Over the past three months, the stock of hydrocarbon major Cairn India has fallen around 11 per cent. Concerns over delay in Government approvals for increasing production at the mainstay Rajasthan fields have contributed to the weak run. But for investors with a long-term perspective, this decline presents a good buying opportunity.

At its current price of Rs 324, the Cairn India stock discounts its trailing 12-month earnings by around six times. This is lower than levels it has traded at in the past (around 8- 10 times).

Pending Government approvals, Cairn’s output from its Rajasthan fields has remained at around 1.75 lakh barrels of oil per day (bopd) from early this year. After receiving the go-ahead, the company expects to increase production to around 2 lakh bopd in the near-term, to around 2.4 lakh bopd by the end of calendar 2013 and further to 3 lakh bopd in the future. While approvals have been delayed, they should eventually come through.

An increase in output will help the Government cut its significant oil import bill and also earn additional revenues. Meanwhile, Cairn has carried out tests to enhance its pipeline capacity using drag reducing agents, and initiated work on the remaining part of the pipeline from Salaya to Bhogat on the Gujarat coast. This should help it handle increased production levels in the future.

Cairn’s output from Rajasthan is priced at around 10–15 per cent discount to Brent crude oil. Despite uncertain global economic conditions for quite some time now, Brent crude has been trading above $100 a barrel for the most part (currently $109 a barrel). Monetary stimulus measures in the US and Europe should support crude oil prices, and a revival in the global economy, when it happens could translate into higher oil price. A weak rupee (currently around 54.5 per US dollar) should also benefit the company.

Meanwhile, Cairn is increasing its asset base through international forays. It has acquired controlling interest (60 per cent) in a high-potential hydrocarbon asset in South Africa and has a gas block (100 per cent interest) in Sri Lanka. Success on these fronts could supplement output growth in the medium to long-term.

The company’s healthy financial position (negligible debt, cash and bank balance of around Rs 11,500 crore as on September 2012) provides its muscle to fund expansion plans. Net profit margin for the half-year ended September was robust at around 70 per cent. After the completion of its corporate restructuring in October, Cairn India declared its maiden dividend. The company’s dividend payout policy of 20 per cent of annual consolidated profits should benefit shareholders. Risks to the recommendation include an inordinate delay in Government approvals, sharp dip in crude oil price and steep appreciation in the rupee.

(This article was published on December 15, 2012)
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