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ONGC auction sale: Not a retail investor's cup of tea - Views on News from Equitymaster
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  • Feb 29, 2012 - ONGC auction sale: Not a retail investor's cup of tea

ONGC auction sale: Not a retail investor's cup of tea
Feb 29, 2012

After months of dilly dallying, the disinvestment plans of Oil and Natural Gas Corporation Ltd. (ONGC) are finally materializing. The Government has plans to offload 5% of its stake (around 428 million shares) in ONGC from current 74.1% to meet the disinvestment target of Rs 40,000 crore of which ONGC is expected to contribute at least Rs 12,400 crore (based on the floor price at Rs 290). However, the Government has finally forsaken the FPO route (Follow on Public offer) and gone for auction sale instead. Enthused on account of interest of overseas investors and institutional investors, the floor price for the auction has been set at Rs 290, almost 2.3% above the closing price on 28th Feb, 2012. While the retail investors are allowed to participate in the process, the allotment will be done on price priority basis, which means that the investors will be able to get the share at the price they quote, only if quantity is available. We believe that this does not leave much on the table for retail investors, considering the interest from bigger players.

And here are some other reasons on why we would not suggest a retail investor to participate. The bidders have to pay the entire value of the bid at the time of placing the order. Had the sale been through FPO route as originally planned, one would have expected this to be at discount to the trading price. However, we believe that finally the shares will be sold at a premium to the floor price which is already higher than the closing. Also, it is important to note that the proceeds of this disinvestment will not be ultimately deployed in ONGC but are just a quick fix solution to the rising fiscal deficit. Ironically, the turn out from the estimated proceeds (at floor price of Rs 290 per share) falls short of subsidy outgo in the third quarter ending December 2012 itself.

In the past, the FPO plan has failed a number of times on account of lack of investor interest which can further be traced to regulated price mechanism for a major chunk of petroleum products and adhoc subsidy sharing mechanism. Nothing has changed on that front. As per our expectations, crude prices will trade high and fuel price deregulation is unlikely making under recoveries a permanent overhang. For company like ONGC that shares a major chunk of the upstream subsidy burden, this isn't good news. The upstream share in subsidy burden was raised from 33% to around 38% in the last fiscal. It is important to note that while gross realizations are increasing, net realizations earned by ONGC are only going down. In 3QFY12, the company has reported a 30.6% decline in net realizations quarter despite a rise in gross realizations. This dissociates the fundamentals of the business from financials. In 3QFY12, the formula to compensate for under recoveries was changed again, leading to further increase in subsidy outflow (in % terms) for ONGC. In the recent quarter results, the company has reported a rise of 197% YoY towards payment of subsidies. And the share in subsidies shot up to 47% from 33% on an annual basis for December quarter.

Besides regulatory overhang, the company is suffering from fundamental issues like ageing fields, increasing depreciation, depletion and amortization expenses, stagnation in domestic oil production and OVL facing challenges (ONGC Videsh Ltd. ) like production issues at fields in Syria and Sudan and stagnation of Russian energy assets.

Hence, we would suggest retail investors to wait for more clarity regarding actual business operations and regulations rather than jumping on the disinvestment opportunity offered at a premium.

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