Investors with a long-term perspective can consider buying the shares of public sector oil and gas explorer Oil India. Attractive valuation, steady increase in output, and robust financial performance, despite the subsidy overhang, make a good case for investing in the stock.

Notwithstanding some recent gains, Oil India's shares have lost a lot of ground over the past few months. Along with bleak market conditions, concerns about subsidy sharing and weak oil prices have taken a toll on the stock. At its current price of Rs 464, the stock discounts its trailing 12-month earnings by around 8 times, at par with its larger peer ONGC but lower than the average levels (around 11-12 times price-to-earnings) the stock has traded at in the past. Besides the attractive valuation level, the company's dividend yield has been consistently healthy at around 3-4 per cent.

Strong full-year performance

Worries on the subsidy front were vindicated in the latest quarterly results, when the share of upstream companies for FY-12 was increased to 39.7 per cent from 37.9 per cent in FY-11. Also, Oil India's share in the upstream pie was raised to 13.4 per cent from 10.9 per cent. This roiled the company's March quarter financials, its sales declining 11 per cent and profits dipping 21 per cent on a year-on-year basis.

But the last quarter results are not representative of the company's performance, since this is when the government usually decides the final subsidy share and applies it retrospectively for the whole year. On a full-year basis, Oil India has improved its performance, both on physical and financial parameters, in line with the trend seen in earlier years.

In FY-12, the company's sales and profits grew around 19 per cent. This was aided by a 7 per cent increase in oil output to 3.884 million metric tonnes, and a 12 per cent rise in gas production to 2.633 billion cubic metres.

Oil India's good track record in increasing output should continue. Its healthy reserve replacement ratio (around 1.42 times in FY-11) lends confidence. In addition to its core on-shore producing assets in North-East India, the company has promising acreages in other parts of the country including in the offshore KG basin.

It has also been an active participant in the NELP auctions and has been awarded several blocks. These opportunities, if converted successfully, could boost Oil India's output in the years ahead. Besides, the Carabobo asset in Venezuela, in which the company has 3.5 per cent stake, is expected to yield results in FY-13.

Oil India is looking at increasing its overseas presence. It plans to acquire stakes in assets operated by ConocoPhilips in Canada, Chesapeake in the US, and Maurel et Prom in Gabon. For the coming year, the company has earmarked around Rs 6,000-7,000 crore to grow its international acreage, both in conventional and unconventional sources of oil and gas.

Crude oil price concerns

Since the beginning of May, the price of crude oil has declined sharply from around $125 a barrel to less than $100. This has raised concerns about Oil India's product realisations.

But there are mitigating factors. For one, the steep depreciation in the rupee in recent times provides the company some hedge against a fall in the dollar price of crude oil. Also, over the past few years, the company's net realisation (after providing for subsidy) has been consistent in the range of $56-$60 a barrel, even at times when crude oil prices are weak. This should continue, going forward.

Strong financials

Aiding Oil India's expansion plans is a strong balance-sheet with negligible debt and healthy cash reserves (close to Rs 11,000 crore). The company's profitability remains robust with operating margins around 65 per cent and net margins around 36 per cent.

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