Analysis: No near term triggers for Cairn India

Flat production likely in near term may limit upside for the stock increasing reserves, production over FY14-15 makes it a good long term investment

Cairn India saw its average daily gross production grow almost 22% year-on-year during September 2012 quarter to 207,245 barrels of oil equivalent per day (boepd), led by a 37% rise in output at its Rajasthan block to 171,801 boepd. This along with rupee depreciation saw revenues growing 68% year-on-year to Rs 4,443 crore in the September 2012 quarter.

Helped by differed tax benefits, Cairn’s bottom-line grew three folds to Rs 2,322 crore. However, sequentially, the output from the Rajasthan blocks did not see much ramp up, leading to flat gross daily production for Cairn. While per barrel average price realisations ($96.7) fell 2.6% compared to $99.3 in June 2012 quarter leading to flat revenues, forex losses of Rs 786 crore also impacted the bottom-line, which fell 39.3% sequentially.

With de-bottlenecking of pipeline for carrying crude oil still sometime away, the production ramp-up may not happen soon keeping a tab on revenue and profitability growth for the rest of FY13. Though the management had earlier guided for de-bottlenecking of pipeline to be completed by the end of December 2012 quarter, the same looks distant after the management conference call post results. Thus, production from the Rajasthan block is likely to remain at close to 175,000 boepd (from four fields, i.e. Mangala, Bhagyam, Saraswati and Raageshwari).

The de-bottlenecking of pipeline is crucial for the volumes from Rajasthan block to grow to 190,000 boepd in the first phase. Analysts at IDFC Securities in their September report had already indicated that the testing and validation of pipeline will take two quarters and, therefore, de-bottlenecking of the pipeline to carry enhanced volumes will extend to Q4’FY13. Thus, in spite of Mangala fields already producing close to optimal (15,000 boepd) and Bhagyam and Aishwarya fields having approval for producing 40,000 boepd, and 10,000 boepd respectively, the overall production will not cross 200,000 boepd soon.

This in turn will keep a tab on the stock, which analysts expect will remain range bound. Nilesh Ghuge at BRICS believes that ramp-up of the Bhagyam field to 40,000 boepd and commencement of production at Aishwariya field will be key to drive medium-term growth. Moreover, timely regulatory approvals for production, exploration and infrastructure are critical for the next phase of growth, in our view, said Ghuge.

Meanwhile, on the crude oil price front, not much upside is expected from current Brent prices of close to $110 a barrel levels. The company maintains it per barrel realisation will remain at 10-15% discount to the Brent. For the current quarter, the per barrel price realisation suggest that the discount was a little over 10%.

Another factor that can keep limiting the stock is Cairn Energy PLC looking at reducing its stake in Cairn India to raise funds for its other exploration sites. Cairn Energy some time back had sold eight% or 152.6 million shares of its holding in Cairn India at Rs 323.12 to Citigroup, HSBC Global, Indus Capital Advisors (US) and Segantil India, thereby raising $910 million. It is left with about 10% more and analysts feel that it can utilize any rally in the stock for further reduction in its stake.

Positively, the stock could get a boost if the company gets clearances for carrying out exploration and production activities in Barmer Hill region (Rajasthan). This region holds promise and is crucial for Cairn India achieving output of over 240,000 boepd.

Secondly, the company also announced that it had received government approval for the transfer of participating interests in various producing blocks from its overseas subsidiaries to itself by merging these subsidiaries. This should now enable the company to pay its first dividend, a meeting for which is being held on October 31. While the quantum is not known, Cairn had earlier announced a dividend policy for a 20% pay-out, observe analysts. On this basis, it could announce a pay-out of Rs 1,590 crore for 2011-12, or Rs 8 per share.

On the whole, while there are concerns over production ramp-up not happening in FY13, given expectations of strong production growth (around 40% over next two years) backed up by a strong reserve base (1.7 billion boe) as per analysts at Prabhudas Lilladher, Cairn India remains a strong fundamental investment idea for long term investors.