March 23, 2011

Industry: Oil & Gas Industry View: Neutral Initiating Coverage

“Production growth + higher realizations”

BuyOil & Natural Gas Corporation

Disclaimer:The information in this document has been printed on the basis of publicly available information, internal dataand other reliable sources believed to be true and is for general guidance only. While every effort is made toensure the accuracy and completeness of information contained, the company makes no guarantee andassumes no liability for any errors or omissions of the information. No one can use the information as the basisfor any claim, demand or cause of action. LKP Securities Ltd., and affiliates, including the analyst who haveissued this report, may, on the date of this report, and from time to time, have long or short positions in, andbuy or sell the securities of the companies mentioned herein or engage in any other transaction involving suchsecurities and earn brokerage or compensation or act as advisor or have other potential conflict of interestwith respect to company/ies mentioned herein or inconsistent with any recommendation and related informa-tion and opinions. LKP Securities Ltd., and affiliates may seek to provide or have engaged in providingcorporate finance, investment banking or other advisory services in a merger or specific transaction to thecompanies referred to in this report, as on the date of this report or in the past.

LKPSince 1948

Key DataMarket Cap (`.bn ) 2,320

52-Week Range(̀ ) 368 / 249

Avg. Daily Trading Value (`.bn) 1,383

Promoters (%) 74

FII Holding (%) 5

DII Holding (%) 8

Public & Others Holding (%) 14

One Year Indexed( % ) 1 Month 3 Months 12 Months

Absolute 0.5 (16) 2.0

Rel to Sensex 0.3 (7) (2.3)

Relative price performance

Fiscal YE FY 10 FY 11E FY 12E FY 13E

Revenues 1,017,395 1,230,741 1,289,573 1,363,322

EBITDA (%) 48.8 48.5 48.3 49.8

PAT (%) 19.1 20.5 19.7 20.6

EPS (`) 22.7 29.5 29.7 32.8

EPS growth (%) -2.3 30.2 0.5 10.4

P/E (x) 12.0 9.2 9.2 8.3

P/B(x) 2.3 1.9 1.7 1.5

EV/EBITDA (x) 4.4 3.6 3.5 3.1

ROCE(%) 23.4 27.4 24.5 23.6

ROE(%) 20.0 22.8 19.7 18.9

Dividend yield (%) 3.0 2.9 2.9 2.9

Stock DataCurrent Market Price (`) 273

12 Month Target Price (`) 328

Potential upside (%) 20.2

Reuters ONGC.BO

Bloomberg ONGC IN

Oil & Natural Gas Corporation Ltd (ONGC) is the largest Indian oil & gasenterprise and the most valuable PSU by market cap. The company is alsopresent overseas via its wholly owned subsidiary ONGC Videsh Ltd (OVL), whichis currently operating in 34 projects across 15 countries. ONGC is also presentin the downstream refining sector through its subsidiary MRPL. The company isalso investing in power (OTPC), petrochemicals (OPaL), SEZs (MSEZ) etc.Consolidated 3P oil & gas reserves as of Apr 2010 stand at 811 MMT and 808.2MMT respectively. Deregulation / price hike of regulated products indicate afavorable pricing regime which would limit under recoveries going forward. Thecompany has increased the recovery factor in its aging fields due to EOR/IORand discovered new hydrocarbon deposits in India whereas OVL is set to benefitfrom ramping up of production from its Brazil & Imperial fields.

Investment ArgumentA combination of improved economic outlook for the developed world, harshwinter in OECD countries and risk of political unrest in the Middle East hasresulted in crude prices breaching the $ 100/bbl mark. In addition, domestic fuelprice hikes implemented in FY11 have reduced the intensity of under recoveriesand subsequently improved realizations for ONGC yoy. ONGC is entering intogas based power generation (OTPC) in FY12 with a view to monetize its gasreserves in the North East. Ramping up of production from Sakhalin, Imperialand Brazil fields will result in rising production from OVL. ONGC is carrying outredevelopment projects worth ~ `190 bn in its prolific Mumbai High basin whichis expected to result in rising production from FY13 onwards. MRPL’s EBITDA isexpected to double in FY13 from FY10 levels due to capacity expansion andimproved refinery complexity.

Going forward, we expect consolidated oil & gas production CAGR of ~ 3.1%during FY10-13E. However, the bigger production jump would occur from FY14onwards owing to commencement of production from Carabobo, Myanmar,Daman offshore and KG-DWN-98/2. We forecast consolidated sales & net profitCAGR of 10.2% and 13.1% during FY10-13.

ValuationWe perform SOTP valuation for ONGC and arrive at our price target of `328 pershare and initiate coverage with a BUY rating. The price target translates into EV/boe of $ 6/bbl on 2P reserves, which represents a discount of ~ 25% to the E&Puniverse. Triggers for the stock are price hikes / deregulation of regulated fuelsand discoveries in its NELP / overseas exploration blocks.

Deepak Darisideepak_darisi@lkpsec.com+91 22 6635 1220

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Mar-10 Jun-10 Sep-10 Dec-10 Mar-11

ONGC BSE Sensex

ONGC

2LKP Research

INDEXOutlook & Valuation 3

Profile of ONGC 4

Investment Argument

Increasing gas production 5

JV production to rise 6

KG-DWN-98/2 looks promising 7

Domestic production to rise 7

OVL: The key to production growth 8

Sakhalin 8

Imperial 9

Carabobo 9

Other OVL assets 9

OVL production to rise 10

Consolidated production set to rise 11

Robust outlook on crude prices 12

Price hikes to control under recoveries 13

Crude Realizations to improve 14

Jump in natural gas revenues 16

Heavy capex programme lined up 17

Valuation - ONGC & OVL 18

Mangalore Refinery & Petrochemicals Ltd 19

Profile of MRPL 20

Investment Argument

Blended realization set to improve 21

Crude intake cost to reduce 22

Product off-take strategy 23

Capex plan & Sources of funding 24

Return ratios to improve 24

FY13E EBITDA to double from FY10 levels 25

Key Risks 26

Outlook and Valuation (MRPL) 26

ONGC (cons) performance to improve 27

Key Risks for ONGC (cons) 28

Financial Summary (ONGC standalone) 29

Financial Summary (MRPL) 30

Financial Summary (ONGC consolidated) 31

ONGC

3LKP Research

Outlook & ValuationWe forecast consolidated sales CAGR of ~ 10.2% and PAT CAGR of ~ 13.1% duringFY10-FY13. Consolidated oil & gas production is estimated to grow at CAGR of ~ 3.1%during FY10-13 and ~ 4.9% during FY13-18. Near term production growth (FY10-13)would be aided by ramping up of output from Imperial, Brazil, Rajasthan JV andmonetization of Assam gas reserves. Production growth post FY13 would result fromincreasing output from Mumbai High, Assam and AP offshore fields due to redevelopmentprojects taking place currently. Production would also be boosted due to start ofproduction from Carabobo, KG-DWN-98/2, Daman offshore and ramping up of outputfrom Sakhalin and Imperial. We estimate post-subsidy realization for crude oil fromONGC’s nomination fields at $ 57.2/bbl, $ 59/bbl and $ 62.2/bbl for FY11, FY12 andFY13 respectively. MRPL is expected to post GRM of $ 10.4/bbl in FY13, up from $ 6.6/bbl in FY12 due to excellent product mix and increased complexity of its refinery.Consolidated free cash flows are estimated to be `55,118 mn in FY11, `66,999.2 mn inFY12 and `138,268.1 mn in FY13.

We have valued ONGC using SOTP valuation and initiate coverage with a FY12E targetprice of `327.6 per share. The price target translates into EV/boe of $ 6/bbl on 2Preserves, which represents a discount of ~ 25% to the E&P universe. We have valuedONGC & OVL combined using DCF, with WACC of 12% and terminal growth of 3%.Triggers for the stock are increased clarity regarding the subsidy sharing mechanism,price hike of regulated products and positive news flow from its exploration activities.

We have valued MRPL on EV/EBITDA basis. The effect of capacity expansion andincrease in refinery complexity would result in FY13E EBITDA and FY13E PAT leapingby 68.8% and 101.3% yoy respectively. We have used EV/EBITDA multiple of 6.25 andarrive at our FY12E price target of `91, which represents upside of 47.5% to CMP.

The intrinsic value of `328 for ONGC represents potential upside of 20.2% to the currentmarket price. We assume dividend per share of `8, which translates to a dividend yieldof 2.9%. Hence, the total return from the stock comes to 23.1%.

