ONGC: Drill down

High operational costs and subsidy burden spoil the show

ONGC's performance in the March 2007 quarter was adversely affected by a rising subsidy burden on a y-o-y basis, coupled with a higher operational cost structure.

As a result, operating profit (excluding other income) fell 34.4 per cent y-o-y to Rs 4,414.5 crore in Q4 FY07 compared with 4.2 per cent growth in net sales to Rs 12,397 crore.

The company's crude oil production was 4.44 million tonne in the last quarter compared with 4.9 million tonnes a year earlier. In addition, its gross realisations (prior to subsidy sharing) were estimated at $60.5 a barrel in Q4 FY07, a decline of 4.5 per cent y-o-y.

Apart from lower realisations, the company's subsidy burden jumped 37 per cent y-o-y to Rs 4,668 crore in the last quarter. Also, operating costs such as salaries went up a staggering 210 per cent y-o-y in the last quarter. Operating profit margin declined a whopping 2090 basis points y-o-y to 35.6 per cent in the last quarter.

Meanwhile, the company's subsidy burden amounted to Rs 17,024 crore in FY07 compared with Rs 11,956 crore a year earlier. As a result, FY07 operating profit margins declined 680 basis points y-o-y to 50.3 per cent.

The company's share of subsidy is expected to rise, given the recent surge in global crude oil prices. At Rs 917, the stock gets a discounting of about 9.5 times estimated FY08 earnings.

FCI OEN : Exit gains

FCI OEN Connectors joins the list of MNCs such as e-Serve and Vickers, which have gone for delisting through reverse book-building. The open offer for 20 per cent stake by Bain in the Indian subsidiary, which opened in February 2006, was at a small premium to the prevailing market price.

As a result, it garnered less than 0.5 per cent of the outstanding shares. This time, the promoters look more serious. The floor price for the open offer has been fixed at Rs 391.38, based on its price over the last 26 weeks. Considering that the current market price is Rs 544, the exit price will have to be around the current price for shareholders to tender their shares.

The impact of the new management is already being felt at FCI OEN. Bain decided to exit from the electrical business globally, except in America and Japan, and the Indian subsidiary's electrical business too was sold for Rs 28 crore.

FCI OEN, which makes connectors used mainly in telecom switching and transmission equipment, had to grapple with higher material costs, which went up 670 basis points y-o-y as a percentage of sales.

So, despite a 34 per cent increase in operational income, its operating profit margin declined 400 basis points to 18.1 per cent. The stock trades at 17 times trailing earnings, and with an earnings growth of just 12 per cent in CY06, investors would be better off to exit from the stock.

Spice Telecom: Weak undertone

As an investment, Spice Telecom has little going for it at the proposed price band of Rs 41-46. To begin with it is a very small player in a space which requires scale: compared with Bharti Airtel's nearly 40 million strong subscriber base, Spice has just under 3 million subscribers and operates in only two circles.

In the Punjab circle, the telco is ranked second behind Bharti, while in Karnataka it is fifth. As a result, at a national level, GSM player Spice has a share of just 2 per cent compared with Bharti's 20 per cent. It hasn't been able to scale up its operations, having grown at a far lower pace compared with other operators.

The lack of scale wouldn't have mattered if the business had been profitable. But, the firm's financials too are far from inspiring. At Rs 661.5 crore, it posted a revenue growth of just 10 per cent in year ended June 2006, with 39 per cent rise in the subscriber growth and a 22 per cent fall in average revenue per user (ARPU). For H1 FY07, revenues stood at Rs 385 crore while the operating profit was Rs 93.4 crore.

As such, Spice's operating margins at 22-24 per cent are way below those of industry majors- -Bharti's operating margins in Q4 FY07 were 41.7 per cent. Spice's ARPU, however, is higher than those of Idea and Reliance because it operates in relatively prosperous regions.

Despite having been around for 10 years, it has a negative net worth and is still in the red. Besides, the interest coverage at 0.2 is far lower than those of Idea at 2.4 or Bharti at 16.2.

Given the weak balance sheet, the stock should trade at discount of at least 40-50 per cent to Bharti Airtel, even if the firm is a potential acquisition candidate.

However, the price band of Rs 41-46, values it far more aggressively. Bharti trades at an EV/EBITDA of 14.3 on estimated FY08 numbers. At a 40 per cent discount, the equity value for Spice would be around Rs 24.

With contributions from Amriteshwar Mathur and Shobhana Subramanian