Riding on reform hopes

Updated: November 24, 2014 2:12:39 AM

Share hinges largely on future subsidy framework

Rating: Overweight

ONGC’s Q2 net rose 14% quarter-on-quarter to R54.4 bn, beating our estimate by 29% helped by lower write offs and higher oil sales and net realisations. Still, FY15 may be a soft year given falling oil prices. Yet, the share price may hinge more on the future subsidy framework. Here, risks remain but the oil ministry’s suggestion of an effective 30-35% upstream share may peg ONGC’s FY16 net realisation at $73 at $95 Brent (H1FY15 = $44), EPS at R50 and valuations at an inexpensive 7.9x P/E (price-to-earnings ratio). We stay OW (overweight).

Decent Q2: ONGC’s Q2 net income rose 14% q-o-q to R54.4 bn and was 29% ahead of our estimate. Lower drywell costs and tax rates explained much of the beat but core Ebitda was also 3.8% ahead despite higher operating expenses. Higher-than-expected oil sales (+3.3% q-o-q despite flat output) as well as gross realisations ($102, cf. $100 est) that drove net oil realisations $3.50 above our estimate to $41 ($47 in Q1) helped here.

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Production miss: As earlier announced, domestic oil output was flat q-o-q, though, with H1 tracking 0.8% lower y-o-y (+3% offshore but -9% onshore). We cut our FY15 production estimates by 2%, expecting ONGC to yet again miss its targets (23.51mt, +5.7% y-o-y). Gas output may also fall y-o-y hurt by Gail’s pipeline outages at Rajahmundry (H1 down 50% y-o-y).

Soft FY15: Yet, lower output has only limited impact on EPS (earnings per share) although FY15 may still be a soft year despite the gas price hike from Nov 1 (adds R1.5 to FY15 EPS) given falling oil prices. Indeed, lower oil is also a drag on subsidairy MRPL (inventory losses) and OVL (H1 net +9.7% y-o-y). We lower our FY15 earnings by c3.5% to factor in MRPL’s H1 losses and likely inventory losses in the H2 and cut in domestic and overseas production estimates.

OW: The timing and nature of likely policy changes remain uncertain and disappointments cannot be ruled out much like the underwhelming gas price hike. Indeed, the impending $2.8 bn divestment may also weigh on the shares near term. Yet, given this large stake that the government is hoping to sell, hopes for a quick and sensible decision on subsidy sharing, amidst the benign macro also run high and should bode well for ONGC. We stay OW with a R440 price target.


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