SOTP Valuation Fair Value Valuation method used

EV of ONGC + OVL (`mn) 2,367,505.4 DCF

EV of MRPL (`mn) 187,888.7 EV/EBITDA

Investment in IOCL (`mn) 60,806.0 20% discount to market price

Investment in GAIL (`mn) 22,700.1 20% discount to market price

Investment in PLNG (`mn) 7,747.5 20% discount to market price

Other investments (`mn) 4,629.3 At book value

Consolidated EV (`mn) 2,651,277.0

Net Debt (`mn) (151,842.7)

Value of Equity (`mn) 2,803,119.7

FY12E Target price (`/ share) 327.6Source: Company , LKP Research

ONGC

4LKP Research

Company BackgroundOil & Natural Gas Corporation Ltd (ONGC) is the largest Indian oil & gas enterprise andthe most valuable PSU by market cap. The company holds 51% of petroleum explorationlicenses (PELs) and 67% of mining leases (MLs) issued in India. It is present acrossthe entire hydrocarbon value chain with its core strength in the highly lucrative E&Psegment. ONGC accounted for 79% and 54% of the total domestic crude oil & naturalgas production in FY10. It is also present in 15 countries worldwide via its wholly ownedsubsidiary OVL. OVL accounts for 29% and 22% of the group’s consolidated oil & gasreserves. 2P reserves for ONGC (standalone) and OVL stand at 969 mmtoe and 357mmtoe respectively.

Source: Company

Source: Company

ONGC

5LKP Research

Investment ArgumentIncreasing gas production to counter natural decline in nomination fieldsONGC’s nomination fields are located primarily in Mumbai offshore, Cambay basin(onshore), Assam (onshore), Andhra Pradesh (offshore) and Tamil Nadu (offshore).These fields have been in production for more than 20 years and are facing naturaldecline in production levels. Hence, ONGC’s strategy has been to embark on EOR/IOR,develop marginal fields and monetize idle reserves.

Mumbai offshore, which includes Mumbai High, accounts for the lion’s share of oil & gasproduction from the nomination fields. This field has 2 parts: Mumbai High North (MHN)& Mumbai High South (MHS). The field had previously started showing signs of naturaldecline in 2000 which spurred ONGC to undertake redevelopment activities. Phase I ofthis redevelopment was completed in FY06 at an estimated cost of `52 bn. However,production has been showing natural decline since the last few years. Hence, ONGC isundertaking MHS & MHN redevelopment projects at a cumulative cost of ~ ` 150 bn witha view to increase recoverable reserves. These projects are expected to be completed byFY13 and are expected to result in increasing production levels from FY14 onwards.Mumbai offshore also includes Neelam & Heera and Bassein fields. The company iscarrying out redevelopment activities in the Neelam & Heera field. This project is expectedto be completed by FY12 and would result in a moderate rise in crude production.

ONGC is also developing a cluster of marginal fields in the vicinity of the Mumbai Offshorefield. Production from the C-series gas field has already started and is currently producinggas at 0.9 mmscmd. Peak production level of 3 mmscmd is expected to be achieved inFY13 and is expected to sustain for 2-3 yrs. Other marginal fields are expected to startcontributing from FY14 onwards. While the contribution from these fields will be marginal,production would consist more of natural gas. The exciting prospect among the marginalfields is Daman offshore which is believed to have 42 bcm of recoverable reserves,which translates to peak production level of 10-15 mmscmd. As work in this field is inelementary stages, production from this field is expected to start from FY16 onwards.

Mumbai High Marginal fields

Source: Company

ONGC

6LKP Research

ONGC is carrying out IOR project in its Assam fields which is expected to result inmodest rise in crude production level from FY12 onwards. The big jump would be seenin gas production where ONGC will be monetizing its known reserves. The company isentering into gas based power generation via stake of 50% in ONGC Tripura PowerCompany (OTPC). The first unit of OTPC, with a generation capacity of 363 MW, isexpected to be operational in FY12. The second unit, with capacity of 363 MW, is expectedto be operational in FY13. At the peak capacity of 726 MW, the project is expected torequire 6 mmscmd of natural gas which would be supplied by ONGC from its knownreserves. This will result in a big jump in gas production from Assam. Andhra PradeshOffshore has come into focus owing to huge gas finds by RIL, GSPC and ONGC (KG-DWN-98/2). The company has embarked upon development of marginal fields to sustainproduction levels. The company is developing a multitude of marginal fields of whichG-1 and GS-15 (gas fields) are expected to start contributing in FY12. S-1 & Vashishthafields (gas fields) and Project Manik (oil field) are expected to start production fromFY13 onwards.

JV production to rise in near termProduction from JVs is expected to rise at CAGR of ~ 15.8% from FY10-13 due toramping up of output from the Rajasthan JV with Cairn India. We expect average crudeoil production rate of ~ 100,000 bpd, ~ 145,000 bpd and ~ 175,000 bpd in FY11, FY12and FY13 respectively from the Rajasthan fields. Further upside to production levelsmay come from EOR/IOR activities being carried out by Cairn India. In contrast tonomination fields, growth would be driven by oil. The other JVs are expected to maintaincurrent production levels in the near term. As these fields are very old, production maystart declining in the longer term and this decline may not be countered by addl. EOR/IOR production from the Rajasthan JV. Thus, we expect production from existing JVs todecline in the longer term.

Source: Company

AP Offshore fields

ONGC

7LKP Research

NELP: KG-DWN-98/2 looks promisingAmong its NELP fields, ONGC has struck huge gas reserves in its KG offshore block,KG-DWN-98/2, which is adjacent to RIL’s KG-D6 block. The company has submitted theDeclaration of Commerciality for the Northern Development Area of this block, which isbelieved to have in place resources of 115 MMT. This area will be developed jointly withthe company’s marginal fields in AP offshore. The Southern Discovery Area consists ofthe ultra deepwater discovery UD-1, which is believed to have in-place resource of 3.4 tcfwith recoverable reserves estimated at 1.9 tcf. Peak production levels are estimated at10-15 mmscmd, however, production is expected to start from FY16.

Domestic production to rise faster in the long termWe forecast oil & gas production CAGR of ~ 3.1% during FY10-13 mainly due to ramp upof output from Rajasthan JV (crude), Assam (gas) and C-series (gas) which would morethan compensate for marginal decline in Mumbai High, Cambay and other JVs. However,production CAGR during FY13-18 is estimated to be higher at ~ 4.8% due tocommencement of production from marginal fields in Mumbai High (oil & gas) & APoffshore (oil & gas), KG-DWN-98/2 (gas) and Daman offshore (gas). Redevelopmentefforts in Mumbai High & Assam are also expected to show a steady rise in productionlevels. This growth would more than compensate for falling production from JVs and theCambay basin.

ONGC (Standalone) Production (mmtoe)

Source: Company , LKP Research

26.7 27.2 27.2 28.1

25.7 26.2 27.4 29.4

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FY10 FY11E FY12E FY13E47%

48%

49%

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52%

Crude Gas Crude / Total

ONGC (Standalone) Crude (mmt)

Source: Company , LKP Research

93.3% 89.5% 87.1% 85.5%

6.7% 10.5% 12.9% 14.5%

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FY10 FY11E FY12E FY13E

Nomination JV

We see gas production growing at afaster clip than crude which will resultin crude production / total productionfalling by ~ 2%.

Nomination crude / total crude to fallby ~8%, implying higher blendedrealization.

ONGC

8LKP Research

OVL: The key to long term production growthOVL, the wholly owned subsidiary of ONGC, is currently active in 34 projects in 15countries across the world. Unlike ONGC, OVL realizes market price for its crudeoutput. However, the fiscal regime under which OVL operates varies from one countryto another. OVL and its consortium partners have to share profit petroleum with therespective Govt. whereas ONGC (standalone) doesn’t have to part with profit petroleumfrom its nomination blocks. A comparison between the two reveals that statutory leviesform a higher percent of sales for OVL, and tax provision / PBT for OVL is higher thanthat for ONGC. As OVL doesn’t carry any “Investments” on its balance sheet, otherincome / sales is also lower than ONGC. The combined effect is that OVL enjoys lowernet profit margins and lower ROCE than its parent company. However, OVL assumesstrategic significance due to its presence in countries with tremendous oil & gasreserves. By working in such conditions, the company can gain hands-on experienceof working in different geographies and can develop rapport with various regulatoryauthorities. OVL can take benefit of its association with global E&P leaders to learn themost advanced exploration & production techniques. Due to this, OVL can bid for worldclass assets more independently in the future and can bring them into productionquickly, thus, achieving the goal of higher consolidated production figures.

Sakhalin fields: Volume to drop till FY14E and then riseThe Sakhalin block, in which OVL has a stake of 20%, accounts for the lion’s share ofOVL’s reserves. The block is operated by Exxon (30%) with the other partners beingSODECO (30%) and Rosneft (20%). This block consists of 3 fields: Chavyo, Odoptuand Arkutan-Dagi. The Chavyo field had attained peak production levels earlier in thedecade and is expected to display a declining trend going forward. However, the Odoptufield, with peak production potential of 30,000 bpd, is expected to come on-streamsoon. As the decline in Chavyo field is expected to be greater than the contribution fromOdoptu field, output from Sakhalin will reduce till FY14. Development activities on the3rd field, Arkutan-Dagi, will commence in 2014. Total production is forecasted to risefrom FY14 onwards due to output from Arkutan-Dagi which will start contributing fromFY15 onwards. This field has a peak production potential of 80,000 bpd, which isexpected to be attained in FY16. Crude output from this field is of the light sweet varietyand is benchmarked to Brent. A small amount of gas is also produced from this field.

