FPO Review: ONGC

The company is expected to hit the markets with a followon public offer after a week. In addition to these announcements, a number of other factors are also going in its favour, including the compensation of royalty for Cairn India's Rajasthan assets, higher crude oil price, reforms in retail oil prices, a rise in the gas price, better volume growth and the acquisition of a stake by its overseas subsidiary, OVL. Despite the recent 9 per cent spurt over the last week, analysts believe the stock still has legs to run and positive developments are yet to be fully reflected in the price.

Royalty

The big positive move for the company is the news that the government is likely to compensate it for its losses from Cairn India's Rajasthan assets by ensuring that it gets a minimum 10 per cent return on investment from these assets. The company has been losing money as it has had to bear the entire royalty burden in the venture. Analysts believe this move will help its earnings estimates to be revised upwards to the tune of 8-10 per cent.

Improving realisations

Besides that, analysts expect a rise in diesel prices by around 1-2 per litre. This is possible given the higher international crude oil prices, hovering around $90 abarrel. This could come as good news for ONGC due to lower under-recoveries and a lower subsidy burden. This could have a 3-6 per cent positive impact on the FY12 earnings. Analysts also suggest that in the case of deregulation (depending on the timing and amount) of diesel prices, the EPS for FY12 (consensus EPS of `125.8) could be higher by about `12-14 per share.

That apart, there could be a marginally positive impact on realisations due to the recent rise of 10 per cent in natural gas prices to $5.25 per million British thermal units (mBtu) for non-priority sectors. On the back of these developments, analysts expect higher realisations. "At the current price, the ONGC stock factors in the net realisation of less than $50 a barrel, which is significantly lower than our assumption of $58 a barrel for FY12 based on the underlying crude price of $90 a barrel," says Amit Shah who tracks the oil and gas sector at BNP Paribas Securities. Higher realisations along with the expected growth in volumes will mean better prospects for the company over the next two years. Analysts expect better volumes in the coming years as a result of higher gas production and contribution from the marginal fields increase.

Outlook

ONGC is also considering a stock split (1:1), bonus issue (1:1) and aspecial dividend before its FPO, which could be positive for its share price in the near term. Also, its international subsidiary ONGC Videsh is likely to announce the signing of an agreement to purchase a 25 per cent stake in Kazakhstan's Satpayev oilfield over the next couple of months. On a sum-of-parts valuation basis, analysts value ONGC's stock at about `1,500 a share as compared to its current price of `1,344. The price target is conservative as most of the recent developments are not fully factored in the price.