that both the stocks have already underperformed the Nifty so far this calendar year. The above factors along with a muted outlook on oil prices could well keep meaningful upsides at bay in the near term. Currently, ONGC and OIL trade about 9-10 times estimated earnings for fiscal year 2018.
No doubt valuations are inexpensive. Some respite may be on the anvil on the gas price front. Analysts from Jefferies India Pvt. Ltd expect the gas price to be revised upwards to $3.5 per million British thermal units on a net calorific value basis in the next revision due on 1 October. “The visibility on this is reasonably high, given that the price will be based on benchmark prices between July 2016 to June 2017 and we already have data for 9 months,” Jefferies said in a report on 2 April.
Meanwhile, the rupee appreciation is also harmful for Reliance Industries Ltd. However, analysts say translation gains on its foreign currency debt will compensate to some extent. In any case, given the spectacular 27% appreciation in the stock so far in 2017, investors are unlikely to complain. Expectations that its telecom business will perform better than earlier forecast has led to a lot of optimism in the stock in recent months.
On the other hand, sustained low gas prices should benefit gas distributors such as Indraprastha Gas Ltd and Mahanagar Gas Ltd. Moreover, the rupee appreciation benefits these companies leading to lower raw material costs. In fact, there is scope for Ebitda (earnings before interest, tax, depreciation and amortization) margins to improve if they do not take a commensurate cut in compressed natural gas selling prices. Both the stocks have fared well on the bourses in the last one year.