Oil India - Against all odds; BUY - Ambit

Oil India is trading at a trough valuation of 7.0x FY15 EPS, as the pressure on the Government's fiscal position is worrying investors that its subsidy burden in FY14 would be higher. The stock price is factoring in the high subsidy burden to exist perpetually with: (a) net crude realisation being ~US$20/bbl lower than the historical levels and (b) gas price of only US$4.2/mmbtu, implying no gain from the gas price increase. We disagree with the above pessimism as: (a) it would otherwise be tougher for Oil India to expand overseas and secure India's energy needs and (b) the likely fixation of gas price for the power/fertiliser sector at ~US$5-6/mmbtu could provide visibility on higher gas realisation. We initiate coverage with a BUY stance.

Pressure on Govt fiscal budget poses risk of higher subsidy in FY14

Rising fuel under-recoveries (due to weak INR), an impending sovereign downgrade risk and the Government's tight fiscal position is worrying investors, as Oil India may have to bear singificantly higher fuel subsidy buden in FY14 and as the company might not gain much from the doubling of APM gas prices.

Stock price factors in the high subsidy risk to exist perpetually

The share price is factoring in perpetual net crude realisation at effectively ~US$20/bbl lower than the historical levels and gas price of only US$4.2/mmbtu, implying no gain from the gas price increase. Historical evidence also does not justify this pessimism. The Government's 2010 gas price increase, despite the increase in subsidy burden, was EPS-accretive for Oil India Also, the company has maintained steady EPS growth and stable RoEs despite fuel under-recoveries rising 3x over the past five years.

Heightened pessimism; we see limited downside risk

We disagree with the above pessimism, as it would otherwise make it harder for Oil India to expand overseas to secure India's energy concerns. Also, we expect input prices of gas for power and fertiliser consumers to be fixed at ~US$5-6/mmbtu, which would reduce the risk on the Government fiscal deficit position and hence improve visibility on Oil India's gas price realisation.

Valuation

Our DCF valuation of Rs. 585 is based on the company's proven and probable (2P) reserves depleted over the project life. Our valuation implies an FY15 P/E of 8.8x (last five-year average of 9.1x) and FY14 P/B of 1.5x (last five-year average of 1.7x). However, we prefer ONGC over Oil India due to ONGC's overseas portfolio and risk on Oil India's cash from an aggressive acquisition.

Source : Equity Bulls

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