A flurry of negative news flow this year has led to underperformance of the Essar Oil scrip versus the broader indices. While the Sensex and the BSE Oil & Gas indices have gained nine and 12 per cent, respectively, since mid-January, Essar Oil’s stock has fallen three per cent.
The stock, which made a new 52-week low of Rs 44.8 on January 18 (after the news), though has recovered some of those losses, as the company filed for a review petition in the Supreme Court (against the order relating to refund of sales tax benefits claimed by Essar) and also announced fund raising plans.
Essar’s woes had increased after it recently lost the insurance claim, which could mean a small one-time hit on its bottom line in the March quarter. Going forward, uncertainty relating to the sales tax repayment, as well as Essar Oil’s debt concerns, may act as an overhang on the stock. Analysts believe these concerns are likely to cast a shadow on the positive news flows of upgrades in refining capacity. At Rs 60 currently, valuations are anyway not cheap.
| STARING AT LOSSES | |||
| In Rs crore | FY11 | FY12E | FY13E |
| GRM ($/barrel) | 6.91 | 6.2 | 7.5 |
| Revenues | 46,988 | 52,948 | 78,333 |
| % chg y-o-y | 28.7 | 12.7 | 47.9 |
| Ebitda | 2,426 | 1,854 | 3,310 |
| % chg y-o-y | 127.6 | -23.5 | 78.5 |
| Net profit | 654 | -3,840 | 142 |
| % chg y-o-y | 2116.6 | PTL | LTP |
| P/E (x) | 13.9 | NA | 63.8 |
| P/BV (x) | 1.4 | 3.4 | 3.2 |
| E: Estimated PTL: Profit to Loss; LTP: Loss to Profit Source: Citigroup | |||
| MATH BEHIND THE SC ORDER | |
| Sales tax liability | In Rs crore |
| Sales tax collected till Dec-2011 | 6,309 |
| Less : Assignment to group company | 1,893 |
| Less : Interest receivable on assigned liability | 212 |
| Less : Other adjustments | 189 |
| Net sales tax liability | 4,015 |
| Source: Company | |
Double whammy
The Supreme Court’s judgement, which reversed the sales tax deferral benefits claimed by the company, will impact Essar Oil in more than one way. The first one is in the form of a reversal and repayment of the benefits claimed in recent years. Niraj Mansingka, of Edelweiss Securities, who is bullish on the stock with a target price of Rs 101, pegs the total repayment at Rs 5,600 crore (including interest payment of Rs 1,400 crore to the Gujarat government); some others peg the net liability of Essar at about Rs 4,000 crore.
Notably, the absence of future sales tax benefits will also hit its future margins and profits. The sales tax incentive scheme contributed $2.5-3 per barrel to gross refining margins (GRMs) in the past. In the quarter ended December, GRMs )including tax benefits) were $6.1 per barrel, while operational GRMs were $2.8 a barrel.
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Analysts believe Essar’s GRMs have peaked and are likely to be under pressure. Citigroup analysts Saurabh Handa and Abhishek Sahoo have lowered their GRM assumptions to $7.5 over FY13-14, versus $9.5-10 earlier, to account for the moderation in refining outlook. After the court order, Citi’s analysts have trimmed their FY13 EPS estimates for Essar Oil by 91 per cent to Rs 1.03. The impact could have been higher, thanks to the expected gain due to the increase in the complexity of its refinery, after completion of expansion projects.
Essar Oil’s woes increased after (on February 29) it lost an insurance claim worth Rs 3,013 crore towards damages from a cyclone to its Vadinar refinery in 1998. In its annual report, it said it had not recognised the loss (the actual loss is about Rs 300 crore and the rest is interest) in its books of accounts, which it will now have to.
Equity dilution likely
The company, which already has a colossal debt of over Rs 15,000 crore as on December 2011, may have to take on additional debt to repay the Gujarat government, believe analysts. The management, however, rules out further debt raising and is banking on its parent, Essar Energy, to bail it out (including immediate conversion of Rs 1,396 crore worth of Foreign Currency Convertible Bonds into equity). That the conversion price for the FCCBs stands at Rs 138 and Rs 153 for two tranches, a premium of a whopping 2.3-2.5 times its prevailing share price, will only make things difficult.
In the medium term, it also plans to issue fresh equity worth Rs 3,000 crore to reduce promoter holding to 75 per cent to comply with the market regulator’s guidelines by June 2013. If implemented immediately, it could help alleviate concerns on debt.
Analysts believe issues concerning the repayment, as well as debt restructuring and a likely equity dilution, will act as key overhangs on the stock. The Supreme Court order, however, does not specify the date by which this repayment needs to be done. Thus, the company’s ability to negotiate favourable repayment (timeline) and debt terms will be put to test.
Outlook
While Essar Oil has filed a review petition in the SC, this order is unlikely to be reversed, believe analysts at Citigroup. Any positive development on this front or in its negotiations with the Gujarat government and its lenders will, thus, act as a catalyst for the stock. Likewise, a significant increase in its exploration & production resource estimates could also provide a trigger.
For now, the expansion of its Vadinar refinery (from 14 million tonnes per annum (mtpa) to 18 mtpa by end-March 2012 and further to 20 mtpa by September this year) is expected to boost volumes, as well as operating profits. However, a surge in interest cost to about Rs 1,900 crore would keep a tab on net profits in 2012-13.