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As talk of a rise in gas prices and/or differential pricing gains momentum, market participants are looking at the possible impact. Analysts do not see differential pricing as a good option saying it will not incentivise oil and gas exploration and production (E&P); they do not see it being implemented.
Market participants are currently factoring in the implementation of gas price rises in line with the Rangarajan commission recommendations, from the current $4.2 an mBtu (million British thermal units) to $8 an mBtu, and continuing reforms in the sector. As a result, the stock prices of oil and gas producers have risen sharply. However, if there is any major deviation from the expectations, stock prices can see sentimental impact and revision in their fair value, say experts.
According to a PTI report, if higher prices are allowed only on output in excess of current production or only for production from fields discovered under the New Exploration Licensing Policy, such as from the Reliance Industries-operated KG-D6 fields, it would mean Oil and Natural Gas Corporation (ONGC), whose output comes from pre-Nelp blocks, being kept out of price revision. If this option is accepted, the new rate will apply to only 15 per cent of the current domestic production (only KG-D6 of RIL).
Analysts at Kotak Institutional Equities believe any proposal to allow higher prices for incremental gas production only, instead of the entire domestic gas production, will be a negative for ONGC, Oil India (OIL) and RIL, if implemented. They find the proposal retrograde, as the E&P business requires large reinvestment to only sustain production. A policy, they say, should be within the larger context of India’s rising energy deficit and need for greater energy security.
Analysts at Motilal Oswal Securities have similar views. If a price rise is applicable to enhanced production, it will be technically difficult to implement, as it would not be possible to bifurcate old and new production, they say adding no new reinvestment would happen, leading to decline in the current production, too.
Overall, expectations are that the gas price will be raised, with some estimating it to be increased to $6 per mBtu, even if not $8 in the initial stages. Stocks of ONGC and OIL are seen attractively priced, led by a reducing subsidy burden, with continued diesel price rises (likely to get completely deregulated by the end of FY15) and accruing benefits of the gas price rise. The subsidy burden for the two companies is reducing substantially. Analysts expect the overall subsidies to fall from Rs 140,000 crore in FY14 to Rs 70,000 crore in FY16. This will significantly benefit ONGC and OIL, which bear a majority of the subsidy burden, particularly the former, which absorbs a majority of upstream contribution.
Analysts at HSBC have raised their target price to Rs 450 for ONGC, revising their gas price estimates to $8.4 per mBtu for FY16 from $6.5 per mBtu earlier, keeping their net crude oil realisation estimate at $50 a barrel. The consensus target price, according to analysts polled by Bloomberg in June, for ONGC and OIL stands at Rs 473 and Rs 685, respectively.
For RIL from the private sector, looking at the tepid gas production growth, analysts do not see much impact as of now. It is only after FY17 that oil and gas production is expected to see an uptick. The company’s oil and gas segment contributed 1.3 per cent to gross revenue and 6.8 per cent to earnings before interest and tax during FY14. Analysts at Elara Capital see almost flat KG-D6 gas production at 13 mscmd (million standard cubic metres a day) and 11.1 mscmd each during FY15 and FY16. They see the Panna-Mukta-Tapti fields’ production declining to 5.9 mscmd and 3.8 mscmd during FY15 and FY16, respectively.
The consensus target for the stock, trading now at Rs 1,039, is Rs 1,151 from analysts polled by Bloomberg in June. The bullishness towards Reliance is also due to a better outlook and planned investments in the core business. Clearly, the markets are bracing for a rise in the entire domestic gas production, even if in stages. Any deviation could hurt sentiment, leading to pressure on the stocks.
