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Thursday, October 09, 2008

HOEC - Annual Director's Report - 2007-2008


HINDUSTAN OIL EXPLORATION LIMITED

ANNUAL REPORT 2007-2008

DIRECTORS' REPORT

TO THE MEMBERS OF HINDUSTAN OIL EXPLORATION COMPANY LIMITED

Your Directors have pleasure in placing before you the 24th Annual Report and Audited Statement of Accounts for the year ended March 31, 2008.

FINANCIAL HIGHLIGHTS:

(Rs. million)Particulars Standalone Consolidated 2007-2008 2006-2007 2007-2008 2006-2007

Turnover 835 1,112 968 1,222

Other Income 202 149 205 132

Profit before Depreciation/ 610 1,009 636 1,022Depletion/Amortisation/Write Offs/Taxation

Less: Depreciation/depletion/ 53 77 53 77Amortisation

Less: Provisions & Write Offs 166 930 167 931

Profit Before Tax 391 2 416 14

Less: Provision for Tax 150 (23) 158 (12)

Profit After Tax 241 25 258 26

Profit/(Loss) brought forward 843 818 853 832

Profit available for 1,084 843 1,111 858Appropriation

Less: Proposed Dividend on 130 0 130 0Equity Shares

Less: Dividend Tax 22 0 22 0 Balance carried to the 932 843 959 858Balance Sheet

The Turnover of the Company during the year as compared with previous year was lower on account of lower production in PY-3 Block since HEPI, the PY-3 Operator, has temporarily shut-in PY-3-3RL Well due to excessive water entering the Well and increase in the Government share of Profit Oil from 25% to 40% in PY-3 Block as per terms of the Production Sharing Contract (PSC). The Profit before Depreciation, Depletion, Amortisation and Write offs of the Company during the year has been affected due to higher Field Operating Expenses on account of increased charter hire charges of the offshore production facilities in PY-3 Block on renewal of charter hire contract by the Operator.

During the year ended March 31, 2008, Exploratory Well North Ledo-1 drilled in Block AAP-ON-94/1 did not encounter hydrocarbons of commercial interest and accordingly North Ledo-1 well has been plugged and abandoned. Consistent with the Company's Accounting Policies, the Company has written off the exploration expenditure of Rs.158.03 million associated with the drilling of the said well.

As per the terms of the PSC for CY-OSN-97/1 Block, if no Commercial Discovery is made in the Contract Area by end of the Exploration Period, the Contract Area shall be relinquished. In the absence of any discovery during the Exploration Period the Contract Area stands relinquished. Hence exploration expenditure pertaining to the CY-OSN-97/1 Block of Rs. 8.36 million has been written off during the year ended March 31, 2008.

DIVIDEND:

Considering the performance during the year under review, your Directors recommend dividend @10% (Rs.1.00 per equity share of Rs. 10/- each) on the equity shares of the Company for the year ended March 31, 2008. The proposed dividend will amount to an aggregate of Rs. 152.67 million (including dividend tax of Rs. 22.18 million).

OPERATIONAL HIGHLIGHTS:

Operations review has been provided in the Management Discussion and Analysis Report.

MANAGEMENT DISCUSSION AND ANALYSIS REPORT:

In terms of Clause 49 of the Listing Agreement with the Stock Exchanges, Management Discussion and Analysis Report is appended to this Report.

CORPORATE GOVERNANCE:

A separate report on Corporate Governance, along with a Certificate of Compliance from a Company Secretary in Practice, forms part of this report.

COST ACCOUNTING RECORDS:

The Company has maintained cost records as required by Cost Accounting Records (Petroleum Industry) Rules, 2002 vide notification dated October 8, 2002.

RIGHTS ISSUE:

The Company completed the Rights Issue and made an allotment of 52,180,621 equity shares. The equity shares are traded on the National Stock Exchange of India and the Bombay Stock Exchange Limited. Accordingly, the present paid up share capital comprises of 130,493,289 equity shares of Rs. 10 each.

