Once bitten, twice shy is clearly not the case as far as Oil and Natural Gas Corp. Ltd (ONGC) is concerned. In 2009, ONGC Videsh Ltd (OVL), ONGC’s subsidiary, acquired UK’s Imperial Energy Corp. Plc. for $2.1 billion (around 11,697 crore today), in a deal which did not turn out as well as expected. Still, that hasn’t deterred the company from taking another giant buy.

OVL will buy ConocoPhillips Co.’s 8.4% stake in Kazakhstan’s Kashagan oil field. Reports have pegged the deal’s value at about $5 billion. The deal is subject to relevant approvals, priority rights and consortium pre-emption rights and is expected to close in the first half of 2013.

What does this development mean? Sure, this is a step in the right direction for OVL given the ambitious production target the company has set in its Perspective Plan 2030. ONGC foresees OVL’s oil and gas production increasing from 8.75 million tonnes of oil equivalent (mtoe) in FY12 to 20 mtoe by FY18 and 60 mtoe by FY30.

According to ONGC’s statement, in the first phase, the Kashagan acquisition is likely to add an average annual production of about 1 million tonnes (mt) for over 25 years with a peak production of about 1.6 mt. The first phase is expected to start sometime in the June quarter. This is good news, as it will help increase production in the near-term. However, the problem lies in the second phase, which has been facing problems of cost overruns.

As far as the valuation is concerned, many brokerages agree it is in line with estimates. “According to our estimates, OVL has paid about $7.8 per barrel, which looks reasonable, broadly in line with Conoco’s asset value of $5.5 billion. However, the value accretion potential of the deal hinges upon the cost recovery aspect and fiscal terms, given the significant cost overruns," analysts from Prabhudas Lilladher Pvt. Ltd said in a note to clients on Tuesday.

The Kashagan field does come with the baggage of significant delays, technical challenges and cost overruns. These remain key risks associated with the deal. Of course, investors will have to wait and watch to figure whether there are any positive surprises.

Funding for the deal is not expected to be a concern, thanks to the strength of ONGC’s balance sheet. On a stand-alone basis as on 30 September, ONGC had cash and cash equivalents to the tune of 20,914 crore on its books.

Meanwhile, after outperforming in the beginning of this fiscal year, the ONGC stock has declined by 15% since touching a high in September. At 250, the stock trades at 7.7 times its estimated earnings for FY14. Sure, valuations do not appear demanding at these levels but the moot question is whether there are any triggers for outperformance? Subsidy concerns continue to persist and remain a key overhang for the stock.

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