Last Updated – December 2020
In this article, we will cover,
– A comprehensive and well-researched list of the best energy stocks to buy
– What is the Oil and Gas Sector
– Different segments in Oil and Gas Sector
– Overview of the Oil and Gas sector in India
– Opportunities in the Oil and Gas Sector
– Factors to consider while picking stocks from the Oil and Gas sector
– Overview of the power sector in India
– Different parts of the power sector
– Opportunities in the Power sector
– Factors to consider while picking stocks from the Power sector
– Portfolio companies
– A model portfolio with a relevant exposure to the best energy stocks in India
– A detailed table containing the most important factors considered while determining the best energy stocks to buy
So first let’s understand the Energy Sector
The energy sector is one of the most crucial elements for an economy. The industry includes the Oil & Gas industry, the Coal mining industry, the Power generating industry and the Power distribution industry.
Summary Table for best Energy Stocks to buy
|COMPANY NAME||NSE CODE||BSE CODE||CMP (4th Dec)||INDUSTRY||RATING||M-CAP (₹CR)|
|Oil India||OIL||533106||₹107.1||OIL EXPLORATION||0.5||₹11,890.0|
|Gujarat State Petronet||GSPL||532702||₹221.3||GAS TRANSMISSION||3||₹13,112.0|
|Mahanagar Gas||MGL||539957||₹1,037.6||LPG/CNG SUPPLIER||4.5||₹10,463.0|
|Petronet LNG||PETRONET||532522||₹262.1||LPG/CNG SUPPLIER||3||₹39,240.0|
|Indraprastha Gas||IGL||532514||₹478.5||LPG/CNG SUPPLIER||4.5||₹33,758.0|
|Linde India||LINDEINDIA||523457||₹898.8||INDUSTRIAL GASES||0.5||₹7,749.0|
|Power Grid||POWERGRID||532898||₹194.4||POWER TRANSMISSION||0.5||₹1,01,022.0|
|Adani Transmission||ADANITRANS||539254||₹436.6||POWER TRANSMISSION||0.5||₹46,747.0|
|PTC India||PTC||532524||₹59.6||POWER TRADING||0.5||₹1,822.0|
|Gujarat Gas||GUJGASLTD||539336||₹347.9||GAS TRANSMISSION||0.5||₹24,008.0|
|Adani Gas||ADANIGAS||542066||₹358.6||LPG/CNG SUPPLIER||4.5||₹39,450.0|
|Coal India||COALINDIA||533278||₹133.3||INDUSTRIAL MINERALS||2||₹85,200.0|
What is Oil & Gas sector?
Crude Oil is the primary component for the energy industry and is the most important commodity in the world. Oil & Gas basically includes products drawn out from crude oil which is extracted by oil drills. Crude oil is further refined to produce products such as petrol, diesel, ATF (aviation turbine fuel), kerosene, heating oil, LPG and CNG among others. Crude oil not only fulfils energy needs ranging from running cars to generate electricity but is also the key component used to create plastic, paints, lubricants and asphalt (used for building roads) among others making it key for both energy and consumption.
The sector is divided into 3 segments:
- Upstream segment – engaged in exploration and production (E&P) of crude oil. Companies in this segment are usually characterized with high investment capital, extended duration as it takes time to locate, drill and be technologically intensive. Examples include ONGC which is engaged in oil exploration and extraction.
- Midstream segment – engaged in storage and transportation. Companies in this segment are characterized by shipping, trucking, pipelines, and storing of the raw materials. The midstream segment is also marked by high regulation, particularly on pipeline transmission, and low capital risk. IOCL and GAIL are engaged in the storage and distribution of crude oil.
- Downstream segment – engaged in refining, processing and marketing of oil. IOCL and Reliance.