Sakhalin Production

Source: Sakhalin-1 website, Company, LKP Research

100,000

116,000

132,000

148,000

164,000

180,000

FY10 FY11E FY12E FY13E FY14E FY15E FY16E FY17E FY18E1.5

1.8

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bpd mmtoe

ONGC

9LKP Research

Imperial: Production to continue risingImperial Energy was founded in 2004 and was subsequently acquired by OVL in Jan2009. It mainly operates in the Tomsk region of Western Siberia which is the mostprolific oil producing region in Russia. The Tomsk region is the 2nd largest oil producingregion in Western Siberia and major global players like Gazprom-Neft, TNK-BP etcoperate in the region. OVL holds 100% interest in almost all of its blocks in this region.Oil production has increased from 6,000 bpd in 2009 to an average of ~ 11,000 bpd inFY10. Production is expected to continue rising going forward on the back of contributionfrom new fields in the block. Initially, peak production potential was estimated to be140,000 bpd; however, production is expected to be significantly lower than the initialestimates. As per FY10 OVL annual report, 4 bcm of gas reserves also exist in thisblock, which may provide further upside in the future.

Carabobo: the trump cardThe big boost to production is expected in FY14 from the Carabobo field in Venezuela, inwhich OVL has participating interest of 11%. Recoverable reserves in 25 yrs of operationsare 3 bn barrels, with peak production of around 400,000 bpd of heavy oil in FY16E. At thepeak production level, output from Carabobo will account for ~ 22% of OVL’s crude output.Approximately 200,000 bpd is intended to be upgraded into light crude oil and mixed withthe remaining 200,000 bpd as final product, thus, improving realizations. The license termwill be for 25 years with potential for a further 15 year extension. The project cost is estimatedat $ 15-20 bn, capex & opex are estimated at $ 6.37/bbl & $ 6.47/bbl for 25 yrs.

Other OVL assetsOVL holds a stake of 15% in 4 fields in the deepwater BC-10 block (Operator: Shell, 50%stake). Production was expected to peak in FY11 but is likely to be delayed by a year ortwo. Production level in FY10 translates to daily production rate of ~ 26 kbpd. We expectproduction rate to rise to peak level of 80 kbpd by FY13. Shell would be undertakingphase 2 of field development in 2013 which may counter the natural decline that may setin the field. The Myanmar A1/A3 block holds significant gas reserves and is expected tostart production from FY14 onwards. OVL holds a stake of 20% in this block. Peakproduction level is estimated to be 14 mmscmd and is expected to be sustained forconsiderable duration of time. OVL holds stake of 40% in the producing San Cristobalblock in Venezuela. Currently, the block is producing heavy oil @ 35,000 bpd which isexpected to steadily rise in the foreseeable future. Output from other blocks which arelocated in Sudan, Syria & Columbia is expected to fall on account of natural decline. Gasoutput from Vietnam block is expected to stay at the same levels going forward. No majorproduction surprises are expected from these fields in the future.

Source: Imperial Energy website, Company, LKP Research

Western Siberian Fields

ONGC

10LKP Research

OVL production to rise faster in the long termWe forecast production CAGR of ~ 3% during FY10-13 mainly due to ramp up of outputfrom Brazil and Imperial. However, production CAGR during FY13-18 is estimated to behigher at ~ 5.6% due to commencement of production from Carabobo and Myanmar andhigher production from Sakhalin and Imperial blocks. OVL may also acquire attractiveprospects going forward which might result in higher production growth than ourestimates.

OVL Production (mmtoe)

Source: Company , LKP Research

6.5 6.9 7.3 7.1

2.4 2.4 2.5 2.6

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Crude Gas Crude / Total

Crude Production

Source: Company , LKP Research

47% 50% 52% 54%

53% 50% 48% 46%

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FY10 FY11E FY12E FY13E

Light Heavy

Crude accounts for ~ 74% of total outputand is expected to stay roughly thesame during FY10-13.

Light crude will form a higher proportionof total crude going forward. However,this trend might reverse in the longerterm due to production of heavy oil fromCarabobo.

ONGC

11LKP Research

Consolidated production set to riseWe see ONGC reporting production growth from both its wings (Domestic & Overseas)on the back of ramping up of output from OVL and Rajasthan block, monetization of gasreserves in Assam and commencement of gas production from C-series. ONGC Groupproduction is forecasted to rise at CAGR of ~3.1% during FY10-13. Gas production isestimated to grow faster than crude, resulting in a fall of ~ 1.8% in crude as % of totalproduction. However, the important thing to note is that market linked crude as % oftotal crude will rise from 25% to 31.7%. This will improve blended crude realizations asONGC will have to bear subsidy burden on a lesser portion of its output. The biggerjump in production will occur after FY13 due to start of production from various blocksand EOR/IOR activities resulting in rising production elsewhere. While proportion ofgas may increase in the long term, subsidized crude will form a lesser proportion oftotal crude, thus benefiting realizations in the long term.

Consolidated Production (mmtoe)

Source: Company , LKP Research

33.2 34.1 34.5 35.1

28.1 28.6 29.9 32.0

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28

42

56

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FY10 FY11E FY12E FY13E50%

51%

52%

53%

54%

55%

Crude Gas Crude / Total

Crude Production

Source: Company , LKP Research

75% 71% 69% 68%

25% 29% 31% 32%

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FY10 FY11E FY12E FY13E

Subsidized Market linked

ONGC

12LKP Research

Robust economic outlook supporting high crude oil pricesThe primary driver of this industry is the crude oil price, which in turn depends uponglobal economic growth prospects, value of the US dollar against other currencies,OPEC interventions and political events in the oil producing regions. Demand for crudehas risen on the back of an improved economic outlook for OECD countries, record lowinterest rates in the US and growing fuel needs of the industrializing economies ofChina & India. The International Energy Agency (IEA) has raised its CY10 forecast for oildemand by 2.7 mn barrels per day (mbpd) to 87.7 mbpd. It expects CY11 demand to behigher by 1.4 mbpd at 89.1 mbpd. The IMF expects global GDP to expand by 4.4% inCY11 and 4.5% in CY12, which is a reflection of strong growth prospects. The Asianpowerhouses of China and India are expected to grow at 9.6% and 8.4% respectivelyfor 2011, as per the IMF. The central banks in the Euro region, UK and the US FederalReserve are persisting with their pro-growth stance by keeping interest rates at lowlevels. The continuation of the stimulus measures is expected to result in strong GDPgrowth which will also be helpful for crude demand and consequently prices. However,the fiscal problems in some of the Eurozone countries have not been resolved andthere are possibilities of Greece and Ireland-type scenarios in the near future.

Crude Oil - Demand & supply

Source: IEA, Bloomberg, LKP Research

80

82

84

86

88

90

Q1CY09 Q2CY09 Q3CY09 Q4CY09 Q1CY10 Q2CY10 Q3CY10 Q4CY1040

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Demand Supply Brent

Brent crude has breached the $ 120/bbl mark recently, with a good portion of this spikeoccurring since Jan 2011. This upward price spiral has occurred largely due to thespecter of reduced supply owing to increased political unrest in the oil producingMiddle East & North African countries. After Egypt’s long time ruler Hosni Mubarak wasforced to step down, the protests have spread to Libya, Yemen and Bahrain which areoil producing countries. The risk of damage to oil production facilities and reducedexports from the region is effectively reducing the “assumed” spare capacity of ~5mnbpd, most of which is located in Saudi Arabia. Doubts have been raised about theveracity of this number as the quoted figure of 5 mnbpd assumes Saudi Arabia canproduce 12.5 mnbpd which is much higher than the country’s consistent productionlevels of ~10 mnbpd for the last few years. However, we expect the situation to normalizeby the next quarter on the back of pro-people measures being taken by the rulingdispensations of these countries.

This crisis has accentuated the Brent-WTI differential to as high as $ 19/bbl. WTI crudeis mainly stored in Cushing (Oklahoma) which is landlocked. Due to limitations on theexisting evacuation pipeline network, inventories have accumulated and consequently,WTI crude has not risen in tandem with Brent and other light sweet crudes like BonnyLight and other light sweet US crudes. Historically, WTI has quoted at a slight premiumto Brent but this has now reversed overwhelmingly. Nomination crude from ONGC is ofthe light sweet variety and is benchmarked to Brent or Bonny light. Hence, ONGC ispoised to benefit from rising Brent prices.