The Company has, in terms of the SEBI (DIP) Guidelines, appointed IDBI Bank Limited as the monitoring agency to monitor the utilization of the proceeds of the aforesaid Rights Issue amounting to Rs. 6,105 million.

HOEC BARDAHL INDIA LIMITED [HBIL] (WHOLLY OWNED SUBSIDIARY OF HOEC):

During the year Sales and other income has increased by 42% and 89% over previous year, to Rs. 156.47 million & Rs. 3.45 million respectively. The revenue and earning growth has been primarily on account of HBIL products endorsement by OEMs including Hyundai and Tata Motors and introduction of new auto care products. The audited accounts of HBIL, together with the report of the directors and auditors thereof, form part of this Annual Report.

CONSOLIDATED FINANCIAL STATEMENTS:

Pursuant to Accounting Standard AS-21 issued by the Institute of Chartered Accountants of India and the Listing Agreement entered into with the Stock Exchanges, Consolidated Financial Statements form part of this Annual Report.

AUDITORS' REPORT:

With reference to the observations made in the Auditor's Report regarding one non-producing unincorporated joint Venture's accounts for the FY 2007-08, we have to state that the Company has not received the Audited Accounts of Block GN-ON-90/3 (Pranhita-Godavari) being under arbitration. As the above joint venture has not entered the production phase there is no effect on the profit for the quarter/year.

With reference to the observations made in the Auditor's Report for the FY 2007-08 regarding the accounting for foreign exchange differences in respect of the Company's share of the assets and liabilities in the Unincorporated Joint Ventures based on unaudited information relating to such foreign exchange differences, we have to state that since the audited financial statements of the Unincorporated Joint Ventures, which are prepared in accordance with the requirements of the Production Sharing Contract, do not separately reflect the details of the foreign exchange differences, the same have been obtained from the Operator of the respective Unincorporated Joint Ventures.

FIXED DEPOSITS:

Your Company has not accepted any fixed deposits and, as such, no amount of principal or interest was outstanding as at the balance sheet date.

DIRECTOR:

In accordance with the provisions of the Companies Act, 1956 and Articles of Association of the Company, Mr. Manish Maheshwari, will retire by rotation at the ensuing Annual General Meeting and being eligible has offered himself for reappointment.

The Board recommends his appointment.

OPEN OFFER BY ENI:

During the year, ENI UK Holdings plc (Eni UK) has taken over Burren Energy plc, (the holding Company of our promoters viz. Burren Shakti Limited and Burren Energy India Limited). Following completion of the global acquisition of Burren Energy plc by Eni UK, 100% subsidiary of Eni S.p.A., both Burren Shakti Limited and Burren Energy India Limited are indirect subsidiaries of Eni UK and Eni S.p.A. and form part of the Eni group of Companies. This transaction has resulted in Eni UK acquiring indirect control over 35,453,679 equity shares of the Company constituting 27.17% of the paid up capital of the Company. Eni UK has made the mandatory open offer to acquire upto 26,115,455 equity shares of the Company constituting 20% of the issued capital of the Company. The open offer closed on July 21, 2008 and post open offer formalities are in progress as on the date of this Report.

EMPLOYEES STOCK OPTION SCHEME:

Members' approval was obtained at the Annual General Meeting held on September 22, 2005 for introduction of Employees Stock Option Scheme (ESOS). ESOS was approved and implemented by the Company and options were granted to employees in accordance with the Securities and Exchange Board of India (Employee Stock Option Scheme and Employees Stock Purchase Scheme) Guidelines, 1999 (the SEBI Guidelines'). The Compensation and Remuneration Committee of the Board had constituted ESOS Trust having independent Trustees to monitor and administer the Scheme.

