ONGC: Blunt edge

Mounting subsidy burden curbs ONGC's ability to leverage on high crude prices

ONGC has once again not been able to leverage high crude prices on a y-o-y basis in the September 2006 quarter, given the mounting subsidy burden.

The upstream player has seen its operating profit decline by 1.6 per cent y-o-y to Rs 7,039.8 crore in Q2 FY07 compared with 10.9 per cent growth in net sales to Rs 14,068.5 crore.

Moreover, the company's results in the last quarter, have to be viewed in the context of floods in Western India during August 2006 and the subsequent disruption to its facilities in Hazira.

ONGC's crude oil production grew by 10 per cent y-o-y to 6.39 million tonne in the last quarter. The fire at the company's Bombay High facilities in July 2005 and the subsequent disruption in production, led to a low base effect in the Q2 FY06. In the June 2006 quarter, ONGC had seen its crude oil production remain more or less flat at 6.47 million tonne.

Meanwhile, average gross realisation was pegged at $71 per barrel levels in Q2 FY07, up 13.5 per cent on a y-o-y basis, say analysts.

However, the company's subsidy burden surged 75 per cent y-o-y to Rs 5,032 crore in the last quarter. As a result, ONGC's operating profit margin declined by 640 basis points y-o-y to 50 per cent in the last quarter.

Investors have been concerned owing to the company's rising subsidy burden, and due to this factor, this stock has gained only 6.5 per cent over the past three months as compared to a 23.5 per cent gain in the Sensex.

In the June 2006 quarter, ONGC's operating profit margin had dipped 63 basis points to 55.5 per cent, given the 78 per cent y-o-y jump in its subsidy burden to Rs 5,120 crore.

Going forward, the subsidy burden is expected to continue to put pressure on operating margins, and coupled with crude prices, which that have eased about 22 per cent over the past six weeks. As a result, the stock gets a discounting of only 8.5 times estimated FY07 earnings.

Ballarpur: Pulp reality

Though Ballarpur Industries posted a solid 21 per cent top line growth for the September 2006 quarter, a stiff rise in raw material costs led to operating profit rising just 14.2 per cent.

The cost of main raw materials""pulp and paper-have been rising and, as a result, raw material costs as a percentage of sales increased by 384 basis points. Ballarpur also faced 38 per cent rise in power, fuel and water charges, which lowered its profitability.

As a result, operating profit margin fell 146 basis points to 24.82 per cent. Diluted EPS jumped 31 per cent over September 2005 to Rs 3.06 a share, as the company managed to post a similar net profit growth on account of a 19 per cent decline in interest costs.

Paper revenues went up by 17 per cent on account of 15.5 per cent increase in volumes. And, though Ballarpur raised prices slightly in July and September, its average price realisations increased just 1.3 per cent to Rs 43,600 per tonne levels.

Pulp revenues improved 49.7 per cent also helped in the sales growth. Even in the June quarter, it had raised prices by 2.4 per cent.

Ballarpur is also increasing capacity at its Bhigwan unit through a brownfield expansion. In the first phase, its capacity will go up by 140,000 tonne a year at a cost of Rs 500 crore by FY08 (year ended June).

Paper demand is directly related to GDP growth, so volume growth has been robust in the past few quarters, and is unlikely to be a matter of concern. Ballarpur is planning to raise prices in November, so that should help in improving margins.

Analysts expect paper prices to remain firm this year, so that too is a positive. Its raw material supply will improve once its Malaysian acquisition Sabah Forest Industries is integrated.

The Ballarpur stock has been an underperformer over the past year. The stock has appreciated 12 per cent over the past year as compared to the Sensex gaining 56 per cent, and trades at about 8-9 times FY07 estimated earnings.