ONGC

13LKP Research

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Dif ference Brent WTI

Crude Price Movements ($/bbl)

Source: Bloomberg, LKP Research

The global economy, though on the track to recovery, can’t withstand another bout of high oilprices. Statements made by US, IEA and Saudi Arabia about increasing oil supplies tomake up for lost output are aimed at keeping the fragile recovery on its legs. Consideringall these factors, we expect FY12E and FY13E Bonny light prices at $ 86/bbl and $ 87/bblrespectively.

Expect price hikes to keep a lid on under recoveriesCrude prices have risen sharply from ~ $ 75/bbl at the time of petrol deregulation (Jun2010) to above $ 100/bbl currently, which has resulted in a massive upward revision ofFY11E gross under recovery estimate to ~ `770,000 mn from the estimated figure of ~`530,000 mn in Jun 2010. This has manifested itself via increased per unit under recoveriesfor diesel, kerosene and LPG. For the fortnight ended Mar 1, 2011; under recoveries ondiesel, kerosene and LPG were `11.2/lit, `23.6/lit and `297.8/cylinder respectively. Weestimate FY11 gross under recovery at ̀ 782,668.2 mn, with ONGC’s share being ̀ 209,207.2mn. ONGC’s share of subsidy burden for 9MFY11 is `127,570 mn.

With domestic headline inflation still in double digit levels, GOI has refrained from raisingfuel prices further in this fiscal year. Going forward, we estimate crude prices to settle atlower levels as the political situation in oil producing countries stabilizes. Owing to highbase effect, inflation can slide to single digit which would make it easier for the Govt. toraise fuel prices. There is also the possibility of the Central Govt. raising auto fuel pricesafter the State Assembly elections in TN, Kerala, WB, Assam and Pondicherry.

We expect diesel price before taxes to be hiked by `1/lit each in FY12 and FY13. Forkerosene, we expect no price hike in FY12 in view of the rather large `3/lit hike in FY11.Going forward, we expect kerosene price to be hiked by a meager ̀ 0.5/lit in FY13. Similarly,we expect no price hike for LPG in FY12, but price hike of `10/cylinder in FY13. We observethat LPG spreads have plummeted to ~$ (30)/bbl currently which is quite lower than thehistorical averages. Hence, we assume LPG spread of $ (18)/bbl for FY12 and FY13. Wenote that any decision to reduce taxes / duties would reduce the gross under recoveriesfurther.

ONGC

14LKP Research

FY11E FY12E FY13E

International Prices ($/bbl)

Crude oil 87.5 86 87

Diesel spread 10.3 10.3 9.7

Kerosene spread 12.1 12 11.5

LPG spread (22.7) (18) (18)

Per unit under recovery

Diesel (`/lit) 4.4 2.7 1.8

Kerosene (`/lit) 17.7 16.7 16.3

LPG (`/cyl) 270.9 290.9 289.8

Total under recoveries ( `̀̀̀̀mn) 782,668.2 675,030.0 629,885.0

Diesel 311,507.3 204,675.0 148,782.7

Kerosene 201,766.8 187,571.0 179,944.5

LPG 246,072.5 282,784.0 301,157.8

of which

Upstream Share (@ 33%) 258,280.5 222,759.9 207,862.1

Share of ONGC (@ 81%) 209,207.2 180,435.5 168,368.3Source: Company , LKP Research

We expect consumption of diesel to grow at CAGR of ~ 8.4% during FY11-14 which isin line with the prevalent trend. While we expect consumption of LPG to grow at CAGRof ~ 6.9% during FY11-14, we expect consumption of kerosene to fall at CAGR of ~ 1.7%during the same time period. The sequential fall in kerosene consumption yoy hasbeen observed during the past and is expected to continue going forward. As a result,gross kerosene under recovery is projected to reduce slightly in absolute terms, whileunder recovery on LPG is forecasted to account for the lion’s share of total underrecoveries.

Net crude realization to improve going forwardDue to nominal price hikes of regulated fuels as explained above, we expect higher netcrude realization yoy for ONGC (standalone). We expect Bonny light price of $ 86/bbland $ 87/bbl for FY12 and FY13 respectively due to improved economic fundamentalsand ebbing of political unrest in oil producing countries. Going forward, we expectsubsidy / bbl to fall from $ 30.3/bbl in FY11 to $ 27/bbl and $ 24.8/bbl in FY12 and FY13respectively. This will enable net realizations to rise and will positively impact profitabilityof domestic operations. We assume crude from nomination fields and JVs other thanRajasthan to be priced at par with Bonny light. We assume crude from Rajasthan JV tobe priced at a discount of 12.5% to Brent. We assume light sweet crude from OVL tofetch realizations at par with Brent whereas we assume heavy / tough crude from OVLto be priced at a discount to Bonny light.

ONGC

15LKP Research

Crude Realizations ($/bbl)

Source: Company , LKP Research

10

26

42

58

74

90

FY09 FY10 FY11E FY12E FY13E

Realization Subsidy Bonny light Rajasthan

We estimate ONGC (standalone) crude sales to grow at CAGR of 6.1% from `445,040mn in FY10 to `531,531.6 mn in FY13. This growth would be mainly driven by increasingcontribution of Rajasthan field. We expect OVL crude sales to grow at CAGR of 11.6%from `142,150 mn in FY10 to `197,509 mn on the back of increasing production fromBC-10 and Imperial which will more than compensate the decline in Sakhalin andSudan fields. We see blended crude realization rising from $ 52.4/bbl in FY10 to $ 61.5/bbl in FY13. This is a result of the proportion of nomination crude to total crude fallingfrom 75% in FY10 to 68.3% in FY13E.

Crude Sales (`̀̀̀̀mn)

Source: Company , LKP Research

0

150,000

300,000

450,000

600,000

750,000

FY10 FY11E FY12E FY13E50

53

56

59

62

65

ONGC OVL Realization

($/b

bl)

ONGC

16LKP Research

Production growth + price hike = Jump in natural gas revenuesThe company’s gas sales have seen a quantum jump as APM gas price has beenhiked to $ 4.2/mmBtu (inclusive of royalty @ 10%) from $ 1.79/mmBtu previously for thepower and fertilizer sectors. The price of $ 4.2/mmBtu is currently the lowest gas pricein the country, with LNG being the most expensive at ~ $ 10-12/mmBtu. More importantly,the tolerance of the Govt. and customers to higher gas prices has increased markedly.The govt. has increased prices of natural gas for non-priority sectors by 10% to $ 5.25/mmBtu wef Dec 1, a hike of $ 0.5/mmBtu. Further, the govt. has allowed new gasproduction from nomination fields & marginal fields to be priced higher than the APMprice. For example, ONGC will get $ 5.25/mmBtu for the gas it produces from new fieldsin nominated blocks in the western offshore (C-series). It will get $ 4.75/mmBtu forfields in KG basin off the Andhra coast. Further, the planning commission will come upwith a mechanism for uniform natural gas pricing (gas pool pricing) in the country byApr 2011. Also, the APM price of $ 4.2/mmBtu is applicable till Mar 2014, after which itmay be hiked further.

We assume gas price of $ 5.25/mmBtu for C-series gas, $ 5.5/mmBtu for PMT gas and$ 4.75/mmBtu for gas from other JVs. From FY14 onwards, we expect APM price of $4.5/mmBtu and prices for gas from the other fields to be raised by $ 0.25/mmBtu. OVL’sgas realization from Vietnam, Myanmar and Sakhalin is subject to prices fixed by theGovt. in those countries. We see gas sales from domestic operations rising at CAGRof 31.6% from `73,797 mn in FY10 to `168,285mn in FY13. We see gas sales from OVLrising at CAGR of 8.4% from `7,607mn in FY10 to `9,694mn in FY13.

Natural Gas Sales (`mn)`mn)`mn)`mn)`mn)

Source: Company , LKP Research

60,000

84,000

108,000

132,000

156,000

180,000

FY10 FY11E FY12E FY13E6,000

6,800

7,600

8,400

9,200

10,000

ONGC OVL

ONGC

17LKP Research

Heavy capex programme lined upCapex on exploration, development and IOR/EOR activities is estimated to stay at highlevels going forward owing to a heavy capex programme lined up by the company. Thecompany has guided towards total consolidated capex for FY11 at `285.9 bn. Thecompany aims to drill 150 exploratory wells, which includes 8-10 deepwater wells. Italso plans to drill 233 development wells in FY11. Consolidated ONGC group capex forFY12 is estimated at `288 bn.ONGC (Standalone) has a cumulative capex plan of `365bn over the coming years, of which 15 projects worth `128bn have been completed.The completed projects include the 1st phase of redevelopment and EOR/IOR at MumbaiOffshore. The company is currently implementing 6 projects worth `237 bn whichincludes Phase 2 redevelopment in Mumbai High North and Mumbai High South. As aresult of EOR/IOR activities, natural decline has been arrested & the recovery factor in15 fields in Mumbai High has been increased from 27.5% in 2000 to 33.5% in 2010,which translates into a gain of 56 MMTOE. The company intends to further increase therecovery factor by 2020. Going forward, Mumbai High & associated marginal fields andthe KG Basin are expected to be the focus areas for the domestic entity. OVL is expectedto focus on ramping up output and incurring development expenditure on its producingfields, while it would also be concentrating on bringing its other assets into production.

