Attractive valuation, improving prospects turn analysts positive on ONGC

Rising gas and oil production as well as bottoming out of gas prices are key positives

The street is abuzz, after a long time, with news of improving output at ONGC. For a company that has not seen its oil and gas production growing much in the past few years, the sustained rise in gas production is positive. The initial boost to output is expected from ONGC’s Daman offshore field, while the KG basin and CBM fields in Jharkhand will start pushing growth in coming years.
 
Analysts at Motial Oswal Securities say that after almost a decade of negative-to-flat growth, gas production is expected to grow at 10-15 per cent annually for the next five years. This is based on expectations of the Daman fields adding 4.5 mscmd (million standard cubic metres per day) to gas production in FY18, in addition to the 1.5 mscmd by the SI & Vashishta fields and the 1.2 mscmd by the WO16 field.
 
More gains can accrue if gas prices are hiked, as is being anticipated in the October review. Analysts are starting to factor in such a possibility. Those at Kotak Institutional Equities said that ONGC would benefit from the expected recovery in domestic gas prices to $3.3 per mbtu (million British thermal units) in the second half of FY18 from $2.8 per mbtu currently.
 
It is little surprise that analysts are turning positive on the company. This augurs well for ONGC’s stock price, which has been under pressure since the start of December 2016. Concerns around rupee appreciation, volatile oil prices, news about oil companies being merged, and administered gas prices not getting revised in April are key factors in the weakness of the ONGC stock.
 
But, after 15 per cent fall since the start of December, valuation has become attractive, say analysts, who see a limited downside from here. Reforms such as the gradual increase in prices of kerosene and LPG month after month also bode well and will reduce the subsidy burden of ONGC, and add to its profits.
 

However, any weakness in oil prices (as seen recently) could hurt ONGC’s financials. Analysts, however, don’t see much downside and believe the price will remain at $50 a barrel levels. Analysts at Motilal Oswal Securities recently had said that with oil prices of $50-60 a barrel providing stability to earnings, after two years of negative EPS (earnings per share) growth, they estimated ONGC’s earnings to grow by 31 and 14 per cent in FY18 and FY19, respectively. Positive policy developments, cost efficiency, and dividend yield of 4-6 per cent would further aid re-rating of the stock, add the analysts.
 
Kotak Institutional Equities had upgraded its rating as it felt ONGC is a pure play on crude oil, given the exemption from subsidies and recovery in domestic gas prices.
 
On May 4, Bank of America Merrill Lynch also upgraded ONGC on inexpensive valuation as it expects hikes in gas prices, oil production increasing from overseas assets, and acquisitions adding to cash flows. The risks of differentiated royalties have gone.
 
Overall, analysts’ target price for the stock ranges between Rs 210 and Rs 230, indicating an upside of 14-24 per cent from current levels.