Soaring crude oil prices during the second quarter of FY09 increased Indian Oil Corporation’s (IOC’s) losses, mainly because it could not pass on the rise in prices to its end users.
However, the trend has almost reversed because of the sharp downtrend in the prices of crude oil in the last couple of months.
The slump in prices has helped the company’s cause significantly, even though the appreciation of the dollar wiped out some of the crude price benefits. With international crude oil trading below our estimated break-even point for the OMCs, IOC’s future prospects look profitable indeed.
We believe that the company’s results for the forthcoming quarters will improve further as the dollar is expected to depreciate in the near-to-medium term.
The upcoming general elections, on the other hand, may threaten to spoil the party for the OMCs because the issue of inflation is a key item on the voter’s agenda and the ruling coalition may attempt to woo the voters by reducing the prices of petroleum products in the upcoming quarter.
However, with the inflation rate in single digits and still trending downwards, we do not expect any significant reduction in the retail prices. Nonetheless, we have factored an average price cut of Rs2.5 in our estimates.
We have revised our estimates to incorporate the recent fall in crude prices and the depreciating rupee, and we believe that IOC will be able to generate profits in the current scenario.
Based on our relative valuation, we have arrived at a fair price value Rs479, implying an upside potential of 17%. Thus, we have upgraded our rating on the stock from Hold to BUY.