Capex (FY11E) Capex (FY12E)

Source: Company , LKP Research

Development, 11.5%

Capital assets, 43.6%

E&P, 35.9%

R&D, 1.4%

JV, 7.7% JV,

7.7%

R&D, 1.4%

E&P, 35.9%

Capital assets, 43.6%

Development, 11.5%

ONGC

18LKP Research

ValuationWe have consolidated the financial statements of ONGC (domestic) and OVL andvalued the combined entity using DCF valuation. We have used WACC of 12% andterminal growth of 3% for valuing the combined exploration business. We assume20% of total hydrocarbon output is used both for internal consumption and for productionof value added products. Based upon the previously mentioned outlook for productionand realizations, we estimate oil & gas sales to grow at CAGR of ~9.9% from `751,667mn to `996,515mn in FY13. We estimate PAT to grow at CAGR of ~12.4% from`188,827 mn in FY10 to `268,471mn in FY13. We estimate gross producing propertiesto grow from `1,031,078 mn in FY10 to `1,398,034mn in FY13 & gross block to growfrom `819,205mn to `1,104,205mn during the same time period. Yearly capex isexpected to stay close to levels of `220-230 bn upto FY13. We estimate free cash flowsto rise from `92,035mn in FY11 to `122,938mn and `129,314mn in FY12 and FY13respectively.

WACC 12%

Terminal Growth 3%

PV of FCF to FY18E (`mn) 778,780.7

Terminal Value (`mn) 3,135,860.7

PV of terminal value (`mn) 1,588,724.6

Enterprise Value (`mn) 2,367,505.4

Net debt (`mn) (204,466.8)

Value of Equity (`mn) 2,571,972.2

Intrinsic Value (`/share) 300.6Source: Company , LKP Research

Assumptions

FY10 FY11E FY12E FY13E

Crude prod (mmt)

ONGC 26.5 27.2 27.2 28.1

OVL 6.5 6.9 7.3 7.1

Crude sales (mmt)

ONGC 22.3 23.3 23.3 24.2

OVL 6.5 6.9 7.3 7.1

Gas prod (mmtoe)

ONGC 25.6 26.2 27.4 29.4

OVL 2.4 2.4 2.5 2.6

Gas sales (mmtoe)

ONGC 20.6 22.4 23.7 25.7

OVL 2.4 2.4 2.5 2.6

Bonny light ($/bbl) 71.2 87.5 86 87

APM price ($/mmBtu) 1.8 3.8 4.2 4.2

Subsidy borne by ONGC (`mn) 115,543 209,207.2 180,435.5 168,368.3

Source: Company , LKP Research

ONGC

19LKP Research

Mangalore Refinery & Petrochemicals Ltd (MRPL)Mangalore Refinery & Petrochemicals Ltd (MRPL), in which ONGC holds 71.62% stake,operates a 11.82 MMTPA refinery in Mangalore on the west coast of India. The companyproduces the whole range of refined products which it supplies to both the domesticand export markets. The company aims to expand the refinery capacity to 15 MMTPA byend-FY12. The expansion will also witness the refinery complexity rising from 5.5 to 9.The higher complexity gives the refinery a higher secondary conversion capacity whichwill be helpful for maximizing GRM. The expanded refinery will also consist of a 2.2MMTPA PFCCU which will mark the entry of the company into the petrochemical space.The company is also setting up Single Point Mooring (SPM) system which will reducecrude transportation costs and would contribute to higher GRM.

Investment ArgumentThe refining industry has bounced back strongly from the lows it hit during Q3FY10when refining margins had entered into negative territory. Currently, Singapore simpleGRMs are quoting at ~$ 6/bbl which is representative of mid-cycle levels. The jump inrefining margins is largely due to very strong diesel cracks which have of late crossed$ 18/bbl. MRPL is poised to take advantage of this trend as diesel accounts for ~40%of the product slate. Excellent product slate of the expanded refinery, due to reduction infuel oil and introduction of polypropylene, is expected to result in GRM jumping by ~$ 4/bbl during FY12-13. The company is also incurring capex towards construction of SPMwhich is expected to result in lower transportation costs and corresponding increase inGRM.

We expect MRPL to report GRM of $ 6.6/bbl in FY12. Post expansion in FY13, we expectthe company to report GRM of $ 10.4/bbl as a result of the improved product slate. Thisexpansion in GRM is expected to result in EBITDA doubling from `21,965.6 mn in FY10to `41,974.6 mn in FY13. We forecast sales & net profit CAGR of 8.7% and 15.1%during FY10-13.

ValuationWe value MRPL using EV/EBITDA multiple of 6.25x and arrive at our FY12E price targetof `91 per share and initiate coverage with a BUY rating. Triggers for the stock areupdates regarding the progress of its refinery. The expansion project has achievedphysical progress of 72.9% as of Jan 2011.

MRPL

ONGC

20LKP Research

About the companyMRPL is a state-of-the-art grassroot refinery located in Mangalore and is a 71.62%subsidiary of ONGC. The refinery has Nelson complexity index of 5.5 with high flexibilityto process crudes of various API and operates with a high degree of automation. MRPLhas upgraded its refinery capacity to 11.82 MMTPA in FY10 and is the only refinery inIndia to have 2 hydrocrackers producing Premium Diesel (High Cetane). It is also theonly Refinery in India to have 2 CCRs producing Unleaded Petrol (High Octane). Thecompany earns ~65% of its revenues from the domestic market. The company isexpanding its refinery capacity to 15 MMTPA by end-FY12. It is also setting up a 2.2MMTPA PFCCU and SPM which are targeted to be commissioned by Apr-May 2012.

Historical Performance

Source: Company , LKP Research

0

2

4

6

8

10

12

14

FY06 FY07 FY08 FY09 FY100.0%

20.0%

40.0%

60.0%

80.0%

100.0%

120.0%

140.0%

Capacity Intake Utilization

Expected Performance

Source: Company , LKP Research

MRPL

MM

TPA

MM

TPA

0

2

4

6

8

10

12

14

16

FY10 FY11E FY12E FY13E0

2

4

6

8

10

Capacity Intake Complexity

ONGC

21LKP Research

Investment ArgumentExcellent product mix to improve blended realizationThe capacity expansion will see the product composition of light, medium and heavydistillates witness a major change. While the proportion of light and middle distillateswould increase, composition of heavy distillates will witness a major transformation.Fuel oil will be subjected to further processing in order to produce bitumen and tointroduce pet coke into the product portfolio. Higher proportion of lighter products andlower proportion of heavy products will be beneficial for blended realization.

The capacity expansion programme also envisages the construction of 2.2 MMTPAPFCCU which is expected to produce 440,000 tpa of polypropylene (PP). PP belongs tothe family of petrochemicals and hence, the expansion marks the entry of MRPL intothe petrochemical space. Realization for PP is currently ~$ 1500/ton, which is muchhigher than that for ordinary refined products. Hence, blended realization will get anotherboost from sales of PP.

Product Slate

Source: Company , LKP Research

0%

20%

40%

60%

80%

100%

Present Post expansion

Light Middle Heavy PP

FY13E FOB Realization ($/ton)

Source: Company , LKP Research

0 280 560 840 1,120 1,400

LPG

Naphtha

Gasoline

Diesel

Kerosene

Fuel Oil

Bitumen

Pet coke

PP

MRPL

ONGC

22LKP Research

Increased use of heavier crudes to bring down crude costAlong with capacity expansion to 15 MMTPA, the complexity of the refinery will increaseto 9 from 5.5 currently. This will enable the refinery to process an increased proportionof heavy and tough crudes in its crude diet. The light-heavy spread which had shrunk to~$ 2/bbl in Q4FY10 has since then expanded to ~$ 6/bbl which is beneficial for complexrefiners. Increased use of heavy varieties of crude is estimated to result in reduction ofeffective crude cost by ~$ 1.3/bbl during FY12-13. We assume light sweet crude pricesto average at $ 86/bbl and $ 87/bbl during FY12 & FY13 respectively.

Currently, MRPL sources ~15% of its crude intake domestically; from ONGC and CairnIndia. The company sources 0.4 MMT from Cairn India currently. With the ramp up ofproduction from Cairn India’s Rajasthan field, we expect the company to source 0.6MMT and 0.8 MMT from Cairn India in FY12 and FY13 respectively. We note that Mangalacrude is attractively priced at 12.5% discount to Brent. Further, the company has to payonly FOB price, thus saving on freight and insurance costs associated with importedcrude. We assume no change in quantity of crude sourced from ONGC going forward.The company has indicated that it is getting crude supply from Iran. Efforts are beingmade to arrive at a working solution.

