ONGC investors await a clearer big picture

ONGC investors await a clearer big picture

Last week was an eventful one for Oil and Natural Gas Corp. Ltd (ONGC). News reports said that the government approved a stock split ahead of the company’s follow-on public offering (FPO) expected in early 2011. The government intends to offload a 5% stake in ONGC to mop up more than 10,000 crore and reduce its stake to 69.14%. Some reports also suggest a bonus issue in the offing.

Also See High Expectations (PDF)

Also, the government has approved a 10% increase in the price of natural gas sold to non-priority sectors such as steel and petrochemicals effective 1 December. ONGC, as also Oil India Ltd, has been allowed to charge up to $5.25 per million British thermal units (mmBtu) for 7–8 mscmd (million standard cu. m per day) of gas sold to non-fertilizer and non-power sectors. ONGC’s stock increased by 7% to 1,320 per share last week compared with the 4% increase in the Bombay Stock Exchange Sensex during the same period.

The hike in the gas price is expected to increase ONGC’s annual revenue by 200 crore and bottom line by 135 crore. That appears minuscule compared with ONGC’s consolidated net profit of 19,400 crore for FY10.

Nevertheless, the government seems to be making all the efforts it can to improve sentiment before the company’s FPO.

This fiscal, the Indian government made many positive policy changes for the sector as a whole. In June, APM (administered pricing mechanism) gas price was increased for priority sectors to $4.2 per mmBtu and brought at par with Reliance Industries Ltd’s KG D6 field rates. Also, petrol prices were deregulated and there was an increase in diesel, liquefied petroleum gas (LPG) and kerosene prices. An intention to deregulate diesel prices eventually was announced without a timeline being set.

Crude oil prices have moved up after the partial deregulation in June. This makes diesel deregulation a challenging task for the government given the high inflation environment. Considering that, diesel deregulation appears unlikely this fiscal. Higher crude oil prices would generally have been good for ONGC but it sells crude at a discount to Indian oil marketing companies (OMCs) and shares the OMC under-recoveries, or the loss from selling fuel below cost.

“As the oil price increases, ONGC’s net realization (only for the domestic operations) declines due to increase in the subsidy burden. This results in the earnings decline for stand-alone operations. However, its consolidated earnings remains protected as higher oil prices benefit ONGC Videsh Ltd (OVL) earnings. Over the last four years OVL, ONGC’s overseas arm, has contributed 9-14% to ONGC’s consolidated earnings," wrote analysts from Motilal Oswal Securities Ltd in a note to clients last week. The subsidy sharing mechanism has been ad hoc and so far there is no clarity on that for FY2011.

Since the beginning of the fiscal, ONGC’s share has outperformed and risen by around 22% compared with about a 13% advance in the Sensex. But ONGC is still valued at a discount compared with its global peers.

More positive policy changes and clarity in subsidy sharing mechanism could reduce that gap to some extent. Till then, corporate actions such as a bonus or a stock split will be key stock triggers to watch out for.

We welcome your comments at