Overview of the Oil and Gas sector in India
India is the 3rd largest consumer of energy as well as oil. As on May 01, 2020, India’s oil refining capacity stood at 249.9 MMT (million metric tonnes), making it the second largest refiner in Asia. India is pegged to increase this capacity to 667 MTPA (million tonnes per annum) by 2040. Private companies own about 35.36 per cent of the total refining capacity in FY20. The energy demand is expected to double to 1,516 Mtoe (million tonnes equivalent) by 2035 in India. The consumption grew by 4.5% in FY20 to 213.69 MMT while the crude oil production stood at 32.2 MMT. India has proven reserves of 4,500 million barrels (1 barrel = 159 liters) and produced 39.5 million barrels in 2018. India has imported 4.54 MBPD (million barrels per day) as well as produced 0.64 MBPD in FY20, indicating that imports contributed to over 87% of total oil demand of 5.18 MBPD.
On the LNG front, India is currently the 4th largest importer in the world with imports at 33.68 BCM (billion cubic meters) for FY20. The total gas consumption stood at 63,932 MMSCM (million metric standard cubic meter) for FY20. The natural gas pipeline length overall stands at 16,324 kms for FY20 of which GAIL has the largest share at 11,411 kms.
The Oil & Gas industry offers multiple opportunities including:
- Upstream Segment: 78% of the sedimentary area is yet to be explored; Secondary and Tertiary oil techniques.
- Midstream Segment: Expansion of gas pipelines and LNG imports have increased, thereby giving an opportunity to boost production capacity in segments such as terminal operation, engineering, procurement and construction services.
- Downstream Segment: India has 21 refineries and expansion is planned with FDI in export-oriented infrastructure, including product pipelines and export terminals; the development of CGD (city gas distribution) in many cities (including Tier 2 and 3 cities); and the expansion of the petroleum product distribution network.
When looking at investing in companies from the sector, one needs to assess the following factors:
- Investors need to look at the volatility and oil price trend since these are driven by multiple factors globally. Investors need to look at both WTI and Brent crude, the two primary crude prices used globally. India uses Brent crude prices to price oil and accordingly should be given more importance. Oil companies usually have hedges in place which should be assessed based on gains/losses from these contracts.
- Investors need to identify which segment of the industry does the company serve among the upstream, midstream and downstream segment. This is crucial as companies in the upstream segment derive profits from higher global crude oil prices, in the case of India, higher Brent prices. For the other segments, profits are made from the difference between crude oil prices and prices of finished products such as petrol, diesel, ATF, etc. Due to this difference being low, the operating margins range between 5-15% but these companies are known to generate healthy cash flows. Downstream oil companies also tend to be less volatile due to costs and revenues both adjusting to changing oil prices, unlike oil exploration companies which are directly affected by oil price volatility.
- Assess the reserves held by the company in proportion to how much has been extracted which can give investors an idea about the need for further capex towards drilling wells and processing of oil. Assess the refining throughput and the proven reserves held by the company. For midstream oil companies, assess their gas pipeline network. For downstream oil companies, assess the company’s refining throughput and refinery production.
- On the financial front, assess the amount of debt the company holds, specially the E&P companies as the debt obligations are mostly fixed while earnings can be affected by crude oil price volatility therefore the company should at least have enough earnings to cover costs and debt obligations. Assess the interest coverage ratio and the debt/equity ratio.
- Assess the operating cash flows generated by the companies along with the dividend payouts made by these companies. Since most companies in this sector trade at decent valuations, assess the price ratios as well as the EV/EBITDA ratios.
Overview of the Power sector in India
India is the 3rd largest producer and consumer of power in the world with installed capacity of 370.49 GW (gigawatts) as of 2020. In renewable energy, India is ranked 4th in wind power and 5th in solar power capacity with renewable power capacity at 87.38 GW which is estimated to rise to 175 GW by 2022 and double its share in electricity capacity to 40% by 2030. Power is generated from 4 channels in India:
- Thermal: This segment contributes to 62.4% of total power capacity and is drawn from Coal, Gas & Lignite and Diesel based power plants. Coal is the largest among these with installed capacity of 198.5 GW in 2020; Gas & Lignite plants have installed capacity of 24.99 GW as of 2020; Diesel is the smallest among the 3 with installed capacity of 0.5 GW as of 2020. The total capacity stands at 230.81 GW.
- Renewables: This segment contributes to 23.4% of total installed power capacity. Of the renewables, Wind is the largest power generator at 37.75 GW followed by Solar power at 34.91 GW as of 2020.
