Cairn India - "Q1 FY12 Result Update" ::LKP

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Outlook and Valuation

The Cairn Energy – Vedanta Resources deal has been approved by the Govt. subject to conditions, which include cost recoverability of royalty on the Rajasthan block & withdrawal of arbitration with respect to payment of cess. Cairn India has received a requisition from Cairn UK Holdings Ltd on 21 July, 2011 under Section 169 of The Companies Act, 1956, to convene an EGM to consider the conditions imposed by the Govt. Based on the above, the Cairn India Board has reached a conclusion that it would be appropriate to hold a postal ballot of all shareholders to consider the conditions imposed by the Govt. The whole process is expected to take upto 50-60 days. Cost recoverability of royalty would negatively impact revenues and PAT for Q1 FY12 by Rs 12,916 mn.

Meanwhile, approval for production start from Bhagyam field has not been cleared by the Govt. The management has conveyed that it would take approx. 2 months from start of production to ramp up the output to its approved peak level of 40 kbpd. It seems to us that the approval for Bhagyam is being linked unofficially to acceptance of the preconditions regarding royalty & cess by Cairn. The company expects to commence production in Q3 FY11 and achieve the plateau rate of 40 kbpd by end of 2011, subject to Govt. approval. Delays in the conclusion of postal ballot, acceptance of preconditions & Govt. approval may result in the company falling short of the 2011 exit production target of 175 kbpd.

A total of 148 Mangala development wells have been drilled, of which 96 are complete and 64 are producing. Surface facilities and midstream infrastructure are ready to support production of 150,000 bpd from the Mangala field, subject to JV and Govt. approval. 33 development wells have been drilled in the Bhagyam field to date. Well results from Bhagyam development drilling are as per expectations and surface facility development work is progressing as planned. Construction work for the Bhagyam trunk line to connect the field to the MPT is also nearing completion. Train Four of MPT (Capacity: 75 kbpd) is on track for delivery in Q4 CY11. Key pressure vessels for Train Four are in place and final site works are underway. The remaining 80 km Salaya to Bhogat section of the pipeline, including the Bhogat terminal and marine facility, is expected to be completed during H2 CY12.

Infill drilling of five wells including one horizontal well has been completed. Workover activities at Ravva to augment oil production and water injection are also in progress. To sustain oil production from the Cambay block, an infill drilling campaign has been planned in the Lakshmi field. Following the discovery of the Nagayalanka-1z well in KG-ONN-2003/1, the JV has opted to enter Phase-II of the exploration license and an exploration well Nagayalanka SE-1 is planned to be drilled by end CY11. Based on the 3D seismic interpretation in SL 2007-01-001, several prospects and leads have been identified. A drill ship has been contracted and three well exploration drilling campaign in the SL 2007-01-001 block is planned to commence in Aug 2011.

Given that Cairn Energy & Vedanta hold close to 80% of Cairn India’s shares and are committed to the deal, we expect the outcome of the postal ballot to result in acceptance of the conditions related to cost recoverability of royalty. In light of the above, we maintain our rating of UNDERPERFORMER with a target price of Rs 305. The price target translates into EV/boe of $11.4/bbl on 2P reserves.