09:52 August 21, 2010
“Fundamentally, this is an India growth story.” – Anil Agrawal, Executive Chairman of Vedanta Resources
Such was Mr. Agrawal’s thundering defence of his US$9.7 billion acquisition of Cairn Energy’s Rajasthan oilfields. Unfortunately, it is yet another example that commodities, like beautiful women, have an amazing ability to make wise men dumb.
I don’t want to second-guess Vedanta’s rationale (and I have utmost admiration for a self-made Indian entrepreneur such as Mr. Agrawal), but this line as a “fundamental” motive for his acquisition is utter non-sense, for the simple reason that there isn’t an “Indian price” for crude oil, and the oilfields’ reserves and productions won’t grow along with India’s GDP or income level. Rajasthan is in India, but it doesn’t matter to whom you sell its crude outputs – all would be at market price. Nor is there a “China price”, for that matter; and as such CNOOC is definitely not a “China play”. Some may argue that China or India growths will drive up crude oil price; but in that case an oilfield offshore Uganda is an equally good China or India “play” – investors may be better off putting their money into Tullow Oil (LSE: TLW.L, a long time favourite of mine), because it has more exploration potentials.
Cash for a cash cow?
Now, from all I heard about the Rajasthan asset, two things are fairly certain: first, it is ready to produce (and to generate cash); second, after six years since striking oil, Cairn has already thoroughly explored the area, leaving few blank spots for imaginations. Thus Mr. Agrawal is essentially betting on higher crude oil price. We don’t question his wisdom on this because we can’t be sure (nobody can) about the direction of oil price. But from what we see today, Mr. Agrawal is merely trading (a lot of) cash for a cash cow.
Cash without a cow
What puzzles me more is why Cairn wanted to sell the Rajasthan asset, which is about the only cash generating asset for the FTSE100 company. Its flagship Greenland project is, indeed, very “green” – at only seismic survey stage and years away from production (if there is to be production at all). It takes the management enormous courage (or foolishness) to give up cash flows and run “naked” in the next five (or even ten) years.
But I had learned a hard lesson not to judge Cairn Energy. I still vividly remember myself sitting in Shell’s Aberdeen office in the gloomy Scottish morning of 2004, and the news of Cairn’s discovery flashed across our screens. Everyone was dead silent – Shell sold the Rajasthan project to Cairn for mere 4 million pounds. (The insult was particularly acute as it followed Shell’s scandal of reserves “re-categorisation”.) Cairn is a hardcore explorer, no question about that; that risk-taking spirit may be the very reason that some investors want to buy into an explorer – just be sure you understand what you are getting.