Sector Update | 8 June 2020
Oil & Gas
Oil & Gas
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The return of retail price hikes for OMCs
Priming a new way to look at CGDs
The oil marketing companies (OMCs) - for the first time since 14th Mar'20 - have taken
a total retail price hike (over the weekend) of INR1.2/liter on both petrol and diesel,
which is in line with the change in global prices. Consequently, retail prices of
petrol/diesel (in Delhi) now stand at INR72.5/INR70.6/liter.
According to our margin calculation, after the hike, gross marketing margins for petrol
and diesel now stand at INR2.1/liter and INR1.5/liter (up ~INR0.1/liter over last week).
This is in line with our thesis that marketing margins would get normalized over the
long term and the OMCs would not compromise their profitability.
However, GRMs are expected to remain subdued in the short term. Refiners in India
are likely to report inventory gain in 1QFY21 v/s huge inventory loss in 4QFY20. This,
despite the discounts over Official Selling Prices (OSPs) vanishing.
OMCs are trading at 0.7-1.9x FY22E PBV, much less than 1.0-2.7x during FY15-18, a
period of perfect deregulation (i.e. without any pricing intervention by the
government).
We value IOCL at 1.2x FY22E PBV and reiterate it as our top pick due to the free cash
flow generation of ~INR17/share (~18% of market-cap) cumulative for FY21-22E.
Threat to marketing margins; our belief – unjustified
Crude oil prices – Low not for long
Prior to the excise hike the last month, the OMCs were making ~INR17-19/liter
of gross marketing margins (normally at ~INR3/liter) on auto fuels.
Although volumes were much lower than normal, the higher marketing margins
more than made up for the loss in volume, and partially for the huge inventory
loss of the OMCs.
OMCs passed on the VAT hikes taken by the states in full to the end consumers;
however, they did not pass on the excise hikes to the end consumers.
Due to the recent rally/recovery in crude prices, gross marketing margins had
shrank to <INR2/liter as the OMCs have not taken any prices hike.
However, our belief was that such low marketing margins are irrational (such
as were the high marketing margins of INR15-17/liter in Apr’20) and would
definitely normalize again to a sustainable level for the full year.
OMCs have finally started reacting to changes in benchmark prices. Our
assumption for gross marketing margin of INR3.3/liter remains unchanged
with net margin at INR1.5/liter for FY21/22E.
Symmetry between refining and marketing
As economies gradually emerge out of the lockdowns, refiners were the first to
ramp up utilization rates, and thus, their output. We saw Chinese oil refiners
ramping up utilization rates to (~76% in May’20 from 39% in Feb’20). US refinery
rates have also revived from the trough to 71.8% in the last week.
Further, Indian refiners also appear to have ramped up their utilization over the
last few days. In Apr’20, total refinery utilization in India stood at 70%, with
utilization of IOCL and BPCL’s refineries at 52-63%
(which have been ramped up
to 80-83% currently),
and robust utilization from HPCL and RIL’s refineries at 83-
92% respectively. While petroleum product
demand in India is still down 30-
50% YoY, it is expected to ramp up soon.
Swarnendu Bhushan- Research Analyst
(Swarnendu.Bhushan@MotilalOswal.com); +91 22 6129 1529
Sarfraz Bhimani - Research Analyst
(Sarfraz.Bhimani@MotilalOswal.com); +91 22 6129 1566
8 June 2020
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