The Hindu Business Line : Cairn India: Invest at cut-off

Cairn India's Initial Public Offer is for investors with an appetite for high risk and the stamina to stay invested in the stock for the long term. First oil from the Rajasthan field, the development of which will be partly financed by this IPO, will not begin to flow until mid-2009, assuming the project is on schedule. Capital appreciation in the interim may not be adequate to justify the investment risk assumed.

Our recommendation to invest is subject to some significant risks(see article alongside), but Cairn's track record as an explorer and producer of oil in India and its ability to access the latest technology and resources for exploiting the Rajasthan field lend confidence.

Cairn is the operator of the prolific Ravva offshore oilfield on the east coast where it produces about 50,000 barrels of oil per day. It took over the project in the mid-1990s when the field was producing around 3,500 barrels and developed it in phases to the present level.

Cairn also operates two gas fields — Lakshmi and Gauri — offshore Gujarat that yielded 35.4 billion cubic feet of natural gas in 2005. Apart from these, the company has an interest in 10 exploration blocks that are under various stages of exploration.

The Rajasthan project

The Rajasthan project consists of three major fields — Mangala, Bhagyam and Aishwarya — and two smaller ones — Raageshwari and Saraswati. Together, these fields are projected to produce 1.5 lakh barrels of oil per day at the peak level in 2011 beginning in phases from mid-2009. To put this in perspective, ONGC produces approximately 5.75 lakh barrels of oil per day .

The Mangala field is the biggest and is projected to produce more than 1,00,000 barrels at the peak level. DeGolyer and MacNaughton, a well-known independent petroleum engineering consultant, has certified the reserves in the Rajasthan Block at 568 million barrels of oil against Cairn's own estimate of 632 million barrels.

Assuming that the block development happens according to schedule, peak production will be reached by 2010-11 and be sustained for three years before the field goes into the decline phase.

The production-sharing contract for the Rajasthan block lasts till 2019 but the field's life can be extended up to 2041 through further development and by adopting enhanced oil recovery techniques.

Cairn has estimated the cost of developing the Rajasthan fields at $1.5 billion; $600 million of that will be financed through the IPO and another $850 million through a syndicated loan facility. The Rajasthan fields are shallow, which means that reservoir pressure will be lower than in deeper fields and Cairn will have to adopt artificial methods to increase pressure for the oil to flow out by itself.

The bigger problem in the Rajasthan field, of course, is that the oil is heavy and has a thick, waxy residue with a propensity to solidify at low temperatures.

Cairn will be adopting methods to maintain reservoir temperature at a high level through injection of hot water and steam into the wells to help move the oil and to prevent it from solidifying.

Transportation of this oil would also require specialised heated pipelines for to enable the oil to flow. This is one of the downsides of this IPO as the transportation aspect has not been tied up yet.

There is a disagreement between Cairn and the officially-nominated buyer of the crude, Mangalore Refinery and Petrochemicals (MRPL), over whose responsibility it would be to install the pipeline infrastructure. Cairn could end up installing the pipeline in which case its project cost could go up.

Issue details

Cairn hopes to raise between Rs 8,600 crore and Rs 10,200 crore ($1.9-2.2 billion) from this IPO, depending on the price band and without accounting for the greenshoe option. Of this, Rs 5,934-7,265 crore ($1.4-1.7 billion) will be paid to Cairn Energy Plc, the parent company, in part consideration for acquisition of shares in Cairn India Holdings, which owns the producing assets of Cairn in India as also the Rajasthan block.

Apart from cash, the parent company will also be allotted 86.17 crore shares at the same price as the IPO to fulfil the balance consideration payable taking its stake to 69.5 per cent of the post-issue equity. The net offer to the public without the greenshoe option is 32.88 lakh shares. The offer, which is open between December 11 and 15.

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