- Hydro: This segment contributes to 12.3% of total power capacity with power generating capacity of 45.69 GW as of 2020.
- Nuclear: This is the smallest energy segment, contributing to 1.8% of all installed capacity in India at 6.78 GW as of 2020.
Different parts of the Power sector
Power companies are divided into three parts, Gencos (Power generating companies), Transcos (Power transmission companies) and Discoms (Power distribution companies). The gencos are engaged in the generation of electricity which is then transferred over to transcos which are engaged in transmission of electricity from one location to another to various discoms. Discoms buy this power from either transcos or directly from gencos and transfer the same to final consumers such as industrial, commercial and domestic consumers. The discoms charge the final consumers for electricity consumption (based on Units consumed) which is used to purchase power from transcos and gencos.
India saw a consumption of 1,252.61 BU (billion units) or 1,230 TWh (terawatt hours) in FY20 while seeing growth in both consumption and production of power every year. Industrial consumption amounted to 41% of total consumption of power in FY17-18.
Opportunities in the power sector:
- Demand for electricity is expected to increase – per capita consumption of electricity is estimated to be at 1,894.70 TWh by FY22.
- Demand is currently higher than supply by about 7.5%, giving room for scaling up production capacities.
- The government is taking up multiple reforms which are aimed to improve the entire power sector over the long term.
- The government is not only taking initiatives to increase overall renewable capacity but also its share in the overall power capacity in India.
When looking at Power companies, an investor should keep the following factors in mind:
- Investors need to assess the debt levels of the companies, especially for discoms. This is because discoms have to first pay to buy power, either by entering a PPA (power purchase agreement) or buying it from the power exchange, and then get paid for power used by consumers. The period between paying and receiving money has to be supported using debt, therefore, discoms usually run high levels of debt.
- Assess the capacity of production and the PLF (power load factor) at which these companies generate electricity. PLF is the ratio of power generated/max capacity, a higher PLF ratio can be indicative of future capex the company may take up, since setting up capacities is highly capital intensive. This could be indicative of the way cash flows are utilized.
- Investors should assess the operating cash flows generated by a company which provide a more consistent idea vs the net profit as these companies are subject to large non-cash items such as depreciation which can affect profits.
- Assess the realisation per unit figure for the power companies to identify per unit efficiency in generating revenues. Higher the number, better it is for the revenues of the company.
Reliance Industries is India’s largest company. The company is primarily engaged in the business of oil exploration, refining of petroleum and marketing & distribution of the same along with operations in petrochemicals. Reliance has diversified further by foraying into the retail, telecom and technology space with Reliance Retail and Reliance Jio, respectively. With all the businesses combined, the company pulled in revenues of over ₹6 trillion in FY20. The company derives majority of its cash flows from the oil businesses but has been proactive towards diversifying into businesses which can help the company achieve high growth and leverage its scale in the right order while allaying the risks associated with the oil business on the company. The company has plans to achieve carbon neutrality by 2035 thereby focusing on diversifying across energy and other industries while continuing to invest in the oil business.
The company delivered a ROE at 10.6% for FY20 despite the pressure on oil companies globally affecting their margins. It has also successfully become net debt free which is positive as peers are usually more debt laden at the given scale. Reliance is among the most efficient among peers with the highest gross refining margins at $8.9/bbl (barrel) while the refining throughput stood at 70.9 MMT. The company has proven oil reserves of 13.24 MMT in India and abroad along with proven gas reserves of 92,771 MMSCM in India and abroad as of FY20. The company currently has an EV/EBITDA of 16.1x and a P/E ratio of 32.3x which values the company fairly given the efficiency in oil business vs peers.
The stock is expected to offer diverse growth opportunities over the long term. Along with this, the company has Reliance Jio and Reliance Retail among other digital investments which have been effectively contributing to the margins and growth of the company. Reliance has also successfully raised about ₹2 trillion by Jio stake sale, BP stake sale and a rights issue, which helped in making the company net debt free. The company also sold stake in Reliance Retail, raising an additional sum of ₹47,265 crore and has purchased Future Retail businesses. This has made the company the largest retailer in India which further adds value to the company’s leadership.