The applicable disclosures as stipulated under the SEBI Guidelines as at March 31, 2008 are given below:

(a) Option Granted 15,069

(b) Pricing Formula Nil

(c) Options Vested Nil

(d) Options Exercised Nil

(e) The total number of shares arising upon/after 15,069exercise of Option

(f) Options Lapsed Nil

(g) Variation in terms of Options Not Applicable

(h) Money realized by exercise of Options Nil

(i) Total number of Options in force 15,069

(j) Employee wise details of Options granted to:

Senior Management Personnel:

Mr. Manish Maheshwari 6,197

Any other employee who received a grant in any one year of Options amount to 5% or more of Options granted during that year:

Mr. Sagar Mehta 2,610

Mr. Sudhanshu Chugh (Resigned after March 31, 2008) 1,457

Identified employees who were granted NoneOptions, during any one year, equal to orexceeding 1% of the issued capital (excludingoutstanding equity share) of the Company atthe time of grant.

(k) Diluted Earnings Per Share (EPS) before Rs.2.47exceptional items pursuant to issue of shareson exercise of Options calculated in accordancewith Accounting Standard (AS) 20 EarningPer Share.

As the amount charged to the Profit and Loss Account (i.e. Rs. 170.89 per stock option) is higher than the fair value (i.e. Rs. 147.15 per stock option), had compensation cost for the stock options granted under the Scheme been determined based on fair value approach, the Company's net profit and earnings per share for the FY 2005-06, would have been higher than reported. Other details as required by the SEBI Guidelines are as under:

Weighted-average exercise price:

Nil.

Weighted-average fair values of options, separately for options, whose exercise price either equal or exceed or is less than the market price of the stock on the grant date:

Nil.

A description of the significant assumptions used to estimate the fair values of options as on the date of grant, were as follows:

Risk-free interest rate : 6.25% p.a. Expected life : 3 to 4 yearsExpected volatility : 58% Expected dividends : Nil

The price of the underlying share in market at the time of option grant:

Rs.147.15

CONSERVATION OF ENERGY, TECHNOLOGY ABSORPTION AND FOREIGN EXCHANGE EARNINGS AND OUTGO:

A. Conservation of energy:

(a) Energy conservation measures taken:

Our focus on the impact of our operations on climate change leads to our energy conservation strategy. To give effect to energy conservation efforts in our operations, we have taken initiatives beginning from the design phase for e.g. an efficient process flow has been designed in PY-1 Gas Field Development Project. Further, to reduce emission of Green House Gases (GHGs), high efficiency flares are proposed to be installed in PY-1 Field.

(b) Additional investments and proposals, if any, being implemented for reduction of consumption of energy:

Not applicable.

(c) Impact of the measures at (a) and (b) above for reduction of energy consumption and consequent impact on the cost of production of goods : Minimization of volume of gas flared during conditions of plant upsets and emergency trips.

(d) Total energy consumption and energy consumption per unit of production as per Form A of the annexure in respect of industries specified in the schedule thereto:

Not applicable

B. Technology absorption:

Efforts made in technology absorption as per Form B of the annexure:

Nil

C. Foreign exchange earnings and outgo:

(a) Activities relating to exports; initiatives: Niltaken to increase exports; developmentof new export markets for products andservices; and export plans

(b) Total foreign exchange used and earned:

Particulars Rs. Million

A. Foreign Exchange Earnings Nil(See note 1)B. Foreign Exchange Used:Cash Call Payment to Joint Ventures 207.62Expenditure in Foreign Currency 0.34(See note 2)Total Foreign Exchange used 207.96

Note:

1. The above excludes Interest received in foreign currency amounting to Rs. 6.08 million (Previous Year Rs. Nil) netted off against Borrowing Cost in accordance with the Accounting Standard 16.

2. The above excludes Interest paid in foreign currency amounting to Rs.22.64 million (Previous Year Rs. Nil) capitalised as Borrowing Cost in accordance with the Accounting Standard 16.

HUMAN RESOURCES:

The Company's industrial relations continued to be harmonious during the period under review.

