ONGC’s Q2 Ebitda was in line with our estimate; net profit was 13% higher due to lower exploration related write-offs which are volatile in nature. We cut our EPS (earnings per share) estimates and price target mainly to factor in lower crude price but remain positive on ONGC. We believe risk-reward is favourable as the stock price is already factoring in adverse impact of low crude price on near-term earning. Higher crude price and long-term clarity on subsidy sharing are key triggers.
Ebitda in line, beat in PAT due to lower exploration write-offs. ONGC’s Q2 Ebitda was largely in line with our estimate. Net profit was 13% higher but this was mainly on account of lower exploration related write-offs in the quarter as this tends to be volatile from quarter to quarter and its timing is difficult to predict. The government continued with its pre-decided subsidy sharing formula for FY16 of upstream contributing under-recoveries beyond Rs 12/l for kerosene (corresponding to ~$45/bbl) and beyond Rs 18/kg for LPG (corresponding to $70/bbl).
Production concerns continue: While there was slight improvement in crude production on sequential basis, ONGC’s production has largely remained stagnant despite start of new projects due to greater than expected decline in mature fields. Management guided for crude production of 22.7/23.5MMT in FY16/FY17 implying marginal increase even if achieved—our estimate is for 22.6/23.0MMT. Gas production declined sharply in Q2 to 21.2BCM annualised from 22BCM in Q1 due to shutdowns.
Key takeaways from earnings call: (1) Capex in H1FY16 has been R150 bn vs. full year capex target of R363 bn; (2) OVL remains on the look-out for more acquisitions post the recent Vankor deal; (3) Some of the higher other expenditure in recent quarters is due to work overs which may not sustain.
Cut estimates to mainly factor lower crude price. Maintain Buy. We have reduced our EPS estimates for ONGC to factor in lower crude price of $54/64/75/bbl over FY16-18e based on the estimates of our global oil & gas team vs. $62/70/ 80/bbl earlier. We have also increased our estimate for other expenditure to some extent. Our PT reduces to Rs 345 from Rs 372 previously as a result.
Valuation/Risks Our fair value of Rs 345 is based on 11x P/E (price-to-earnings ratio) on FY17 EPS, at a premium to historic median for the company due to expected clarity on subsidy sharing. Key risks (1) lower crude price; (2) production issues.