Oil & Natural Gas Corporation is the country’s largest oil exploration and production company. The company currently has operations across the world and is also engaged in some downstream activities of crude oil processing. It produced 34.33 MMT of oil and 30.55 MMT of gas in FY19 and is vertically integrated with HPCL for downstream activities such as Refining and Marketing. The company has 1,853.23 MMTOE of reserves in oil and gas as of FY19 and generated revenues of ₹960 billion with net realization/bbl at ₹4,154/bbl.
On financials, the company has delivered a ROE of 14.9% for FY20 which was down because of the pressure on crude oil prices and the sharp drop witnessed in May 2020. The reduction in oil seriously impacted the margins as well as sales which were down due to fall in demand. The company maintains relatively low debt levels with the debt equity ratio at 0.5x. The stock currently trades at a P/E of 7.8x and an EV/EBITDA of 4.3x indicating the company is cheaply valued. But at the same time, ONGC faces high amounts of risk from changing crude oil prices as volatility directly affects the profits of the company. Another factor to consider is the changes in regulations that can affect realisations. An investor must also consider its hedging gains and losses which will affect the bottomline in a big way.
Petronet LNG is primarily engaged in the business to develop, design, construct, own and operate Liquefied Natural Gas (LNG) import and regasification terminals in India. The company is jointly run by BPCL, GAIL, IOCL, and ONGC. Petronet LNG operates gasification plants in Dahej and Kochi with installed capacities of 17.5 MMTPA and 5 MMTPA respectively as of FY20. The Dahej facility saw a capacity utilization of over 92% while the Kochi facility works at only 20% utilization due to insufficient gas transport network.
The company has delivered a ROE of 24.3% which is higher than peers while the operating profit margin stood at 12.28% which is at the higher end of the industry average band. Additionally, it has a debt to equity ratio of 0.48x which indicates a lower-than-peer debt level. The company currently trades with a P/E of 15.9x and EV/EBITDA of 8.6x indicating that the stock trades at attractive valuations.
Of the power companies in India, NTPC is the largest thermal power producer in India (6th largest thermal power producer in the world). Coal based power generation contributes to 87.4% of total capacity. It has also diversified into hydro power, coal mining, power equipment manufacturing, oil and gas exploration, power trading and distribution. NTPC Group has an installed capacity of 62,110 MW as of FY20 and NTPC Ltd achieved 100 percent plant load factor (PLF) on May 9, 2020 in three of its thermal power stations.
The overall PLF stood at 55% for FY20 for thermal installations. The company generated ROE of 13.2% for FY20 while the ROIC has been more consistent being in the range of 18-20% over the last 5 years. The company currently trades at a P/E of 8.2x while EV/EBITDA stands at 6.9x, indicating the stock is fairly valued based on financials.
Torrent Power is engaged in the business of generation, transmission and distribution of power through its network of thermal power plants. The Company has a total generation capacity of 3,879 MW of which it has three gas-based plants namely 1,147.5 MW SUGEN Mega Power Plant, 382.5 MW UNOSUGEN Power Plant and 1,200 MW DGEN Mega Power Plant. All three are regulated by Central Electricity Regulatory Commission which allows cost plus post-tax ROE of 15.5% as part of the regulated tariff. The operational renewable generation capacity of 787 MW of which 138 MW is Solar and 649 MW is Wind is tied up under long-term PPAs.
The Company is a licensed operator for electricity distribution in the cities of Ahmedabad, Gandhinagar, Surat and Dahej SEZ aggregating to 425 sq kms of area. It is also developing a state-of-the-art distribution network as a licensee in Dholera Special Investment Region (DSIR) spanning 920 sq kms area. The company currently operates its plants at an average PLF of 60-70% range across all plants as of FY20 while the renewable segment operates at an average PLF of 15-20% for the same period.
On financials, the company has delivered an operating profit margin at 27% which is much better than peers in the industry while delivering a ROE of 13.5% over the last 5 years. The company has been reducing its debt at a steady pace, bringing it down from 1.1x to 0.92x in the last 5 years. The company offers attractive valuations of 9.4x P/E ratio and a 6.6x EV/EBITDA ratio. Torrent Power has an OCF/NI ratio at 3.08x which is extremely robust.
