ONGC: The black gold rush…

Introduction to results

India’s largest oil exploration and production major, ONGC, has announced its 2QFY05 results. The company has recorded an impressive topline growth of 36% during the quarter while the bottomline has improved by 20% YoY. The growth numbers for the topline and bottomline are 34% and 15% respectively for 1HFY05.

What is the company’s business?

ONGC is the country’s largest oil exploration company accounting for over 80% of the oil production and 90% of gas production in the country. The company has been eyeing the global markets now for oil equity abroad through its subsidiary ONGC Videsh and is well on track to secure 20 MMTPA (million metric tonnes per annum) of oil and oil equivalent gas abroad by 2020. Having said that, it also has downstream refining interests through subsidiary MRPL, which has witnessed a major turnaround in fortunes since the takeover by ONGC.

(Rs m)	2QFY04	2QFY05	Change	1HFY04	1HFY05	Change
Net sales	86,616	118,162	36.4%	165,285	221,105	33.8%
Expenditure	36,447	54,575	49.7%	68,870	105,990	53.9%
Operating profit (EBDITA)	50,169	63,587	26.7%	96,415	115,115	19.4%
EBDITA margin (%)	57.9%	53.8%		58.3%	52.1%
Other income	4,639	4,731	2.0%	7,400	7,751	4.7%
Interest	101	23	-77.4%	142	105	-26.4%
Depreciation	12,980	15,335	18.1%	25,633	31,569	23.2%
Profit before tax	41,727	52,961	26.9%	78,040	91,192	16.9%
Tax	13,477	19,122	41.9%	28,445	34,271	20.5%
Profit after tax/(loss)	28,250	33,839	19.8%	49,595	56,921	14.8%
Net profit margin (%)	32.6%	28.6%		30.0%	25.7%
No. of shares (m)	1,425.9	1,425.9		1,425.9	1,425.9
Diluted earnings per share (Rs)*	79.2	94.9		69.6	79.8
Price to earnings ratio (x)		8.4			10.0
(* annualised)

What has driven performance in 1QFY05?

Sales:  Post-dismantling of APM in FY02, ONGC has been able to sell its crude oil at import parity prices. Although the company was subject to subsidies on gas and crude oil, the realizations have improved dramatically. Given the current spike in crude oil prices, the topline growth of 36% is largely due to higher prices of crude. As per our estimates, the realizations are likely to be about US$ 40 per barrel (after accounting for the subsidies) in the current quarter as against US$ 29 in FY04. But for the subsidy burden of Rs 17.8 bn during the quarter, the topline could have been much better.

	2QFY04	2QFY05	1HFY04	1HFY05
Purchases	0.0%	9.9%	0.0%	11.3%
Consumption of Raw materials	0.5%	0.3%	0.6%	0.2%
Staff expenditure	3.2%	2.4%	3.0%	2.7%
Statutory levies	24.6%	21.6%	25.4%	22.0%
Other expenditure	13.7%	12.0%	15.7%	11.7%

Operating margins:  The operating margins have actually declined by over 400 basis points during 2QFY05 as compared to the corresponding period last fiscal. This could be attributed to the under-recoveries on LPG and kerosene, while at the same time, high drilling activity (encouraged by high crude oil prices) resulted in higher expenditure.

Net profit:  The bottomline growth of 20% during 2QFY05 is largely a trickle down impact of a strong topline on the back of high product prices. Also the company was able to reduce its interest obligations by a sharp 77%.

Quarterly trend	3QFY04	4QFY04	1QFY05	2QFY04
Sales	72,277	83,077	102,943	118,162
(%) YoY growth		14.9%	23.9%	14.8%
Op. profits	37,739	42,474	51,527	63,587
(%) YoY growth		12.5%	21.3%	23.4%
Net profits	17,185	19,864	23,082	33,839
(%) YoY growth		15.6%	16.2%	46.6%

Over the last four quarters:  The last four quarters have seen a consistent rise in the topline, while the bottomline has also shown a similar trend. This can be attributed to the fact that crude prices have witnessed a rise during the same period in the international markets and ONGC has been a beneficiary of the same. But for the subsidy sharing arrangement, the numbers would have been more impressive.

What to expect?

At Rs 799, the stock is trading at a price to earnings multiple of 10x 1HFY05 annualized earnings. Given that the company is aggressively eyeing international oil fields and is also investing in redevelopment of its aging Bombay High and Cambay fields, the company is on the right track, given its limitations. Further, huge investments have been lined up for deep-water exploration. Although, the first well dug over 3,000 meters was a dry well, the company is optimistic about its success in the deep-water exploration. Also, investments have been lined up for MRPL, while the Sakhalin project is likely to commence production from next fiscal, which would boost the company’s share of energy in the country. However, given the huge capex plans, execution risks do exist.