OIL AND GAS DEVELOPMENT COMPANY LIMITED – Analysis of Financial Statements Financial Year 2003 – Financial Year 2010

OVERVIEW (October 05 2010): The government of Pakistan signed an agreement with USSR on 4th March 1961 to revive exploration in the country’s energy sector. The agreement entitled Pakistan to 27 million rubles to finance equipment and services of Soviet experts for exploration.

Subsequently, OGDCL was created under an ordinance dated 20th September 1961 with the prime responsibility to undertake an organized and systematic exploratory program and to plan and promote Pakistan’s oil and gas prospects.

At initial stages, the financial resources were arranged by the GoP, as the OGDCL lacked the ways and means to raise the risk capital. Later in July 1989, the company had developed itself by discovering major oil and gas reserves and the government off-loaded the company from the federal budget and allowed it to manage its activities with self-generated funds. The year 1989-90 was the company’s first year of self-financing. Today, OGDCL is the largest E&P company in Pakistan. It is listed on all the three stock exchanges of the country as well as the London Stock Exchange.

Over the years, OGDCL has grown and emerged as a company that owning the largest oil and gas reserves in the country. Presently, the company’s oil and gas production stands at 63% and 24% respectively as on January 2009. It holds the largest portfolio of the recoverable hydrocarbon reserves of Pakistan, at 35% of gas and 45% of oil respectively, as at 31st December 2008. The company with a portfolio of 35 operated exploration licences, has the largest exploration acreage in Pakistan, covering 30% of the total awarded acreage as of 30th June 2009.

OGDCL has 75 oil and gas fields. Out of these, Uch and Qadirpur are the two major gas fields of OGDCL that contributing more than 75% of company’s total balance recoverable reserves.

The major oilfields are Bobi, Chanda, Dakhni, Dhodak, Pasakhi and Tando Allam, accounting for almost 45% of the company’s total balance recoverable reserves. Among non-operated fields, Adhi, Pindori, Miano, Loti, Manzalai and Makori are the major oil and gas fields. The company has been following a aggressive growth strategy for the past years, with positive results like the discovery of 10 fields in 2007, 5 fields in FY08 and 2 fields in FY09, bringing the total to 75 fields till FY09 end.

During 2009-10, the company’s exploratory efforts yielded six new oil and gas/condensate discoveries namely Nashpa-1 (Nashpa E.L.), Reti-1A and Maru-1 (Guddu E.L.), Baloch-1 (Sinjhoro E.L.), Shah-1 Tando Allah Yar E.L.) and Dakhni-11 (Dakhni M.L.). Subsequently, in July 2010, another gas discovery has also been made by the company at Sheikhan-1 (Kohat E.L.). The discoveries have been tested to produce 5,080 bpd, 1,465 barrels per day of condensate and 67 MMcfd of gas.

FINANCIAL PERFORMANCE (FY03-FY10)

During FY10, OGDCL registered a growth of 9% in sales, resulting in Net Sales for the year to reach Rs 142.6 billion from Rs 130.8 billion in FY09. This increase was seen despite a decline in production and thus quantity sold of both crude oil and gas. Crude oil production dropped by 7.2%, mainly due to natural decline of Southern region fields, while gas production dropped by 2.6%. However, prices of crude oil gas and LPG have been on the rise, as a result of which net sales increased in monetary terms.

In comparison, Pakistan Petroleum Limited (PPL), a prime competitor of the company witnessed a decline in net sales despite the rise in prices, and the company’s sales dropped by 2.6%. Net realized prices of crude oil, gas and LPG averaged at US $ 61.37/bbl, Rs 186.47/Mcf and Rs 1,415/M.ton respectively compared to US $55.53/bbl, Rs 174.78/Mcf and Rs 36,935/M.ton respectively during the last year.