Crude Intake cost ($/bbl)

Source: Company , LKP Research

60

66

72

78

84

90

FY10 FY11E FY12E FY13E

Crude cost Bonny light

Resulting in upward spike in GRM (FY13E)As a result of the improved product mix and increased use of heavier crudes, weforecast GRM to spike upwards to $ 10.4/bbl in FY13 from $ 6.6/bbl in FY12. GRM forFY11 would be adversely affected due to unusual heavy losses in Q1FY11 owing toexchange variation and inventory valuation. We estimate FY11 GRM at $ 3.5/bbl, withQ4FY11 GRM estimated at $ 6.8/bbl.

The jump in FY13E GRM is mainly a result of PP which commands very high realizationsas compared to other refined products. Other factors contributing to the jump in GRMpost expansion are increased proportion of light products and diesel and reducedproduction of low margin fuel oil.

MRPL

ONGC

23LKP Research

GRM ($/bbl)

Source: Company , LKP Research

2

4

6

8

10

12

FY10 FY11E FY12E FY13E

Product off-take strategyMRPL’s product marketing strategy consists of deeper penetration of the domesticmarket where the margins are higher than the export markets. The domestic marketcurrently accounts for ~65% of the company’s revenues. Pricing for the domestic marketis done using the import parity price, which includes freight, insurance, customs dutyand ocean loss. Even though export parity pricing includes customs duty drawbackalong with FOB price, the positive freight rate & customs duty differentials betweenproducts and crude oil results in import parity price being higher than export parityprice. Sales of petrol and diesel to refineries are done at the refinery transport price,which is an 80/20 weighted average of the import and export parity prices respectively.Sales of all other products to refineries are done at import parity prices. The companyalso sold 808 tons of ATF and furnace oil in FY10 (FY09 sales qty: 775.4 tons) via directmarketing sales, which is the highest so far. Direct sales of bitumen for FY10 grew by5.1% from 328.5 tons in FY09 to 345.2 tons in FY10. The company has successfullyentered into the neighboring states of AP, TN, Kerala and Maharashtra for direct sales.The company is proceeding cautiously with regard to retail sales of petrol and diesel inview of regulated pricing prevalent in the country. It plans to enter into retail sales whenpricing for these fuels are deregulated.

The company has entered into JV with Shell BV (Netherlands) for marketing of ATF todomestic & international airlines at Indian airports. The JV, Shell MRPL Aviation Fuels& Services Pvt. Ltd, sold 412,060 KL of ATF in FY10 and subsequently turned profitable.It fuelled 11,106 flights at the Bangalore and Hyderabad airports in FY10. The companyhas obtained permission from AAI for Mobile Refueling at Mangalore, Goa, Calicut etc.

The company has renewed its export contract with State Trading Corporation, Mauritiusfor supply of 1.1 MMTPA (+/- 10%) of petroleum products upto 31st Jul, 2013. The companyeffectively enjoys monopoly status in Mauritius as it supplies the entire requirement ofthat country. The total value of this contract at current market prices exceeds $ 2 bn.

MRPL

ONGC

24LKP Research

FY12E Product prices ($/bbl)

Source: Company , LKP Research

50

64

78

92

106

120

LPG Naphtha Gasoline Diesel Jet Fuel Fuel Oil

FOB Export parity Import parity

Capex Plan and Sources of FundingMRPL is carrying out 3 major projects currently: expansion of refinery to 15 MMTPA,polypropylene unit and SPM facility. The capex outlay for these projects is estimated tobe `121.6 bn, `18 bn and `11.7 bn respectively. This translates into total capex of`151.3 bn which will be carried out during FY11-13. The capacity expansion project isprogressing ahead of schedule with physical progress of 72.9% as on Jan 2011 asagainst the target of 71.4%. Orders for all the units like PFCC, SRU & PPU, CaptivePower Plant, DHDT etc have been placed. Physical progress for the polypropyleneproject is 44.2% as on Jan 2011. The commitment made against the project so farstands at `113.8 bn. The expansion project is expected to achieve mechanicalcompletion by Oct 2011 and is expected to be commissioned in phases by end-FY12.The polypropylene project is expected to achieve mechanical completion by Apr 2012.The company is also setting up SPM facility in Mangalore port area to receive crude inVLCC tankers. This will reduce freight costs and also enable the company to sourcecrude from Venezuela and West Africa. The SPM facility is also proposed to be used byIndian Strategic Petroleum Reserves for setting up crude oil storage cavern of 1.5 MMT.This project is expected to be completed by May 2012.

The D/E ratio for funding the expansion project would be 2:1, with the equity contributionto be met from internal accruals. ONGC has sanctioned term loan of `50,000 mn for theexpansion project at interest rate of SBI PLR – 3.85%. OIDB has also sanctioned amedium term loan of `2,000 mn. The company will tie up the remaining debt requirementin due course of time.

Return ratios to improve post expansionWe forecast total debt to rise from `16,964 mn in FY10 to `53,970.7 mn in FY11 and `111,970.7 mn in FY12 & FY13 due to the capex involved for the projects being undertakenby the company. We see net debt/equity rising from (0.1) in FY10 to 0.8 and 1.5 in FY11Eand FY12E before falling to 1.1 in FY13E. Interest expense is forecasted to jump from`1,155 mn in FY10 to `3,758.1 mn in FY11 and `7,528.1 mn in FY12 & FY13. However,interest coverage ratio looks comfortable at 4.2x, 2.7x and 4.4x for FY11E, FY12E andFY13E respectively.

We expect all the projects to be completed by Q1FY13 and we expect the same to bereflected fully in FY13 financials. Gross block is expected to jump from `74,351.7 mn inFY10 to `205,851.7 mn in FY13. We see ROCE and ROE falling from 23.7% and 21.6%in FY10 to 13% in FY12 as a result of the capex and increased interest expenses duringthis period of time. However, ROCE and ROE are expected to bounce to 16.9% and22.6% in FY13 respectively.

MRPL

ONGC

25LKP Research

Performance Parameters

Source: Company , LKP Research

-1.0

2.6

6.2

9.8

13.4

17.0

FY10 FY11E FY12E FY13E10%

13%

16%

19%

22%

25%

Net D/E Int. coverage ROCE ROE

FY13E EBITDA to double from FY10 levelsWe forecast net sales of `379,702.6 mn, `387,071.4 mn and `409,555.7 mn in FY11,FY12 and FY13 respectively. We assume 85% capacity utilization in FY13 as it is thefirst year of operations for the 15 MMTPA refinery. Commencement of operations fromthe expanded refinery is expected to result in a jump in profitability parameters owing tohigher GRM. We forecast EBITDA to double from ̀ 21,965.6 mn in FY10 to `41,974.6 mnin FY13, translating into CAGR of 24.1%. Correspondingly, EBITDA margins are expectedto jump from 6.9% to 10.2% during the same period. Net profit CAGR is lower at 15.1%due to the increased interest expenses associated with the expansion project. Weforecast net profit of `8,535.9 mn, `8,420.4 mn and `16,952.5 mn in FY11, FY12 andFY13 respectively.

MRPL

Financial Performance

Source: Company , LKP Research

0.0%

2.4%

4.8%

7.2%

9.6%

12.0%

FY10 FY11E FY12E FY13E250,000

290,000

330,000

370,000

410,000

450,000

Net Sales EBITDA (%) NPM (%)

`m

n

ONGC

26LKP Research

Key RisksRecurrence of recession in the global or the domestic economy would depresscommodity prices and would have an adverse effect on the company.

Delays in expanding refinery capacity and/or cost overruns will adversely affect per-formance.

Upward spike in interest rates will increase cost of debt.

Volatility in commodity prices and exchange rates might result in hedging losses.

Outlook and ValuationWe estimate revenue CAGR at ~8.7%, EBITDA CAGR at ~24.1% and PAT CAGR at~15.1% during FY10-FY13. GRM is expected to rise from $ 3.5/bbl in FY11 to $ 10.4/bblin FY13E owing to increased complexity and improved product mix. Free cash flows areestimated to be `(59,805.6) mn in FY11 and `(44,914.5) mn in FY12 due to capexincurred for refinery expansion, installation of PFCCU and SPM. Free cash flow isexpected to turn positive to `22,083.7 mn in FY13 as major portion of the capex isexpected to be incurred by FY12.

We have valued MRPL using EV/EBITDA valuation and initiate coverage with a FY12Etarget price of `91, which translates to upside of 47.5%. Generally, complex refineriesare valued at one year forward multiple of 7x. Since sales from the expanded refineryoccur in FY13 which is 2 years away, we have adjusted the multiple of 7x for time valueand use EV/EBITDA multiple of 6.25x on FY13E EBITDA to arrive at our price target.Triggers for the stock are progress reports on the status of completion of the expandedrefinery.

Sensitivity AnalysisWe perform a sensitivity analysis to estimate the target price at different levels of crudeprices and `/$ exchange rate.

