PL Sector Report: Oil & Gas - Sector Update – Uncertainties to hog OMCs

Oil & Gas - Swarnendu Bhushan - Co-Head of Research, Prabhudas Lilladher Pvt Ltd

Sector Update – Uncertainties to hog OMCs

Quick Pointers:

§ Refining margins anticipated to improve on the back of rising Singapore GRMs and discounted Russian crude benefit; however windfall taxes to limit the gains.

§ Already weak marketing margins likely to remain a concern amidst upcoming elections and uncertainty in crude prices.

Oil Marketing Companies (OMCs) reported a super normal profit of Rs 305 bn in 1QFY24, but failed to cheer up investors as the fate of OMCs remains tied to uncertain oil prices and inability to pass on prices to end consumers amidst upcoming elections. Due to rise in benchmark petrol and diesel prices, gross marketing margins of petrol and diesel stand at Rs5.5/-0.7/lit in Aug’23 till date compared with Rs10/12.7/lit in 1QFY24 and Rs10.1/7.4/lit in Jul’23. A rise of USD1/bbl affects gross marketing margins by ~50p/lit. Crack spreads of petrol and diesel, nonetheless have been rising from USD12.3/14/bbl in 1QFY24 to USD12.5/20.3/bbl in Jul’23 and USD13.4/30.2/bbl in Aug’23 till date, which would benefit their refining segment.

HPCL, BPCL and IOCL are trading at 0.9/1.2/0.8x FY24 PBV vs 10-year average of 0.9/1.5/0.7x. We do not see any respite in the companies due to above mentioned concerns over the near term. Accordingly, we recommend ‘Hold’ rating on all the stocks. Given highest marketing leverage, we value HPCL at 0.8x FY25 PBV with target price of Rs263. BPCL has witnessed de-rating due to continued delays in its upstream portfolio, so we value it at 1.1x FY25 PBV with a target price of Rs353. We value IOCL at 0.8x FY25 PBV and target price of Rs 97.

Marketing margins fall off the cliff: OMCs were making a blended loss of Rs 3.4/ltr in FY23 (margin of Rs 2.3/ltr on petrol and loss of Rs 5.9/ltr on diesel) on the back of high crude oil prices. Margins recovered substantially in Q1FY24 with a blended margin of Rs 11.9/ltr in Q1FY24. However, due to rise in benchmark petrol and diesel prices, margins have been on a downward trend with a gross marketing margin of Rs 5.5/ltr on petrol and loss of Rs0.7/ltr on diesel in Aug’23. We factor in normalized marketing margin of Rs3-3.5/ltr, owing to upcoming elections and uncertainty in oil prices.

Refining margins inch up: Average refining margins for the HPCL, BPCL and IOCL in FY23 came in at US$13.2/20.2/19.8/bbl in FY23. Reported GRMs in Q1FY24 stood at US$ 7.4/12.6/8.3/bbl respectively for HPCL/BPCL/IOCL aided by discounted Russian crude. Singapore GRMs have also recovered back sharply since July’23 and are currently at around US$12.1/bbl which would also help OMCs report strong GRMs in the coming quarters.

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