Essar weighed down by Indian tax issues, profits tank

India-focused power generation and oil and gas group Essar Energy saw shares drop on Monday morning after reporting a sharp drop in profits in the 12 months ended December 31st.

The widely-reported sales tax deferment case with the Indian Supreme Court has weighed heavily on the share price over the last two months. The Supreme Court ruled against the Gujarat High Court in January in letting its 87%-owned Indian oil subsidiary, Essar Oil, pay sales tax in deferred instalments. The company then announced that it must repay $1.235bn in sales tax.

Pre-tax profit (including the sales tax benefit but before its subsequent reversal) dropped 76% from $365.5m to $89.2m. When accounting for the reversal of the sales tax benefit, the group fell to a pre-tax loss of $881.1m, from a profit of $365.5m the year before.

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Shares were down 3.02% at 122.2p in early trading.

"We were clearly disappointed that the Supreme Court of India set aside an earlier decision of the High Court of Gujarat which enabled us to benefit from a sales tax deferment scheme. We are seeking a review of this decision. We are also in discussions with the Government of Gujarat with regard to a suitable repayment schedule," according to Chief Executive Officer Naresh Nayyar.

Meanwhile, the sharp depreciation of the rupee since August resulted in a foreign exchange impact of $303m on EBITDA (earnings before interest, tax, depreciation and amortisation). As such, full-year EBITDA fell 10% from $696.5m to $624.8m, missing the $685m forecast (by 10 analysts supplied by the company).

Nevertheless, revenues jumped 60% from $10bn to $16bn, helped by the 21% increase in oil and gas refining and marketing revenues in India due to higher selling prices and the Stanlow refinery (UK) acquisition completed in July.

The group said that 2011 was a "challenging period in terms of delivery of Essar Energy's power generation growth projects". "There have been continued delays at government level on coal block clearances to allow Essar Energy to start mining the coal blocks previously allocated to us and adjacent to our Mahan and Tori power projects."

Essar is therefore sourcing alternative temporary supplies of coal through Coal India's e-auction process and from outside India; both measures come at a significantly higher cost than using its own captive coal blocks. This, along with similar situations existing at other energy companies, could put upward pressure on electricity prices across the country, the group said.

The outlook statement also looks particularly gloomy. The group noted that the Reserve Bank of India (RBI) has cut its gross domestic product growth forecasts for the fiscal year 2011-12 from 7.9% to 7.6% Meanwhile, Essar said there remains a major shortage of power generation in India relative to demand, with peak deficits running at over 10% of demand.

"If the Government is to facilitate delivery of the targeted investment infrastructure and energy, the regulatory issues described earlier will need to be tackled rapidly." Essar said that there remains "distortions" in the energy sector in India, as the rising cost of generating power from imported coal and gas is not reflected in the prices set by regulators. "If the Indian economy is to grow in a world of high energy prices it is clear that in the medium to long term, the Government will need to remove these distortions, replacing them with far more targeted subsidies for the poor," the group said.

BC