ONGC’s Q1FY17 PAT came in at Rs 42 bn (down 21% y-o-y, flat q-o-q), 25% ahead of estimate on account of lower expenditure. Production decline continued with oil production missing our estimate, while gas came slightly ahead. Management guided gas production to improve as new projects are commissioned. Furthermore, current trend of low opex will continue as new contract and rig rates are down. Lower domestic gas price in H2FY17 will cap benefits of oil recovery. However, higher oil and gas prices portend brighter prospects from FY18. The CMP is discounting undemanding $45/ bbl long-term oil. Maintain buy with target price of Rs 288.
Crude production decline continues, gas gathering pace: Crude production from ONGC’s nominated blocks, at 5.16 MMT, fell 1% y-o-y and q-o-q (versus estimate of 5.5 MMT). Gas production, at 5.17 bcm, dipped 6% y-o-y but rose 5% q-o-q (versus estimate of 5 bcm). Net realisation of $46/bbl fell 22% y-o-y, but rose 32% q-o-q on 30% recovery in oil price. The company did not bear subsidy during the quarter.
Gas output to rise, KG offshore to be viable: Management guided for FY17 crude production at 25.7 MMT and gas at 23.8 bcm. New projects like Daman and Vasai East and other redevelopment projects like Mumbai High will augment gas production from Q3/Q4 (1 bcm each in FY17/18). However, oil production will likely remain flat. ONGC stated its KG offshore project will be viable at premium pricing for difficult fields (viability tested at $6/mmbtu). KG offshore gas output will start from June 2019 and oil from April 2020 with peak production at 75 kpd oil and 16.5 mmscmd gas.
Outlook and valuation: Closer proxy to oil
Following kerosene reforms, the recent monthly LPG price hikes (R2/cylinder) could also be made permanent. Due to subsidy relief, ONGC’s earnings will now closely track oil price. The company has also proposed reducing ad-valorem cess to 10% from 20%. Near term earnings could be subdued given likely 20% cut in domestic gas price w.e.f. October 2016. ONGC, however, stated that upstream companies have requested the Centre for a floor for the gas price, which is under deliberation. We forecast 10%/15% EPS growth in FY17/18. We maintain buy/so with a target price of Rs 288.
Q1FY17 concall highlights
Lower operating and other expenses: Work over costs down Rs 4.2 bn y-o-y, water-injection activities down Rs 2.3 bn y-o-y, dry well costs at Rs 9 bn, down by Rs 6 bn y-o-y, CSR down R1.05 bn y-o-y, admin expenses down Re 1 bn y-o-y, absolute survey cost at Rs 3.4 bn, down by Rs 2.1 bn y-o-y, and pollution control costs down Rs 0.4 bn. Management guided for lower opex given that new contract and rig rates are lower.
Physical performance: Oil and condensate production stood at 6.34 MMT (down 2% y-o-y). Sales were higher despite lower production as ONGC has improved production efficiencies by eliminating wastages. Gas production came in at 5.49 bcm (6% y-o-y). OVL—Oil production at 1.61 MMT and gas at 0.87 bcm. Deliberations are under way for the incremental 11% buy in Vankor.
FY17 production: 25.7 MMT (including JV: 3.2MMT), Gas at 23.8 bcm (including JV: 1.1bcm). Expect some new projects like Daman and Vasai East to augment gas production from Q3/Q4.
FY17 Capex: Rs 293 bn Management stated FY18 capex will be similar as its KGDWN—98/2 capex will also commence.
OVL capex: Rs 60-70 bn in the absence of any acquisition.
Royalty to states: Gujarat, Assam and Andhra Pradesh are eligible for royalty on pre-discount w.e.f. February 2014 amounting to Rs 25 bn.
KG-DWN98/2: Tender documents are getting ready which will be issued by end of September. Project awards are expected by early March for major areas. Project will be value accretive at premium prices for difficult fields (IRR in mid-teens).
Subsidies: The government is working on DBTL for kerosene and is targeting 48 districts for rollout. Over next 10 months, kerosene price will be increased. As subsidy burden will be
<Rs 12/ltr, we do not expect any subsidy burden assuming crude oil remains range bound.
Gas price: Domestic price is expected to be cut further in October. Upstream companies have requested the government to set a floor of $4.2/mmbtu, which was the earlier price.
Interest costs under IND-AS: Decommissioning liabilities (well abandonment costs) are to be recorded at present value and amortisation is charged to finance costs. Management guided for R0.15 bn in finance
June cash and cash equivalents: Rs 150 bn. Debt remains unchanged except for the $1 bn loan raised by OVL.