ONGC, Oil India's earnings may suffer after sharp cut in gas prices

Topics Gas price | ONGC | OIL India

Domestic gas price, which was $2.39 per mmBtu during the first half of FY21, has fallen third time in a row
A 25 per cent cut in domestic gas prices for the second half (H2FY21) will only add to challenges for producers such as ONGC and Oil India, which have been already hit by weak crude oil prices.

Gas prices were expected to be cut to $1.9 per MMBtu (million British thermal units), considering the fall in global gas prices. However, the same being set at $1.75 for the October 2020-March 2021 period left the Street stumped.

The government reviews and fixes gas prices every six months, based on a formula tied to global benchmarks (in US, Europe, and Japan). The reduction from $2.39 in H1FY21 was the third consecutive cut, which took the price to its lowest-level under the New Domestic Gas Policy 2014. For upstream companies, volumes were expected to remain flat in FY21. Lower oil and gas price realisations will only aggravate pressure on earnings. Following the sharp 26 per cent cut in domestic gas prices from April 2020, ONGC’s gas realisations had already slumped 28 per cent sequentially to $2.4/MMBtu in the June quarter.

Moody’s Investor Services says a sustained decline in natural gas prices will lower earnings for ONGC and Oil India, and is credit-negative. The impact on the two firms’ consolidated Ebitda is pegged at 3.5-8.0 per cent for FY21.

Consequently, ONGC was among the top losers in Sensex stocks, falling 4 per cent in intra-day trade before closing 0.2 per cent down. Oil India ended with a loss of 1.2 per cent, even as the Sensex rose 1.65 per cent on Thursday.

Further, the ceiling price for gas to be produced from difficult fields, too, was cut 27.6 per cent to $4.06 from $5.61 MMBtu, and might discourage exploration and production activity. These prices are lower than spot prices of gas, which, despite being highly volatile, stand at $5, say analysts.

Depending on the location of the gas field, production cost for upstream players may vary. As a result, a fall in natural gas prices will either cripple profits or lead to losses, if the production cost is higher than realisation, observes CARE Ratings. Unless the government decides on the proposal of a ‘floor price’ (significantly higher than the latest price announced), city gas distributors and end-user industries such as fertiliser, power, and ceramics will benefit.

Indraprastha Gas, Mahanagar Gas, and Gujarat Gas rose 1-4 per cent on Thursday. For the fertiliser industry, 28 out of 31 plants use natural gas as feedstock and lower gas prices will help them cut the cost of urea production by 12 per cent and also lower subsidy requirements.

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