Watch our video on how to analyse and pick Energy stocks for investments
In order to get an exposure to Best Energy stocks, you need a total of ₹26,000 for the below curated portfolio as of 4th Dec, 2020.
|PARTICULARS||WEIGHTAGE (%)||CMP (as on 4th Dec, 2020)||NO OF STOCKS||TOTAL|
The below table covers some of the most important factors while evaluating energy stocks such as return ratios including RoE and RoCE, operating margins, sales and earning growth and market cap among others.
|COMPANY NAME||NSE CODE||BSE CODE||CMP||INDUSTRY||RATING||MARKET CAP (INR CR)||NET WORTH||P/E||EV/EBITDA||ROE||ROCE||DEBT/EQ||REV GROWTH (5 YR)||NI GROWTH (5 YR)||GRM (US$/bbl)||EBITDA MARGIN||DIVIDEND YIELD|
|Oil India||OIL||533106||₹107.1||OIL EXPLORATION||0.5||₹11,890.0||₹27,673.0||4.2||5.2||13.2%||9.70%||0.5||4.0%||8.00%||–||26.0%||9.70%|
|Gujarat State Petronet||GSPL||532702||₹221.3||GAS TRANSMISSION||3||₹13,112.0||₹5,490.0||7.0||4.3||55.7%||34.20%||0.4||63.0%||36.00%||–||26.0%||0.90%|
|Mahanagar Gas||MGL||539957||₹1,037.6||LPG/CNG SUPPLIER||4.5||₹10,463.0||₹2,890.0||19.3||11||29.7%||36.60%||0||7.0%||22.00%||–||35.0%||1.90%|
|Petronet LNG||PETRONET||532522||₹262.1||LPG/CNG SUPPLIER||3||₹39,240.0||₹11,490.0||15.9||8.6||25.8%||28.10%||0.3||-2.0%||26.00%||–||11.0%||4.80%|
|Indraprastha Gas||IGL||532514||₹478.5||LPG/CNG SUPPLIER||4.5||₹33,758.0||₹5,577.0||33.6||21.5||24.5%||30.30%||0||12.0%||21.00%||–||23.0%||0.60%|
|Linde India||LINDEINDIA||523457||₹898.8||INDUSTRIAL GASES||0.5||₹7,749.0||₹2,194.0||65.4||20.1||6.9%||10.50%||0||3.0%||185.00%||–||24.0%||0.30%|
|Power Grid||POWERGRID||532898||₹194.4||POWER TRANSMISSION||0.5||₹1,01,022.0||₹67,727.0||8.5||6.3||17.2%||11.50%||2||17.0%||16.00%||–||87.0%||5.20%|
|Adani Transmission||ADANITRANS||539254||₹436.6||POWER TRANSMISSION||0.5||₹46,747.0||₹8,385.0||56.2||13.9||13.6%||12.10%||2.9||145.0%||152.00%||–||37.0%||0.00%|
|PTC India||PTC||532524||₹59.6||POWER TRADING||0.5||₹1,822.0||₹4,303.0||4.5||5.8||10.0%||10.60%||2.2||6.0%||3.00%||–||10.0%||8.90%|
|Gujarat Gas||GUJGASLTD||539336||₹347.9||GAS TRANSMISSION||0.5||₹24,008.0||₹3,765.0||24.4||13.8||43.5%||28.90%||0.4||3.0%||22.00%||–||16.0%||0.40%|
|Adani Gas||ADANIGAS||542066||₹358.6||LPG/CNG SUPPLIER||4.5||₹39,450.0||₹1,644.0||94.5||61.3||33.5%||34.50%||0.3||–||–||–||32.0%||0.10%|
|Coal India||COALINDIA||533278||₹133.3||INDUSTRIAL MINERALS||2||₹85,200.0||₹37,084.0||6.3||3||57.0%||73.10%||0.1||5.0%||4.00%||–||23.0%||8.70%|
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