Weaker rupee clouds the outlook for oil marketing companies

Indian Oil, Bharat Petroleum and Hindustan Petroleum, the three government-owned oil marketing companies (OMCs), have lost 31-46 per cent of their market capitalisation since the highs of 2017.

While this was partly due to higher global crude oil prices, softer refining and marketing margins did not help. The rupee’s recent fall is putting further pressure on Street sentiment, as import becomes dearer. This would translate to more working capital requirement for the OMCs, higher interest cost and more outgo on foreign-denominated loans. Further, the three would have to book foreign exchange (forex) losses, says Abhijeet Bora at Sharekhan.
The rupee’s slide comes when the Street is worried about the impact on the OMCs' marketing margins in 2019, given the slew of state elections and then the general election. In the previous election schedule in the second half of 2017, they were able to take limited price hikes; this might not be the case this time. Nitin Tiwari at Antique Stock Broking believes 2018-19 could be a challenge in terms of pricing/margins if crude oil prices stay firm. Even if these cool off, respite on the marketing side would be partly offset by inventory loss. (Tiwari, however, adds that the valuations remain inexpensive and return on equity is healthy).
So, the OMCs’ shares continue to trade weaker, despite a better than expected performance during the recent results season. The benchmark Reuters Singapore Complex gross refining margin (GRM) per barrel was down six per cent year-on-year (y-o-y) and 13 per cent sequentially; hence, refining margins were expected to be soft. However, the average Brent crude price increased 48 per cent yoy and 11 per cent sequentially, which led to inventory gain of 49-69 per cent, boosting their financials.
Forex losses could increase with the rupee’s weakening, fear analysts, even if the refining and marketing margins improve. Refining weakness is attributed to weak cracks, higher fuel cost and unfavourable crude oil differentials. Analysts at HSBC see these trends as transient and Indian refiners could benefit from an expected diesel margin up-cycle on the back of regulations. Marketing margins, while volatile, should gradually recover.

Capacity expansion and the newer and technologically advanced refineries could also drive refining margins further. Bharat Petroleum’s (BPCL’s) ramp-up at its Kochi refinery, for instance. Hindustan Petroleum (HPCL) is also committing to capital expenditure. HSBC says BPCL looks better placed to capture the refining upside, relative to HPCL, whose refinery modernisation programmes might deliver earnings only in 2021-22. Also, BPCL’s exploration portfolio becomes attractive at higher oil prices.

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