PARTICULARS OF EMPLOYEES:

The particulars of employees required to be furnished pursuant to Section 217(2A) of the Companies Act, 1956 read with the Companies (Particulars of

Employees) Rules, 1975 forms part of this Report. However as per the provisions of Section 219(1)(b)(iv) of the Companies Act, 1956 read with rules framed there under, the report and accounts are being sent to the shareholders of the Company excluding particulars of employees under Section 217(2A) of the Companies Act, 1956. Any shareholder interested in obtaining a copy of the said statement may write to the Company Secretary at the registered office of the Company.

AUDITORS:

The Auditors, M/s. Deloitte Haskins & Sells, will retire at the forthcoming Annual General Meeting. Based on the recommendation of the Audit Committee, the Board has at its meeting held on June 06, 2008 recommended their appointment as Statutory Auditors to hold office from the conclusion of the ensuing Annual General Meeting to the conclusion of the next Annual General Meeting.

DIRECTORS' RESPONSIBILITY STATEMENT:

In accordance with the provisions of Section 217(2AA) of the Companies Act, 1956, with respect to Directors' Responsibility Statement, it is hereby confirmed:

(i) That in the preparation of the annual accounts for the financial year ended March 31, 2008, the applicable accounting standards had been followed along with proper explanation relating to material departures;

(ii) That the directors have selected such accounting policies and applied them consistently unless otherwise stated and made judgements and estimates that were reasonable and prudent so as to give a true and fair view of the state of affairs of the Company at the end of the financial year and of the profit or loss of the Company for the year under review;

(iii) That the directors have taken proper and sufficient care for the maintenance of adequate accounting records in accordance with the provisions of the Companies Act, 1956, for safeguarding the assets of the Company and for preventing and detecting fraud and other irregularities; and

(iv) That the directors have prepared the accounts for the financial year ended March 31, 2008 on a going concern basis.

ACKNOWLEDGEMENT:

Your Directors place on record their gratitude for the support and co-operation received from Government of India's agencies namely, Ministry of Petroleum & Natural Gas, Directorate General of Hydrocarbons, Government of Gujarat, Government of Tamil Nadu and Government of Assam. Your directors express their gratitude to the Company's stakeholders, shareholders, business partners, and bankers for their understanding and support. We express our sincere appreciation to our dedicated and committed team of employees who have contributed to the growth of the organization.

For and on behalf of the Board

R. VasudevanDate: July 28, 2008 Chairman

Management Discussion and Analysis Report:

INDUSTRY STRUCTURE, DEVELOPMENT AND OPPORTUNITIES:

HOEC operates in the Oil & Gas Exploration and Production (E&P) Industry, with its current portfolio of assets located in India. India's demand for oil and natural gas far exceeds domestic supply. HOEC is dedicated to contribute in meeting the energy needs of India and in this endeavour, the Company works in close collaboration with the Government of India through Production Sharing Contracts (PSCs) to explore, develop and produce hydrocarbons to meet the energy demands.

COMPANY'S BUSINESS AND STRATEGY:

The Company's core business is to explore, develop and produce hydrocarbons. The key elements of our Company's strategy continue as follows:

* To increase our production by development of discoveries in existing assets/licenses;

* To increase our reserve base by exploring and establishing upside potential in our existing licenses;

* To constrain our exposure to exploration risk within prudent limits;

* To seek new investment opportunities within India or outside wherein HOEC can leverage its position as a low cost operator; and

* To monetise assets with a view to value realization or risk sharing.

The results achieved by the Company against the objectives set for the FY 2007-08 are summarized below:

* Drilled 2 exploratory wells in Block AAP-ON-94/1; one of the exploration wells Dirok-1 led to a discovery, which has been declared to be of potential commercial interest;

* Awarded major contracts for construction of PY-1 onshore gas processing terminal and fabrication & installation of offshore facilities including pipeline;

* Post appraisal, hooked up SPD Discovery in Block CB-ON-7 for production to existing infrastructure at Pramoda Field located at Palej;

* Oil and Natural Gas Corporation Limited ('ONGC'), the Operator, has prepared Plan of Development for Gulf 'A' Discovery in Block CB-OS/1 which has been submitted to DGH for approval;

* PY-3 Phase III Development sanctioned by all JV Partners; Hardy Exploration and Production (India) Inc. ('HEPI'), the Operator, has tendered out for drilling rig and evaluating production facilities option for period beyond July 2009.

