Home / Markets / Mark To Market /  Margins improve, but demand concerns persist at oil marketing firms

Gross refining margins (GRMs), a measure of profitability for oil refining companies, remained subdued since the onset of the pandemic last year. For perspective: during FY19, FY20 and FY21, GRMs averaged at $4.9 a barrel, $3.2 a barrel and $0.7 a barrel, respectively. Indeed, the declining trend has been a cause for concern.

State-run oil marketing companies (OMCs), which refine crude oil and are engaged in the marketing of auto fuels and other petroleum products, have seen weak GRMs impact their earnings in the recent past. This is despite the fact that marketing margins have remained firm.

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OMCs include Bharat Petroleum Corp. Ltd, Hindustan Petroleum Corp. Ltd and Indian Oil Corp. Ltd.

Nevertheless, there is some ray of hope now. The benchmark Singapore GRM has been showing some signs of improvement. “Singapore GRM has improved to $2.4 per barrel in April 2021 (to date) after posting lows of $0.7 per barrel in FY21," said analysts at Motilal Oswal Financial Services Ltd in a note on 20 April. There has been an improvement largely in petrol crack spreads which, as per the brokerage firm, is on the back of the commencement of the driving season in the US, the largest consumer.

Notably, benchmark Singapore GRMs had averaged at $1.8 a barrel in Q4FY21. For Indian refiners, spreads of gas oil, petrol and jet fuel are more important, said analysts at ICICI Securities Ltd.

Spreads of all three products saw sequential recovery last quarter. Besides, in Q4, the GRM is expected to be supported by inventory gains (carrying forward lower-priced inventories during the rising crude oil price environment).

While OMCs may have benefited from inventory gains, higher crude prices do not bode well for the companies, as it would lead to a rise in working capital requirements and increase the risk of marketing margins coming under pressure. But what offers comfort is that, after rising continuously, crude oil prices are softening and it should bring respite to the OMCs.

Brent crude oil futures, after having crossed $70 a barrel levels in March, are now trading close to $65 a barrel. “With increased oil supply, we expect Brent to soften to $50-60 a barrel, which would provide further leeway to OMCs to maintain healthy margins for auto fuels," Motilal Oswal analysts said.

While all of this augurs well, rising covid cases is a threat to demand for auto fuels, after having rebounded to pre-covid levels in March. Now, analysts see a risk from a fresh set of curbs to control the pandemic. The movement restrictions, including lockdowns, will have a bearing on the demand for petroleum products in the near term, said analysts.

“It is difficult to assess the possible quantum of the impact of mobility restrictions imposed by several states on OMCs; however, a fall of 15-20% in demand cannot be ruled out, which can weigh on the June quarter performance on a sequential comparison," said Binod Modi, head of strategy, Reliance Securities Ltd. Additionally, weakness in the Indian rupee can also impact the marketing margins of OMCs.

Given these issues, it is not surprising that despite some green shoots, shares of OMCs have corrected 7-16% since their March highs.

Having said that, the privatization of BPCL remains a key re-rating trigger for OMCs and the progress on the same should be closely watched.

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