IPO Update :Cairn Energy - A Long Term Story

Will Sand-dunes deliver Oil ?

Here is a different IPO and of course the Investment Guru blog would be covering this a bit differently than other IPO updates. One reason why this IPO is close to me is that it is betting on the land of warriors, Rajasthan, and the success of this venture would turn the fortunes for the state in terms of both employment opportunities and economic growth. Let’s come out of the emotions and talk about this energy giant’s IPO and what it offers to the investors.

Investment Guru’s Outlook on Cairn energy IPO
Friends, the story is going to be interesting with the nature of operations of the company and the state of the operations. Cairn Energy is a newly incorporated company and is in the business of oil exploration. We will talk more about the company later in this post.

However, a basic question in investor’s mind is what should be the outlook for investing in this IPO. There are three scenarios as far as performance of the stock on the bourses is concerned. The listing should be a good considering the appetite for the stock. Second, this company is going to deliver results in long term. So Investors should consider this IPO as an investment opportunity from a long term perspective.

Now next question is “What would happen in medium term”? In medium term the stock price would be more a factor of the news on oil exploration success or failures and a little on the crude oil prices. So if cairn energy comes with the news that it is revising the estimated oil reserves in a particular block or say it has found oil somewhere else, the stock price would move accordingly. In absence of any news the stock is expected to remain lackluster.

My suggestion is to take either a listing gain approach or a long term investment approach.

About the IPO
Cairn energy is entering the capital markets with a public issue of 32,87,99,675 equity shares of Rs 10 through a 100% book-building process at a price band of Rs. 160 – Rs. 190 per share. The object of the issue is to fund the acquisition of shares of Cairn India Holdings Limited , fund development of the Rajasthan Block, as well as further development of other producing fields and fund other exploration and appraisal activities.

Pre-IPO placement has happened at Rs. 176.48 per share
A lot of excitement for the IPO has generated because of the pre-IPO placement of company’s shares at a price of Rs. 176.48. The placement has been made to Malaysian oil giant Petronas (17.65 crore shares), Merril Lynch (1.27 crore shares), ABN Amro (1.27 crore shares) and Videocon Industries (63.7 lac shares).

This placement shows the belief of these giants in the success of cairn energy venture and the business model. On the huge success of the preplacement, the chief executive of cairns, Sir Bill Gammell, commented ““We are delighted to have gained such substantial backing for our pre-flotation placing. The positive response confirms our belief that this is the best strategy for Cairn to develop and grow our world class business in India.”

Understanding the Industry
In 1997, the NELP was implemented. The NELP was designed as a means of allowing participants in the Indian oil and gas industry to compete on equal terms for exploration acreage. Successful bidders are required to enter into production sharing contracts with the Government.

The oil and gas industry in India is still dominated by two Government-controlled entities, ONGC and Oil India Limited. However, significant private-sector participants in the industry (other than Cairn India) include Reliance Industries, BG Group and Videocon Industries Limited.

Indian Domestic Energy Demand
India is a net importer of crude oil and natural gas. In 2005, India consumed 115.7 million tonnes of crude oil, yet it produced only 36.2 million tonnes. The International Energy Agency has predicted that between 2003 and 2030 India will experience an average annual oil demand growth rate of 2.7%, which may be compared with China’s predicted average annual oil demand growth rate of 3.3%. In contrast, the predicted world growth rate is expected to be 1.4%

Understanding the company
Cairn is an independent oil and gas exploration and production company. The company is listed on the London Stock Exchange since 1988, with head office in Edinburgh. It holds material exploration and production rights in India, Bangladesh and Nepal.

Cairn India (CIL) was incorporated on 21 August 2006 to consolidate Cairn’s business and interests in India. CIL is acquiring its assets and business through acquisition of Cairn’s subsidiaries: Cairn Energy Australia Pvt Ltd (CEA), Cairn Energy hydrocarbons (CEH) and Cairn Energy India Holdings B.V.(CEIH).

In the first six months to June 2006, Cairn’s gross production from existing oil assets (Ravva, Lakshmi and Gauri) was 87,500 barrels of oil equivalent per day (bpd). Of this, CIL had a working interest in 24,000 bpd.

What is company’s strategy ?

Sustain production from and maintain low operating costs in existing producing fields.

Execute Rajasthan Block Northern Fields development to reach first commercial production at Mangala during 2009.

To harness the significant resource base in Rajasthan.

Identify new opportunities for growth in reserves and production

What works in favour of the company?
The company has interests ranging from 40% in the Lakshmi and Gauri oil and gas fields to 22.5% in the Raava oil and gas field. It has 70% interest in the two development areas in the Rajasthan Block. As at 30 June, 2006, it has estimated proved and probable reserves, of 472 mmboe.

Seven year tax holiday from corporate tax in respect of each eligible unit in the Rajasthan Block.

Significant portfolio of exploration and appraisal acreage in eastern, western and
northern India.

What are the Risk Factors ?
The start of production from the ‘‘RajasthanBlock’’ may be delayed and such delays may result in significant cost overruns.

Plateau production rates from the Rajasthan fields may be less than forecast.

There may be issues with availability of proper infrastructure facilities like transportation, fueland water which may further delay the production plans.

Crude oil and natural gas initially in place, reserves and resources data are only estimates and are inherently uncertain, and the actual size of deposits may differ materially from these estimates.

The company is expected to have negative cash flows even after commencement of production for some time.

For the year ending 31st December 2006, the company has potsed a net profit of Rs. 92.5 crores. The EPS works out to be 0.52 per share. However, one cannot take a decision of investing in this IPO based on the current financials. This a pure play on the future and that’s why it is a long term bet.

Ciarn needs to be valued on the basis of its oil reserves and discoveries. However, company’s prospectus does not shares much information on valuation from this perspective.

The industry PE average comes to 25.14 and competitors are generating returns on net worth in the range of 18-30%.

Issue Opens : 11-Dec-2006
Issue closes : 15-Dec-2006
Registrar : Intime Spectrum

When the Allotment Status is out you can check it from the link below


Additional References

World Energy Outlook 2006

News on OIL

India's Energy Future

Cairn Energy Website

Write up on Cairn Energy


Anonymous said...

Excellent write-up...good thing about you is that you explain things in a simple manner...keep up your good work. I am going for listing gain.


Anonymous said...

Dear sir,
what is the listing target for cairn IPO? people are saying lisitng gains will be very less.


Anonymous said...

Hi Rajesh,
Please provide your views on Ashta Vianayak IPO

Anonymous said...

Given the retail undersubscription, listing gains are likely to be limited. But long term, I like oil.

You have an interesting blog. Will return to read more.


Great energy stock.