$ 75/bbl $ 80/bbl $ 86/bbl $ 90/bbl $ 95/bbl

43 83.9 86.7 90 92.8 95.9

44 84.3 87.1 90.6 93.5 96.6

45 84.7 87.6 91.1 94.1 97.3

46 85.1 88.1 91.7 94.7 98

47 85.5 88.5 92.2 95.3 98.7

MRPL

ONGC

27LKP Research

Contribution to EBITDA

Source: Company , LKP Research

0%

20%

40%

60%

80%

100%

FY10 FY11E FY12E FY13E

ONGC OVL MRPL

Financial Performance

Source: Company , LKP Research

10%

19%

28%

37%

46%

55%

FY10 FY11E FY12E FY13E900,000

1,000,000

1,100,000

1,200,000

1,300,000

1,400,000

Net Sales EBITDA (%) NPM (%)

Consolidated topline & bottomline to grow steadilyGoing forward, revenue is expected to grow on the back of increasing crude & gasproduction, sequentially better realizations, higher gas prices and higher sales fromMRPL’s expanded refinery. We forecast revenue CAGR of 10.2% during FY10-13, withEBITDA CAGR of 11% and net profit CAGR of 13.1% over the same period. DD&Aexpenses are expected to leap from `187,188.3 mn in FY10 to `234,462.3 mn in FY13as a result of the huge exploration & development campaign, in addition to refineryexpansion, being undertaken by the company. We expect consolidated revenue of `1,230,741 mn, `1,289,573.4 mn and `1,363,321.7 mn in FY11, FY12 and FY13respectively. We expect consolidated PAT of `252,740.4 mn, `254,106.6 mn and `280,544.4 mn and consolidated EPS of `29.5, `29.7 and `32.8 in FY11, FY12 andFY13 respectively.

`m

n

ONGC

28LKP Research

Key Risks for the consolidated entityRecurrence of recession in the global or the domestic economy would depresscommodity prices and general equity valuations.

Any adverse change in the subsidy sharing mechanism will reduce profitability andprove to be detrimental to valuations.

Spike in crude prices would increase the under recovery burden if fuel prices are notincreased in tandem.

Inability to find establish new finds will adversely affect the reserve replacementratio.

Sensitivity AnalysisWe consider the following scenarios and estimate the target price under each of these.

.

FY12E - Bonny light $ 75/bbl $ 80/bbl $ 86/bbl $ 90/bbl $ 95/bbl

Subsidy burden (` mn) (57,944.5) (111,911.3) (180,435.5) (225,048.8) (281,162.4)

EPS (`/share) 30.2 30.1 29.7 29.6 29.4

Target price (`/share) 329.4 328.8 327.6 327.1 326.3

Case Scenario Target price (`/share)

A No fuel price hikes 262.3

B Upstream sharing 40% subsidy 292.2

C Base case 327.6

D Diesel deregulation from FY12 355.4

E Zero under recoveries from FY12 470.6

We perform a sensitivity analysis to estimate the target price at different levels of FY12EBonny light prices.

ONGC

29LKP Research

Financial Summary (ONGC Standalone)Income statement Balance sheetYE Mar ( `mn) FY10 FY11E FY12E FY13E

Revenue 599,862 697,624 732,711 787,312

Operating expenses 185,159 213,764 222,974 240,903

Staff expenses 11,075 11,860 13,189 14,959

Other Exp 48,899 51,635 53,729 55,979

Operating Profit 354,730 420,366 442,820 475,470

Operating Margin(%) 59.1% 60.3% 60.4% 60.4%

Other Income 41,867 57,119 48,787 55,634

DDA 146,432 154,130 166,265 174,407

EBIT 250,165 323,354 325,342 356,697

EBIT Margin(%) 41.7% 46.4% 44.4% 45.3%

Interest 144 402 427 452

PBT 250,021 322,953 324,915 356,245

PBT Margin(%) 41.7% 46.3% 44.3% 45.2%

Tax 82,163 106,574 107,222 117,561

PAT 167,675 216,378 217,693 238,684

PAT Margins (%) 28.0% 31.0% 29.7% 30.3%

YE Mar ( `mn) FY10 FY11E FY12E FY13E

SOURCES OF FUNDS

Equity Share Capital 21,389 42,778 42,778 42,778

Reserves & Surplus 851,437 966,347 1,103,959 1,262,564

Total Networth 872,826 1,009,124 1,146,737 1,305,342

Total debt 50 50 60 70

Other liabilities 253,189 258,189 263,189 268,189

Total Liabilities 1,126,065 1,267,363 1,409,986 1,573,600

APPLICATION OF FUNDS

Net block 156,485 218,188 277,175 333,286

Capital WIP 102,414 112,414 102,414 92,414

Net Producing properties 402,822 436,579 470,707 506,285

Pre Producing properties 55,497 62,187 69,847 77,890

Investments 57,720 58,903 60,903 52,884

Current Assets

Cash and Bank 188,615 169,806 201,009 258,562

Inventories 46,786 48,750 55,870 62,780

Sundry Debtors 30,586 42,049 44,966 49,180

Loan, Advances & others 271,726 331,949 345,744 357,339

Current Liab & Prov

Current liabilities 120,573 143,347 144,535 140,206

Provisions 74,427 78,927 83,427 85,927

Net Current Assets 342,714 370,279 419,627 501,728

Miscellaneous expenses 8,413 8,813 9,313 9,113

Total Assets 1,126,065 1,267,363 1,409,986 1,573,600

Key Ratios

YE Mar FY10 FY11E FY12E FY13E

Per Share Data (`̀̀̀̀)

EPS 19.6 25.3 25.4 27.9

CEPS 26.3 33.3 34.3 37.6

BVPS 102.0 117.9 134.0 152.6

DPS 8.2 8.0 8.0 8.0

Growth Ratios(%)

Revenue -5.7 16.3 5.0 7.5

EBITDA 10.3 20.4 3.0 8.0

PAT 4.0 29.0 0.6 9.6

Cash PAT 3.4 26.6 2.9 9.6

Valuation Ratios (X)

P/E 13.9 10.8 10.7 9.8

P/CEPS 10.4 8.2 8.0 7.3

P/BV 2.7 2.3 2.0 1.8

EV/Sales 3.6 3.1 2.9 2.6

EV/EBITDA 5.4 4.5 4.3 3.9

Turnover Ratios (Days)

Recievable 21.7 22.0 22.4 22.8

Payable 76.3 75.0 72.0 65.0

Inventory 7.7 7.5 7.4 7.3

Profitability Ratios (%)

ROCE 23.3 27.0 24.3 23.9

ROE 20.2 23.0 20.2 19.5

Dividend payout 42.1 31.6 31.4 28.7

Dividend yield 3.0 2.9 2.9 2.9

Cash FlowYE Mar ( m̀n) FY10 FY11E FY12E FY13E

Consolidated PAT 167,675 216,378 217,693 238,684

Depreciation/Depletion 57,502 68,650 75,585 82,727

Interest 144 402 427 452

Chng in working capital 23,629 46,374 18,145 24,547

Other operating activities (13,170) (4,600) (4,500) (5,200)

CF from operations (a) 214,719 243,254 279,633 302,064

Capital expenditure 141,344 180,800 166,360 172,460

Chng in investments 6,817 1,183 2,000 (8,019)

CF from investing (b) (148,161) (181,983) (168,360) (164,441)

Free cash flow 73,519 62,856 113,700 130,056

Equity raised/(repaid) 0 21,389 0 0

Inc/dec in borrowings (218) 0 10 10

Dividend paid (incl. tax) 82,198 80,080 80,080 80,080

Adj in R&S (5) (21,389) 0 0

CF from financing (c) (82,421) (80,080) (80,070) (80,070)

Net chng in cash (a+b+c) (15,864) (18,809) 31,203 57,553

Closing cash & cash equiv 188,615 169,806 201,009 258,562

Source: Company , LKP Research

ONGC

30LKP Research

Financial Summary (MRPL)Income statement Balance sheetYE Mar ( `mn) FY10 FY11E FY12E FY13E

