Why big­ger is bet­ter for oil com­pa­nies

Con­sol­i­da­tion of oil PSUs could be a win-win for both up­stream and down­stream com­pa­nies, but the ex­er­cise may not be easy

Business Standard - - TAKE TWO - JY­OTI MUKUL

Public sec­tor un­der­tak­ings dom­i­nate in the petroleum sec­tor. Whether it is in pro­duc­ing oil and gas or the down­stream busi­ness of re­tail­ing petroleum prod­ucts, they have the lion’s share. The gov­ern­ment, how­ever, aims to cre­ate even big­ger PSUs through con­sol­i­da­tion.

“It’s not going to be a merger of all oil public sec­tor un­der­tak­ings into one,” Petroleum Min­is­ter Dhar­men­dra Prad­han said af­ter the an­nounce­ment for con­sol­i­da­tion was made by Fi­nance Min­is­ter Arun Jait­ley in his Bud­get speech in Fe­bru­ary. “It’s an in­prin­ci­ple de­ci­sion taken by the gov­ern­ment to de­velop a few in­te­grated state oil com­pa­nies, which will have bet­ter risk man­age­ment ca­pac­ity and the clout to com­pete in in­ter­na­tional mar­kets,” said Prad­han.

Though this hinted at cre­ation of more than one in­te­grated com­pany, it is widely ex­pected that the big­gest of them all, Oil and Nat­u­ral Gas Cor­po­ra­tion, will be the first one to get off the block to be­come even big­ger through some form of takeover of Hin­dus­tan Petroleum Cor­po­ra­tion Ltd (HPCL), the sec­ond largest petroleum re­tailer in the coun­try.

There are par­al­lel pro­pos­als of GAIL In­dia, the big­gest nat­u­ral gas com­pany in the coun­try, com­bin­ing with Oil In­dia Ltd, while HPCL it­self is re­port­edly keen to take over Man­ga­lore Refinery and Petro­chem­i­cal, which is an ONGC sub­sidiary. What­ever be the com­bi­na­tions, in­te­gra­tion could mean that the gov­ern­ment as a pro­moter will have to take a call on what hap­pens to its eq­uity in the com­pany that is sought to be merged or taken over.

ONGC Chair­man and Man­ag­ing Direc­tor D K Sarraf says the in­te­gra­tion be­tween up­stream and down­stream is a good idea from the point of view of both sides. “In­te­grated com­pany can be more fi­nan­cially sta­ble. In­ter­na­tion­ally, the value which an in­te­grated com­pany gets is much higher in terms of PE multiple or re­turn to in­vestors. If some­thing like this hap­pens, it will be good for the sec­tor,” he says.

With low car­bon us­age as the mo­ti­va­tor, the global push to­wards re­new­able en­ergy could also cre­ate un­cer­tainty for stand­alone play­ers.

An­a­lysts, too, see the ONGC-HPCL deal as a pos­i­tive for ONGC. Ac­cord­ing to a re­cent re­port by Emkay, the deal will al­low ONGC to nav­i­gate pe­ri­ods of oil price down­turns rel­a­tively smoothly, as re­fin­ing mar­gins typ­i­cally ex­pand dur­ing such pe­ri­ods.

The re­port, how­ever, adds that sig­nif­i­cant op­er­a­tional syn­er­gies from the pro­posed merger are not ex­pected. “More­over, there could be hin­drances in HPCL’s in­ter­nal de­ci­sion mak­ing if ONGC man­age­ment in­sists on tak­ing an in­ter­est in day-to-day ac­tiv­i­ties.”

The re­port say the pay­back pe­riod for ONGC for such a deal could be lit­tle more than five years while the re­turn on eq­uity to ONGC’s share­hold­ers will in­crease by over 150bps.

“If ONGC ac­quires a 51 per cent stake in HPCL, val­u­a­tion of ONGC works out to ~258 a share, which im­plies an in­crease of 17 per cent from our cur­rent val­u­a­tion es­ti­mate of ~220 a share af­ter ac­count­ing for the debt taken to ac­quire the stake in HPCL,” says the Emkay re­port.

The pur­pose of cre­at­ing a big­ger en­tity through (in $ bil­lion) Exxon Shell To­tal BP ONGC & HPCL 348 223 125 116 37 ONGC and HPCL, how­ever, will be achieved only in a lim­ited way. The Emkay re­port points out that a com­bined mar­ket cap of the two com­pa­nies will be $37 bil­lion, which is rel­a­tively small com­pared with global in­te­grated oil giants like Shell or BP.

“This, how­ever, will be a step in the right di­rec­tion to cre­ate an en­tity with the right size and might that can bet­ter com­pete with global com­peti­tors,” it adds.

The na­ture of con­sol­i­da­tion is not yet fi­nalised but a takeover of gov­ern­ment eq­uity could trig­ger an open of­fer un­der the Se­cu­rity and Ex­change Board of In­dia reg­u­la­tions, un­less an ex­emp­tion is granted, which may not be in the in­ter­est of mi­nor­ity share­hold­ers.

In such a sce­nario, ONGC will have to shell out up­wards of ~40,000 crore for HPCL. Fi­nanc­ing such a big ac­qui­si­tion will re­quire ONGC to ei­ther go in for sell­ing its crossh­old­ing in other oil PSUs or raise debt.

The other con­sol­i­da­tion model is to go in for a merger which could cre­ate a com­bined en­tity. “The Union gov­ern­ment as a pro­moter of both ONGC and HPCL can de­cide to merge the two com­pa­nies. The board of com­bined en­tity can have a direc­tor rep­re­sent­ing the re­fin­ing and mar­ket­ing wing of the busi­ness,” says a se­nior of­fi­cial.

A third op­tion is to cre­ate a hold­ing com­pany to which the gov­ern­ment shares in the two com­pa­nies can be trans­ferred. Such an en­tity can then be listed, al­low­ing the gov­ern­ment to mon­e­tise the con­sol­i­da­tion. In fu­ture, there can be room to bring more com­pa­nies into the hold­ing com­pany’s fold.

Such a model will be much eas­ier to fol­low. The hold­ing com­pany could smoothen the of­ten con­flict­ing ef­forts of the con­stituents and forge a united front when­ever re­quired for grab­bing a busi­ness op­por­tu­nity. Such a hold­ing com­pany could be listed at a much greater val­u­a­tion even as the sub­sidiaries could re­main listed, too.

It is not the first time that a pro­posal for con­sol­i­da­tion is be­ing dis­cussed within the gov­ern­ment. Mani Shankar Ai­yar, petroleum min­is­ter in the United Pro­gres­sive Al­liance gov­ern­ment, had set up a com­mit­tee un­der V Kr­ish­na­murthy to ex­am­ine the issue. The pro­posal was re­jected by the panel in its re­port in 2005, Syn­ergy in En­ergy.

The gov­ern­ment this time has ap­pointed Deloitte as its con­sul­tant to work out a fea­si­ble model and the re­port is ex­pected soon. Once the min­istries agree on a fea­si­ble model, the manda­tory Cab­i­net ap­proval and clear­ance from the re­spec­tive boards of the com­pa­nies will be re­quired. Any move will have to be jus­ti­fied on the grounds of its gains to the com­pa­nies in­volved and the larger pur­pose it serves the econ­omy. What the gov­ern­ment needs to guard against are dis­rup­tive mod­els that com­pli­cate de­ci­sion-mak­ing.

Newspapers in English

Newspapers from India

© PressReader. All rights reserved.