Building up on the outcome of the objectives set for last year, we have defined the following objectives for the FY 2008-09:

* Appraise the 'Dirok' discovery in AAP-ON-94/1 Block;

* Build and install the PY-1 Offshore and Onshore Facilities so as to establish infrastructure for commencement of first gas production by mid 2009;

* Commence production from SPD and explore/appraise the potential of remaining CB-ON-07 area;

* Continue to facilitate development initiative of Gulf A' discovery in Block CB-OS/1 operated by ONGC;

* Facilitate Phase III Development drilling in PY-3 Field operated by HEPI; and

* Continue to seek new opportunities which provide strategic fit to our existing portfolio/competencies.

OPERATIONS REVIEW: Overview:

The Company's activities relate to exploration and production (based on exploration success) of hydrocarbons crude oil and natural gas, which are natural resources. The Company's aggregate production during the FY 2007-08 was 344,475 barrels of oil equivalent (boe) (crude oil: 329,286 bbls; gas: 2,677,570 scm) as against 503,408 barrels of oil equivalent (boe) (crude oil: 494,622 bbls; gas: 1,548,788 scm) during the previous year. Production of crude oil from PY-3 Field located in Cauvery Basin continues to be the predominant source of the Company's production.

Reserves:

As of March 31, 2008, the internal estimates of Proved and Probable (P+P) reserves on working interest basis for the Company is 53.4 mmboe, previous year estimates being 50.5 mmboe, thereby the Company has been able to more than offset the production during the year.

Cauvery Basin:

PY 1 Gas Field:

The Company has awarded all major contracts including construction and installation of an offshore production cum wellhead platform, 56 kms sub sea pipeline and onshore gas processing terminal. The construction of gas terminal and fabrication of offshore platform activities are progressing at Pdlai Perumal Nallur village in Tamil Nadu and Laem Chabang yard at Thailand respectively.

Forward Plan:

The Company continues to be actively engaged in execution and project management so as to deliver the project in a safe, cost efficient and timely manner. Further, pursuant to international competitive bidding, the Company is in discussions with drilling service provider for securing a suitable jack up rig so as to tie-back the Earth Well to the Platform and drill development wells as planned.

PY 3 Field:

The average gross production from the PY-3 Field decreased to 3,573 bopd in FY 2007-08 from 5,592 bopd in the previous year since HEPI, the Operator has temporarily shut-in PY-3-3RL Well, due to excessive water entering, in addition to the natural decline and delay in drilling of additional producer wells pursuant to Phase III Development. Production on net entitlement basis to HOEC averaged 557 bopd in FY 2007-08, as against 923 bopd in FY 2006-07, a decline of 39.6% on account of the above and higher share of Government Profit Petroleum as per the terms of the PSC.

Forward Plan:

JV Partners have approved Phase III Development which envisages drilling of additional production well(s) and water injector well. HEPI, the Operator, has tendered out for tangibles and drilling rig and is evaluating production facilities option for period beyond July 2009.

Block CY-OSN-97/1:

In the absence of any discovery during the Exploration Period, as per the terms of the PSC with the Government of India, the Contract Area has been relinquished/surrendered.

Cambay Basin:

Block CB-ON-7:

Pramoda Field:

The production from the Pramoda Field averaged 400 boepd. Production on net entitlement basis to HOEC averaged 140 boepd during the year, the decrease of 11% being due to natural decline.

SPD Discovery:

Post appraisal, SPD Discovery was hooked up for production to existing infrastructure at Pramoda Field located at Palej.

