Despite Brent crude at $115 a barrel, shares of oil marketing companies (OMCs) Indian Oil Corp Ltd (IOCL), Hindustan Petroleum Corp Ltd (HPCL), and Bharat Petroleum Corp Ltd (BPCL) held up better than the broader market during Monday’s selloff. Markets see the government’s ₹10-per-litre excise duty cut from Friday as exactly what the doctor ordered for a sector staring at steep under-recoveries: ₹26 per litre and ₹82 per litre for petrol and diesel, respectively.
The policy move could cost the exchequer nearly ₹14,000 crore in revenue per month. But it has shifted the breakeven crude price for OMCs refining and retail operations from about $90 a barrel earlier to roughly $106 a barrel now if retail prices of petrol & diesel stay unchanged, said a report by CareEdge Ratings. That is a decent cushion, given crude’s jump from about $70 to $115 a barrel this month.
That said, exports, which had provided respite amid indirectly capped domestic pump prices, have become less lucrative. Export duties of ₹21.5 a litre on diesel and ₹29.5 a litre on aviation turbine fuel (ATF) have been imposed to ensure domestic fuel availability, and partially offset revenue losses to the government. Reports suggest that Reliance’s SEZ refinery is likely to be left out of the duty net. The stock held up better than those of OMCs on Monday.
Stress remains
But all this just means the excise adjustment has only reduced OMCs’ stress, not eliminated it. According to a report by JM Financial Institutional Securities, “at spot Brent of around $111/bbl, OMCs auto-fuel integrated gross margin is still ~ ₹15/litre below historical level (at negative ₹2.5/litre versus historical average of positive ₹12.5/litre); this is likely to result in decrease in OMCs book value by 3.4% to 7% per month.” Similarly, Emkay Global Financial Services’ estimates suggested OMCs' under-recoveries may have declined from ₹29-45 a litre to ₹17-28 a litre, but remain far from sustainable if crude stays elevated.
This is particularly true now that special additional excise duties have been brought down to ₹3 a litre for petrol and nil for diesel, leaving little room for further policy support on this front. Agriculture infrastructure and development cess (AIDC) and road and infrastructure cess (RIC) can be reduced, but they are already low at ₹2-5 a litre, so they won’t move the needle as much.
Sure, OMCs had raised prices of bulk diesel and premium petrol earlier this month. But these constitute a small portion of their sales, with retail pump sales making up the lion’s share. Retail fuel price hikes remain an available lever, but only after state elections. Meanwhile, the excise-cut safety valve has managed to buy the sector time, even as markets remain hopeful of a timely end to the war-led crude spike.
At current levels, valuations for HPCL, BPCL and IOCL are already trading near or below their recent historical averages, according to Motilal Oswal Financial Services’ estimates, suggesting that much of the near-term stress may already be priced in.
Upstream winners
Interestingly, the biggest structural beneficiaries of the policy shift are upstream oil companies. Unlike refiners, no windfall tax has been imposed on upstream producers, which strengthens earnings visibility for Oil and Natural Gas Corp. Ltd (ONGC) and Oil India Ltd as higher crude prices aid realizations. While ONGC’s subsidiary HPCL operates downstream in the oil value chain, and Oil India too has downstream exposure through its subsidiary Numaligarh Refinery, their businesses are primarily upstream. ONGC stock was among the few patches of green on Monday.