PROFITABILITY

Profit before tax for FY10 was Rs 88.6 billion, compared to Rs 80.9 billion the previous year. This growth of 9.4% is directly proportional to the increase in sales. In comparison to the growth in profit before tax, profit after tax increased by only 6.6% to Rs 59.2 billion from Rs 55.5 billion in FY09. Tax for the year increased by 15.7% as compared to the previous year, mainly due to a decline in deferred tax, which is charged at a reduced rate. However the overall increase in profit after taxation resulted into Earnings per Share (EPS) of Rs 13.76 compared to Rs 12.91 in FY09. EPS of PPL on the other hand stood at Rs 23.4, despite the decline of almost 16% compared to the previous year. Thus, while OGDCL is performing better in terms of growth, PPL is providing greater earnings to shareholders.

During FY10, OGDCL’s Gross Profit Margin remained relatively stable, while the Profit Margin registered a marginal decline, due to the increased effect of taxation this year. Gross profit margin dropped from 88.4% to 88.3%, while profit margin dropped from 42.5% to 41.5%. The Gross Profit Margin has been in a slightly declining trend since FY05. Although the decline has not been sharp in any year, it has led to a steady effect over time. The primary reason for this decline is that the increase in sales has been much higher than the increase in gross profits, particularly due to the increasing royalty expenses paid by the company. While Profit Margin declined this year, it is still above the Profit Margin of PPL, which stood at 38.9% at the end of the period.

Return on assets and return on equity both showed a decrease during FY10 as compared to the previous year. This was primarily due to the low increase in sales as compared to the increase in assets and equity. Assets showed an increase of 28.6%, while equity rose by 24.7% compared to a 9% increase in Sales. In the past years ROA and ROE have followed a similar trend, moving upwards and downwards together. There was an increase in ROA and ROE during FY05 till FY06. In FY07 and FY08 it again started to drop slightly as the net profit did not rise as much as the assets and equity, due to low increase in sales in FY07 and due to high taxes in FY08.

LIQUIDITY

Current ratio during FY10 declined to 3.46 from 4.08, a decline of 14%. This is mainly due to the greater increase in current liabilities as compared to the increase in current assets. While the current assets increased by 40%, the current liabilities witnessed a rise of 64%. Within the current liabilities, trade and other payables rose from Rs 18.7 billion to Rs 28.6 billion at the end of FY10. This increase is the direct result of the increase in the amount payable as royalty. Provision for tax also rose sharply, from Rs 2.5 billion to Rs 6.2 billion. Current assets on the other hand rose primarily due to the sharp increase in trade debts (receivables). Trade debts rose from Rs 56.1 billion at the end of FY09 to Rs 82.9 billion at the end of FY10. Despite the decline, the liquidity position of OGDCL stands better than that of PPL, which witnessed a Current Ratio of 3.21 this year.

Along with the Current Ratio, the Quick Ratio of OGDCL also saw a decline, dropping from 3.25 at the end of FY09 to 3.03 at the end of FY10. This decline is less than the decline in the Current Ratio, possibly because Inventory saw a decline over the period.

ASSET MANAGEMENT

In terms of Asset Management, OGDCL witnessed a moderate decline this financial year. While days of Inventory Turnover dropped from 44.6 days to 37.1 days, Days Sales Outstanding saw a sharp rise from 154 days to 209 days. The Operating Cycle thus rose from 199 days to 247 days, a rise of 24%. While Inventory Turnover dropped due to the decline of almost 10% in inventory, Days Sales Outstanding rose due to the 48% rise in receivables in the form of trade debts. Increasing levels of receivables are negatively impacting the company’s financial position and are the direct result of the prevailing inter-corporate debt in the industry.

The company’s trade debts at the end of the year include overdue receivable of Rs 58.159 billion from refineries and gas companies. Early resolution of this issue is critical to ensure smooth running of company’s operations, maintaining adequate liquidity position, carrying out company’s exploration and development programme and timely discharge of statutory obligations including payment of royalty, duties/taxes and dividends etc.

Comparing Asset Management of OGDCL with that of PPL, we see a considerable difference in the performance of the two despite the similarity of operations. Inventory Turnover of PPL stands at a mere 12.4 days, a great achievement compared to the Inventory Turnover of OGDCL. Similarly, Days Sales Outstanding of PPL stands at 184 days while that of OGDCL stands at 209 days. It is seen that despite the problem of inter-corporate debt faced by both companies, PPL has been able to manage the situation more effectively than its competitor.