Forward Plan:

SPD Discovery shall be put on commercial production immediately upon ONGC, in its capacity as the Licencee for the Block, receiving mining lease (ML) from the State Government.

The joint Venture partners comprising of GSPCL, ONGC and HOEC have requested the Government for retention of certain block area in accordance with the Government guidelines for further exploration, which is being considered by the Government. Going forward, the JV shall acquire 3D seismic data and drill additional wells in the unexplored area.

North Balol Gas Field:

North Balol Field produced 9,190,633 scm of natural gas during the year with an average production rate of 25,111 scmd, up by 65% over the previous year.

Asjol Field:

The field produced at an average rate of 31 bopd during the year with an aggregate production of 11,430 bbls. The consortium and DGH has approved Phase II development, which envisages drilling of additional development well(s) in the area. HOEC is in discussions advance stage of securing a drilling rig for this activity.

Block CB-OS/1:

The Management Committee of the Block has declared and approved commerciality of Gulf A' Discovery. ONGC, the Operator, has submitted Plan of Development for Gulf A' Discovery to the Directorate General of Hydrocarbons for approval.

Commercial Discovery Report for 'Harinagar Area' has been also submitted by ONGC, the Operator, to the Directorate General of Hydrocarbons and JV Partners for review.

Assam-Arakan Basin:

Block AAP-ON-94/1

During the year, the Company, as Operator, has drilled two exploration wells, one of which namely Dirok-1 encountered hydrocarbons. During drilling, the logs and Modular Dynamics Test (MDT) samples taken in the 1000 to 1500 meters section showed gas bearing sands of approximately 45 meters thickness. A Drill Stem Test (DST) was carried out covering only 17 meters (in three reservoir zones) out of a total of approximately 45 meters (eight gas bearing reservoir zones) in Dirok-1 well. The DST has resulted in flow of natural gas at an initial rate of approximately 6 million standard cubic feet per day (mmscfd) in aggregate from the three tested zones along with condensate at an initial rate of approximately 75 barrels per day through 6.35 mm bean. Based on the well test results, the JV Consortium has declared Dirok-1 discovery as of potential commercial interest.

The consortium has proposed to appraise the Dirok discovery by acquiring 3D Seismic data and drilling appraisal/delineation well(s).

RISKS, THREATS, UNCERTAINTIES AND CONCERNS:

The principal risks and uncertainties facing the Company, and the action taken to mitigate these risks, are as follows:

Oil Price Volatility:

HOEC is exposed to volatility in the oil price since we do not undertake any oil price hedge. The impact of a falling oil price is however partly mitigated via the production sharing formula in the PSCs, whereby our share of gross production increases in a falling oil price environment due to cost recovery mechanism. We believe that our shareholders as a body prefer to retain exposure to the oil price, so our policy is not to hedge against a fall in oil prices.

The PY-1 gas price being fixed under term contracts entered by the Company coupled with take-or-pay provision provide the Company with certainty in terms of cash inflows from sale of gas.

Cost Inflation impacting both Goods and Services:

The current inflationary environment for oil field goods and services, and for skilled human resources, has been described herein below (see Outlook'). Under the terms of the PSCs, operating expenditure and capital costs are recoverable through cost recovery mechanism, and so the effect of cost increase is cushioned to certain degree, subject always to approval of expenditure by the Management Committees under the PSCs. The retention of key staff at an acceptable cost is addressed through our remuneration and incentive plan to give key staff a longer term stake in the Company's performance.

Geological Risk:

Exploration is inherently a risky business, with statistically only a relatively small proportion of exploration wells resulting in commercial discovery. It is not possible to insure against the risk of exploration failure. HOEC's policy is to contain this exposure within prudent limits.

Risk on account of adverse outcome of Litigations:

The Company is party to various ongoing litigations/ arbitrations (also refer 'Notes to Accounts'), which if decided against the Company, may have an adverse impact on the operations and/or financial position of the Company.

