Buy Oil and Natural Gas Corporation Ltd for the Target Rs 290 by Motilal Oswal Financial Services Ltd
Value play with growth optionality
* We recently upgraded ONGC on inexpensive valuations, modest production growth (1% FY26-28E CAGR) and greater operational freedom amid multi-year government focus on energy security. In this note, we highlight three reasons the risk-reward stays attractive:
1) ONGC's 1Y-fwd. dividend yield of 6.9% is at 3-year high – a level breached only twice in the last decade, both times during crises (Covid-19, windfall tax), not structural payout shifts
2) global agencies have turned more constructive on crude: US EIA raised its CY26/27 Brent forecast by 6% to USD87/USD69 per bbl, while IEA's CY26 deficit estimate has widened to 2.7mb/d. We believe crude prices could stay firm even if the Strait of Hormuz reopens, as global inventory levels remain low (-410mb since the war began)
3) OVL's turnaround over the last two quarters, coupled with multiple assets moving into development, could add ~INR15/sh to our TP if the run-rate sustains (valued at 8x P/E).
* TP of INR290: We model ~1% volume growth overall (Oil: -0.3%, Gas: +2.1%) and value the standalone business at 6.5x Dec’27E EPS, investments at a 25% discount to CMP, and OVL stake at 0.5x FY25 BVPS to arrive at a TP of INR290
7%+ div. yield is rare: only Covid and windfall tax got ONGC here before
* ONGC's 1y-forward dividend yield now stands at an attractive 6.9%, a threeyear high, per Bloomberg consensus estimates. This assumes a ~40% dividend payout ratio, broadly in line with the average payout over the last four years. Notably, the yield has crossed the 7% mark only twice in the last decade – during the Covid-19 pandemic (Aug’19-Apr’20) and application of the windfall tax (Aug’22-Sep’23) – both periods marked by sharp de-rating in the stock rather than a structural improvement in payouts.
* We build in average crude oil prices at USD80/bbl over the remaining three quarters of FY27 and USD75/bbl in FY28, suggesting upside risks to our dividend estimates if prices hold up
Modeling ~1% volume CAGR over FY26-28; ~6.5% FY27 dividend yield
* Our recent rating upgrade was premised upon a combination of inexpensive valuations, a modest pickup in volume growth, and greater operational freedom amid multi-year government focus on energy security (e.g., following the technical services provider (TSP-1) contract for Mumbai High, ONGC and BP have signed a new contract for fields in the Western Offshore Basin).
* We are modeling only a modest 1% volume CAGR for ONGC, aided by the start of DUDP, KG-98/2, and Samudra Manthan.
* We are building in ~38% dividend payout in FY27, which implies a ~6.5% dividend yield at CMP. ONGC's gas price realization (unlike Oil India’s) will continue to see an uptick as ~7-8% of volumes every year qualify for higher newwell gas prices. With HPCL's capex cycle nearly over and gross marketing margins normalizing higher, we see limited investor concerns on that front.
Valuation and view
* ONGC currently trades at 5.7x FY28E consol. P/E, below its long-term average one-year forward P/E of 6.5x. Adjusting for the value of listed investments (INR65/share) and our valuation of OVL (INR23/share), the implied valuation of the core business suggests that the market is effectively discounting a Brent crude price of only ~USD65/bbl over 2QFY27-FY28, which we believe is overly conservative given the current industry backdrop.
* We derive our SoTP-based TP of INR290, underpinned by FY26-FY28 production CAGR of -0.3%/+2.1% in oil/gas. Reiterate BUY.
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