Revenue 318,702 379,703 387,071 409,556

Raw materials 302,184 364,904 359,455 364,976

Staff expenses 959 1,637 1,719 1,805

Other Exp 402 (3,430) 2,111 2,210

Operating Profit 15,156 16,591 23,786 40,565

Operating Margin(%) 4.8% 4.4% 6.1% 9.9%

Other Income 6,809 3,227 1,086 1,410

Depreciation 3,893 3,866 4,776 9,144

EBIT 18,072 15,952 20,096 32,830

EBIT Margin(%) 5.7% 4.2% 5.2% 8.0%

Interest 1,155 3,758 7,528 7,528

PBT 16,917 12,194 12,568 25,302

PBT Margin(%) 5.3% 3.2% 3.2% 6.2%

Tax 5,795 3,658 4,147 8,350

Consolidated PAT 11,124 8,536 8,420 16,952

PAT Margins (%) 3.5% 2.2% 2.2% 4.1%

YE Mar ( `mn) FY10 FY11E FY12E FY13E

SOURCES OF FUNDS

Equity Share Capital 17,527 17,527 17,527 17,527

Reserves & Surplus 38,347 44,422 50,382 64,874

Total Networth 55,874 61,949 67,908 82,400

Total debt 16,964 53,971 111,971 111,971

Preferred Capital 92 46 46 -

Deferred tax liability 6,602 6,602 6,602 6,602

Total Liabilities 79,532 122,568 186,527 200,973

APPLICATION OF FUNDS

Gross block 74,352 91,852 175,852 205,852

Accumulated Depreciation 41,428 45,294 50,071 59,215

Net block 32,924 46,557 125,781 146,637

Capital WIP 18,603 68,603 48,603 28,603

Investments 16,237 5,423 5,423 5,150

Current Assets

Cash and Bank 24,500 6,250 9,347 21,668

Inventories 31,144 30,183 30,483 31,576

Sundry Debtors 16,572 22,886 23,330 24,686

Loan, Advances & others 5,850 5,850 5,850 5,850

Current Liab & Prov

Current liabilities 63,099 59,984 59,089 59,996

Provisions 3,198 3,200 3,200 3,200

Net Current Assets 11,769 1,985 6,721 20,584

Total Assets 79,532 122,568 186,527 200,973

Key Ratios

YE Mar FY10 FY11E FY12E FY13E

Per Share Data (`̀̀̀̀)

Basic EPS 6.3 4.9 4.8 9.7

Diluted EPS 5.9 4.5 4.4 8.9

CEPS 8.6 7.1 7.5 14.9

BVPS 31.9 35.3 38.7 47.0

DPS 1.2 1.2 1.2 1.2

Growth Ratios(%)

Revenue -16.7 19.1 1.9 5.8

EBITDA -6.0 -9.8 25.5 68.8

PAT -6.7 -23.3 -1.4 101.3

Cash PAT -9.0 -17.4 6.4 97.8

Valuation Ratios (X)

P/E 9.7 12.7 12.9 6.4

P/CEPS 7.2 8.7 8.2 4.2

P/BV 1.9 1.7 1.6 1.3

EV/Sales (0.0) 0.1 0.3 0.2

EV/EBITDA 4.6 7.9 8.5 4.7

Turnover Ratios (Days)

Recievable 16.9 22.0 22.0 22.0

Payable 57.0 60.0 60.0 60.0

Profitability Ratios (%)

ROCE 23.7 15.8 13.0 16.9

ROE 21.6 14.5 13.0 22.6

Dividend payout 18.9 24.6 25.0 12.4

Dividend yield 1.9 1.9 1.9 1.9

Cash Flow

YE Mar ( `mn) FY10 FY11E FY12E FY13E

Consolidated PAT 11,124 8,536 8,420 16,952

Depreciation 3,893 3,866 4,776 9,144

Interest 1,155 3,758 7,528 7,528

Chng in working capital (15,597) 8,466 1,639 1,541

Other operating activities (917) 0 0 0

CF from operations (a) 31,530 3,936 11,557 24,556

Capital expenditure 14,691 67,500 64,000 10,000

Chng in investments 4,908 (10,814) 0 (273)

CF from investing (b) (19,599) (56,686) (64,000) (9,727)

Free cash flow 17,994 (59,806) (44,915) 22,084

Equity raised/(repaid) 0 0 0 0

Inc/dec in borrowings (2,904) 37,007 58,000 0

Dividend paid (incl. tax) 2,452 2,461 2,461 2,461

Change in preferred capital 0 (46) 0 (46)

Adj in R&S 0 0 0 0

CF from financing (c) (5,356) 34,500 55,539 (2,507)

Net chng in cash (a+b+c) 6,575 (18,250) 3,097 12,322

Closing cash & cash equiv 24,500 6,250 9,347 21,668Source: Company , LKP Research

MRPL

ONGC

31LKP Research

Financial Summary (ONGC Consolidated)Income statement Balance sheetYE Mar ( `mn) FY10 FY11E FY12E FY13E

Revenue 1,017,395 1,230,741 1,289,573 1,363,322

Operating expenses 508,157 621,345 636,696 658,141

Staff expenses 14,071 15,461 17,028 18,856

Other Exp 51,672 54,804 62,965 65,219

Operating Profit 443,496 539,132 572,884 621,106

Operating Margin(%) 43.6% 43.8% 44.4% 45.6%

Other Income 52,728 58,343 49,499 57,389

DDA 187,188 198,292 216,702 234,462

EBIT 309,035 399,183 405,682 444,033

EBIT Margin(%) 30.4% 32.4% 31.5% 32.6%

Interest 5,022 4,602 8,427 8,625

PBT 304,013 394,581 397,255 435,407

PBT Margin(%) 29.9% 32.1% 30.8% 31.9%

Tax 107,138 138,387 139,680 151,490

Consolidated PAT 194,057 252,740 254,107 280,544

PAT Margins (%) 19.1% 20.5% 19.7% 20.6%

YE Mar ( `mn) FY10 FY11E FY12E FY13E

SOURCES OF FUNDS

Equity Share Capital 21,389 42,778 42,778 42,778

Reserves & Surplus 992,678 1,157,171 1,333,711 1,536,549

Total Networth 1,014,066 1,199,949 1,376,489 1,579,326

Total debt 62,669 53,581 113,391 117,401

Other liabilities 293,934 281,039 285,039 289,039

Total Liabilities 1,370,670 1,534,569 1,774,920 1,985,767

APPLICATION OF FUNDS

Net block 243,762 322,727 470,671 556,781

Capital WIP 176,039 220,437 193,437 166,437

Net Producing properties 511,665 555,672 599,654 647,424

Pre producing properties 80,125 87,407 97,095 108,650

Investments 51,593 43,921 45,921 37,629

Goodwill 95,385 87,455 82,455 77,455

Current Assets

Cash and Bank 231,245 221,417 265,234 334,471

Inventories 82,400 85,429 93,149 101,452

Sundry Debtors 71,424 97,218 103,154 108,255

Loan, Advances & others 120,595 139,237 151,792 164,297

Current Liab & Prov

Current liabilities 226,819 252,612 249,903 236,645

Provisions 75,158 82,553 87,053 89,553

Net Current Assets 203,687 208,138 276,373 382,278

Miscellaneous expenses 8,413 8,813 9,313 9,113

Total Assets 1,370,670 1,534,569 1,774,920 1,985,767

Key Ratios

YE Mar FY10 FY11E FY12E FY13E

Per Share Data (`̀̀̀̀)

EPS 22.7 29.5 29.7 32.8

CEPS 32.4 40.9 42.3 47.2

BVPS 118.5 140.3 160.9 184.6

DPS 8.2 8.0 8.0 8.0

Growth Ratios(%)

Revenue -2.8 21.0 4.8 5.7

EBITDA 6.1 20.4 4.2 9.0

Consolidated PAT -1.9 30.2 0.5 10.4

Cash PAT 0.7 26.2 3.6 11.4

Valuation Ratios (X)

P/E 12.0 9.2 9.2 8.3

P/CEPS 8.4 6.7 6.4 5.8

P/BV 2.3 1.9 1.7 1.5

EV/Sales 2.1 1.8 1.7 1.6

EV/EBITDA 4.4 3.6 3.5 3.1

Turnover Ratios (Days)

Recievable 25.7 25.0 28.4 28.3

Payable 76.6 71.1 71.1 65.1

Inventory 53.1 49.3 51.2 54.0

Profitability Ratios (%)

ROCE 23.4 27.4 24.5 23.6

ROE 20.0 22.8 19.7 18.9

Dividend payout 36.4 27.1 26.9 24.4

Dividend yield 3.0 2.9 2.9 2.9

Cash FlowYE Mar ( `mn) FY10 FY11E FY12E FY13E

Consolidated PAT 194,057 252,740 254,107 280,544

DDA 82,890 96,795 108,145 123,046

Interest 5,022 4,602 8,427 8,625

Chng in working capital (15,088) 14,278 24,419 36,667

Other operating activities (14,232) 13,295 (3,500) (4,200)

CF from operations (a) 306,266 321,963 341,332 371,123

Capital expenditure 208,964 271,447 282,760 241,480

Chng in investments (1,864) (15,603) (3,000) (13,292)

CF from investing (b) (207,100) (255,844) (279,760) (228,188)

Free cash flow 102,324 55,118 66,999 138,268

Equity raised/(repaid) 0 21,389 0 0

Inc/dec in borrowings (2,922) (9,088) 59,810 4,010

Dividend paid (incl. tax) 82,575 80,437 80,437 80,437

Adj in R&S (19,650) (7,810) 2,872 2,730

CF from financing (c) (105,147) (75,947) (17,756) (73,697)

Net chng in cash (a+b+c) (5,981) (9,827) 43,816 69,238

Closing cash & cash equiv 231,245 221,417 265,234 334,471

Source: Company , LKP Research

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