Health, Safety and Environment:

Oil and gas operations carry a potentially high level of attendant risk, and the impact of an accident can be significant in terms of human, environmental and financial cost. HOEC carries out HAZOP, HAZID and maintains risk register covering risks specific to various operations. The Company has standard insurance policies, including control-of-well cover, in place covering all its operated and non-operated assets.

FINANCIAL REVIEW:

Performance:

Revenue:

Revenue was lower by 18% to Rs. 1,036 million due to lower production in PY-3 Block since HEPI, the PY-3 field Operator has temporarily shut-in PY 3-3RL Well due to excessive water entering the well and increase in the Government share of Profit Oil from 25% to 40% in PY-3 Block as per terms of the PSC. The aforesaid impact was partially offset by higher price realization: the average sale price rose by 24% to USD 77/bbl (2006-07: 62/bbl).

Production on working interest basis during the year was 344,475 boe, 31.5% lower than the previous year. The net entitlement volume was 745 boepd, 33% lower than the previous year. Sales volume at 347,276 boe was 32% lower than in previous year. The inventory at the year end was 15% lower than the previous year.

Operating Profit:

Cost of sales increased from Rs. 238.6 million to Rs. 360 million, primarily due to increased charter hire charges of the offshore production facilities in PY-3 Block on renewal of charter hire contract by HEPI, the Operator.

Administrative expenses, without considering the recovery of expenses, increased by 11% from Rs. 131.9 million to Rs. 145.8 million.

Interest and finance charges were Rs. 75.6 million, up from previous year due to interest costs associated with secured term loan.

Other expenses include write-off of unsuccessful exploration cost pertaining to North Ledo-1 well drilled in Block AAP-ON-94/1 and residual cost relating to CY-OSN-97/1 (Block relinquished) with total charge to the P&L equivalent to Rs. 166.39 million.

The operating profit was Rs. 466.6 million compared to Rs. 57.8 million against the previous year.

Net Profit:

The total tax charge was Rs. 150 million for the year compared to negative tax charge of Rs. 22.8 million (due to deferred tax asset created for the write off the exploration expenses in the previous year). Profit after tax increased to Rs. 241 million (2006-07: Rs. 24.7 million).

Cash Flow and Capital Expenditure:

During FY 2007-08, Operating Cash Flow, before Working Capital changes and Taxes, was Rs. 484 million.

Net cash flow from operations, after deduction of Rs. 143.1 million of tax and working capital decrease of Rs. 216.7 million, was Rs. 558.5 million, a decrease of 31% over 2006-07.

Investment expenditure totaled Rs. 1,419.3 million (2006-07: Rs. 2,328.8 million). Of this, the exploration expenditure accounted for Rs. 447.9 million, development expenditure Rs. 961.9 million and others Rs. 9.5 million.

During the year, the Company raised an amount of Rs. 6,105.13 million by issuance of 52.18 million equity shares to the existing shareholders of the Company in the ratio of 2:3. Term Debt increased by Rs. 151.2 million to Rs. 1,472.1 million. Net increase in cash balance was Rs. 5,447.2 million during the year.

FINANCIAL POSITION:

Liquidity:

At the year end, HOEC had cash and cash equivalent balances of Rs. 6,950.5 million and outstanding debt of Rs. 1,472.1 million.

Cash surplus to immediate requirements is placed in debt oriented Liquid Funds, Liquid Plus Funds and Fixed Maturity Plans and Bank Deposits as approved by the Board.

During the year 2007-08, the Company has drawn down first tranche against the loan facility of USD 100 million towards PY-1 Field development from a consortium of domestic banks co-led by IDBI Bank Limited and Axis Bank Limited.

INTERNAL CONTROL SYSTEMS AND THEIR ADEQUACY:

A comprehensive review of risks and internal controls was carried out by the Company on behalf of the Audit Committee. The policies internal control systems and measures in place were reviewed by the Internal Auditors and necessary actions were recommended to the Audit Committee and the Board. No significant control failings were reported during the year.