During FY10, both Asset Turnover and Sales over Equity ratio decreased, caused by the low growth in Sales compared to higher increases in Assets and Equity. Asset Turnover dropped from 0.74 during FY09 to 0.62 this year, a drop of 15%. Sales over Equity on the other hand decreased from 1.04 to 0.91 by the end of the year.

DEBT MANAGEMENT

OGDCL has been facing increasing debts over the past years, especially in the sector of Current Liabilities in the form of Royalties and Taxes Provision incurred as well. As part of the company’s strategy to expand and acquire new fields, cost incurred as Royalties have been high and are growing. This is leading the Debt to Assets and the Debt to Equity ratios to rise since FY06 till FY10. Both, Debt to Assets and Debt to Equity ratio show similar trends over the past years. During FY10, the Debt to Asset Ratio rose from 29.1% to 31.2%, while Debt to Equity rose from 41.1% to 45.4%.

The increase in debts, ie from FY06 to FY10, which have been primarily a result of rises in Current Liabilities, could also be seen from the long-term Debt to Equity ratio, which showed a very slight increasing trend since FY06. This implies that although overall debt is rising, Long-term Debts are steady, reflecting company’s policy to avoid the performing of investment and other activities through Long-term Debt. Yet, the below average debt ratios of OGDCL suggest a slightly lower level of leverage for the company, compared to the average industry. The Long-term Debt to Equity ratio of the company dropped from 24.2% at the end of FY09, to 23% at the end of this year.

The Times Interest Earned ratio (TIE) plunged in FY07 on account of the unwinding of discount on provision for decommissioning cost, which took up the major chunk of finance costs. This process was again repeated in FY08 and similarly in FY09 when the ratio was able to rise only slightly due to the high unwinding of discount on provision for decommissioning cost. In FY09 the finance costs rose slightly but as the level of operating income showed low increase, the TIE went further down than FY08. The ratio has again dropped during FY10, from 92.9 to 74.2. Upon observation of the balance sheet we see that the company currently has no long-term loans, and thus there exists no interest element in financial charges.

MARKET VALUE

Earning per Share of OGDCL rose this year from Rs 12.91 at the end of FY09 to Rs 13.76, showing an increase of 6.6%. This rise was seen despite the drop in production this year, and was the direct rise of rising oil and gas prices. Along with the increase in EPS, the Price-earnings ratio of OGDCL saw a considerable rise. After the drop in Market Price last year due to the crash of the stock exchange, the company has regained its position this year, with the price per share rising from Rs 78.5 at the end of FY09, to Rs 142 at the end of this period. The price earnings ratio was thus able to rise from 6.1 to 10.32 over the year.

Dividend per share dropped considerably during this financial year, falling from Rs 8.25 per share declared last year, to Rs 5.5 per share this year. This may be due to both the recent drop in production as well as the current exploration and development projects being carried out by the company. This dividend is however lower than that given by the industry, and is considerably lower than that given by PPL. Book Value of OGDCL has been increasing steadily over the years on the base of its increasing assets. During FY10, the Book Value rose from Rs 29.3 to Rs 36.6, a rise of almost 25%.

FUTURE OUTLOOK

Being an exploration and production company, OGDCL is exposed to various operational and non-operational risks associated with the business, which may unfavourably affect its operations and financial performance. As pricing is based on international prices of crude oil, the company is dependent on these changes, along with the exchange rate. Depletion of fields, drilling risks and environmental risks pose further challenges to the company. However, the management and the board of directors are well aware of their responsibilities in this regard and ensure that an appropriate system exists in the company for the identification and management of the business risks.

In terms of the recent floods, OGDCL has managed to avoid any major loss to its equipment and work program that may have been caused. With exploration sites and oil fields located across Pakistan, some of the company’s drilling sites were at serious risk. At a few locations some rigs had to suspend routine operations due to heavy rains, flood waters and supplies were discontinued through roads to the sites, but OGDCL managed to minimize the effects of such a heavy natural calamity. Qadirpur gas field was badly affected by the floods’ havoc and the oilfield was closed down for necessary maintenance at the time of the floods. However, the country’s third largest gas field Qadirpur resumed the production of 310.80 million cubic feet per day (mmcfd) on August 20 2010.

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