Is the fall in Aban Offshore justified?

Impact of lower crude oil prices will be offset by de-leveraging gains, say analysts

Offshore drilling firm Aban Offshore (Aban)'s scrip has underperformed the S&P BSE Sensex over the past few months and the downward pressure has only intensified in the recent trading sessions. 

The weakness is largely due to the continuous decline in crude oil prices in the past few months, which has triggered fears that Aban's day rates (and hence realisations) will come under pressure in the near term. Lower crude prices could also hit capex plans of oil exploration and production companies, impacting demand environment for companies such as Aban. However, these concerns appear to be overdone, believe analysts. 

There are multiple reasons for this bullishness. One, most of Aban's contracts are long term in nature (around three years) and hence relatively more resilient to crude oil price movement. 

Second, Aban operates largely with National Oil companies (NOCs), who may not trim capex plans as they aim to attain energy security. 

Third, company's efforts to de-leverage its balance sheet will give a significant boost to its earnings over the next two-three years.

"Aban is into long term contracts and hence its day rates do not fluctuate frequently. While there is no immediate threat to its earnings for FY15 and FY16, sentiment is pretty much low, dragging the stock down", says an analyst with a domestic brokerage.

However, Aban could face the risk of lower day rates when existing contracts are renewed. Its continued long-term association with NOCs though could provide downside support to day rates. In fact in October, the company renewed its contract with ONGC for another three years at total value of Rs 1,114 crore and 33.5% higher day rate of $83,400. 

Given that crude oil has fallen to $61 per barrel level, demand for rigs could come under pressure. Even though the actual impact will be assessable only in the medium term, large exposure to NOCs will provide support to Aban, believe analysts.

Leading foreign brokerage Macquarie Securities seconds this view. Even though it cut Aban's target price by 18% to Rs 816 in a report dated 9 December, the brokerage maintained 'Buy' rating on the stock. Macquarie believes that Aban's de-leveraging story is intact and its rig rates will be relatively resilient to falling oil prices due to the already-steep discounts and its relationship with national oil companies (NOCs).

Aban plans to refinance its high cost rupee debt with dollar denominated debt at lower costs. This will reduce its interest costs by 17-18% in FY16 as compared to that in FY14. 

Consequently, analysts expect the company’s net profit to grow by about 40% in FY15 and 23.2% in FY16. For FY17, though the net profit growth is expected to be at 6-7%. 

The company recently raised Rs 850 crore via QIP and also plans to list its Singapore subsidiary in its bid to repay its debt worth Rs 14,000 crore. Hence, though near term de-leveraging will take place smoothly, company will need to generate enough internal accruals to reduce debt meaningfully in the longer term. 

For now, analysts expect Aban’s net debt to equity ratio to come down to 2 times in FY16 from 3.9 times in FY14. Most analysts remain positive on the stock.