Stock Review: ONGC

Government-owned ONGC reported more than 60% sequential decline in net profit in January-March as it gave away about two-third of its oil revenues to subsidise losses of retailers amid soaring crude prices, reviving memories of fiscal 2008-09 when global crude peaked pushing up subsidies on fuel.

The huge sequential fall in earnings stands in sharp contrast to private sector explorers such as Cairn India, which reported 22% growth in net profit helped by higher prices even though production fell.

ONGC's share in subsidy at . 12,135 crore in the fourth quarter was almost equal to the total of past three quarters. This took the total subsidy toll to . 24,892 crore for fiscal 2010-11, more than double than previous year.

In January-March, although ONGC earned an average oil price of $108.90 per barrel, it ended up with just $38.75 in hand as the government took away the rest. What remained was nearly 25% below the year-ago period causing a 26% fall in net profit.

State-run fuel retailers sell products such as diesel and cooking gas to end-customers at subsidised rates. The subsidy burden arising from selling the products below market price is shared between retailers, upstream companies, and the government.

The company reported net profit of . 2,791 crore in the last quarter driven by higher profits on natural gas, whose prices were revised in fiscal 2010-11, and increasing share of production from joint ventures. As there is no subsidy burden on production from joint ventures, the 60% incremental volumes helped. Although oil prices have jumped more than five times since 2004-05, ONGC's average profit growth has been a mere 6.5% per annum. The average annual growth in its market capitalisation was just about 4.5%. Every year the government has taken away a chunk of its profits to pay for losses made by oil marketing companies.

The subsidy sharing mechanism and its value-destructing impact will keep weighing on investor sentiment. The government is expected to divest its stake further in the company in early July.

This could induce the government to introduce some reforms for a better price. Investors, who are otherwise living off the annual dividend payouts, may look forward to a run-up in prices if the follow-on offer materialises.