The impact of the gas price hike for producers
Gas producers such as Oil and Natural Gas Corp., and Oil India will gain, but the gains will hardly move the needle for both the stocks
Domestic gas prices were increased by nearly 6% for April-September 2018 on a gross calorific value basis to $3.06 per million British thermal units (mBtu).
What are the implications of this rise for producers?
Sure, gas producers such as Oil and Natural Gas Corp. Ltd (ONGC) and Oil India Ltd (OIL) will gain. But the gains will hardly move the needle for either of them. For instance, IIFL Institutional Equities estimates 2% and 1.5% earnings per share increase for ONGC and OIL, respectively, for fiscal year 2019 (FY19). That’s hardly exciting. Revenue contribution from the gas business is relatively small. On a stand-alone basis, both companies earned about 17-18% of their FY17 revenue from the gas business.
And it’s not as if the revised prices are very lucrative. Note that prices were at $5.05 per mBtu at their peak in November 2014-March 2015. “Gas production remains either a break-even or a loss-making proposition for most fields for the upstream producers notwithstanding some decline in oil field services/equipment cost,” pointed out K. Ravichandran, senior vice president and group head (corporate ratings) at Icra Ltd.
Reliance Industries Ltd (RIL) too is expected to benefit. However, considering that its oil and gas segment contributed below 1% of FY17 stand-alone gross revenue, there will hardly be any impact on overall earnings.
What of the stocks?
Even as RIL shares have outperformed the benchmark Sensex in the last one year, shares of ONGC and OIL have underperformed. ONGC and OIL are currently trading at undemanding valuations of about eight times next year’s estimated earnings, based on Bloomberg data. Upbeat sentiments on RIL’s telecom business helped its share performance and investors would do well to follow news flow on that front in future. On the other hand, higher oil prices should boost earnings from a near- to medium-term perspective for ONGC and OIL.
Meanwhile, India continues to need more gas for consumption than it produces and the critical issue of incentivizing domestic production remains. As Icra’s Ravichandran says, “The absence of a floor and sustained low prices as has been seen in the past few years post implementation of the modified Rangarajan formula, make exploration and production unviable even for benign geologies and would act as a deterrent in achieving a higher share of gas in the energy consumption of the country targeted by the GoI.”
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