During the year the Company has taken steps to further strengthen its procurement-to-payment function by implementing Maximo ERP system.

OUTLOOK:

Based on the forward plan in various assets and more specifically development of PY-1 Gas Field, our outlook remains positive. On certain macro economic factors which impact the business, we share the following views:

Oil and Gas Markets:

The oil price continued to strengthen during the FY 2007-08 with dated Brent averaging USD 82.05/bbl compared to USD 64.25/bbl in the previous fiscal year. Ignoring seasonal variations, we expect oil prices to remain in the range of USD 75/bbl over the next few years. Gas prices in India have been evolving over the years from an administered price regime of sub USD 2 /mmbm and eventually would become linked to energy equivalent pricing mechanism. With the Government finalizing the gas allocation policy and development of regulatory framework to establish gas transmission infrastructure spanning the country, the gap in producer gas prices can be expected to progressively close.

Price Inflation:

Fuelled by the continued strength of the oil prices and the demand on finite oil service resources have caused rig day rates, marine spread cost and costs of the attendant services to rise. HOEC is not insulated against some of these market pressures. There is pressure on human resources which gives rise to salary inflation and certain sectors of the industry have experienced higher staff turnover.

MATERIAL DEVELOPMENT IN HUMAN RESOURCE FRONT:

Human ware is your Company's key resource. Our ability to continuously enhance value of our core E&P assets depends largely on our ability to attract, train, motivate and retain the best professionals. We continue to believe that there is significant domestic competition for E&P professionals with skill sets necessary to deliver success. Your company is exposed to the inherent risk associated with our ability to hire and retain skilled and experienced professionals.

Your Company has over the years evolved a favourable work environment that creates and promotes culture of performance for teams to maximize their potential. As you are aware of, the Company has a long-term incentive plan (LTIP), duly approved by the shareholders, to provide incentives by way of cash and employee stock options, to act as a retention tool. The employees are beneficiaries, for the financial year 2007-08, under the LTIP scheme, though no LTIP was awarded in the previous fiscal.

The number of employees as at March 31, 2008 was 43 (previous year: 41).

HEALTH, SAFETY, ENVIRONMENT & SOCIAL RESPONSIBILITY:

Your Company has taken account of the significance of health, safety, environment and corporate social responsibility (HSEC). FY 2007-08 has seen a focus on implementing HSEC standards across areas of operations.

In line with the Company HSE Management System, site specific HSE Procedures for the producing assets have been put in place. Emergency Response Plans for production operations, drilling campaigns and construction site activities have been developed to ensure timely response in times of emergency. HSE Management System Interface (Bridging) Plans are developed for alignment of HSE systems between the Company and its Contractors. Risk Assessment & Management studies have been carried out for onshore and offshore operations.

Special skills training on job Safety Awareness (JSA) and Risk Assessment and HSE awareness campaigns have been conducted and best practices have been felicitated by HSE Awards Program.

During the year under review, there were no fatalities, lost time incidents (LTI) and environmental incidents. The key performance indicators (KPIs) related to HSE tracked by the Company are as below:

KPIs: Statistics 2007-08 2006-07

Total Man-hours 1,073,861 1,015,249Fatalities 0 0No. of LTI incidents 0 2Days since last LTI 578 212Oil Spill Incident 0 0

2007-08 Result Industry Statistics OGP May 2008

Fatal Accident Rate 0 2.99LTI Frequency 0 0.27LTI Severity 0 21.98

Thus, you would notice that the Company crossed one million man-hours mark with no LTI or fatality accident.

The Company, as part of its Corporate Social Responsibility (CSR) measure, has participated in 'Self Help Programs' at panchayat level in areas of its operations to facilitate development of rural infrastructure and promoting rural employment. To promote the cause of education, the Company has distributed school books, stationary and uniforms to students in local schools. Additionally, the Company has announced schemes for scholarship to local students for higher education in the field of petroleum engineering and geosciences, which scheme shall be implemented through engagement of local/panchayat administration.