Reliance, BPCL, HPCL, IOC in a multi-year re-rating and earnings upgrade cycle, says Morgan Stanley

Reliance Industries, Bharat Petroleum Corporation Ltd (BPCL), Hindustan Petroleum Corporation Ltd (HPCL) and Indian Oil Corporation Ltd (IOCL), the Indian refiners, are in a multi-year re-rating and earnings upgrade cycle and remain underappreciated even after the sector’s recent outperformance, analysts said. 

These companies are in the early days of this re-rating given tight fuel supplies and rising availability of challenged crude, foreign brokerage firm Morgan Stanley said in a report.

It believes these refiners are seeing multiples re-rate as investors reassess long-term growth prospects. Morgan Stanley pointed out four key factors driving the re-rating. 

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Firstly, India remains the fast-growing market globally for fuel demand with improved clarity on global fuel demand over the medium term as ICE vehicle demand remains strong. Secondly, hardware upgrades by refiners prior to Covid are now being reflected in earnings as the energy market becomes less volatile.

The third factor is the SOE reforms, which led to re-ratings in countries like China, Singapore and Korea, are now being reflected in India as well. Lastly, energy security and “behind the curve” capital allocation in new energy help maintain strong ROE, Morgan Stanley said.

“A well-supplied oil market, hardware upgrades, a ‘golden age” for fuel refiners globally, and potential upside from cross holdings will drive the next leg of earnings upgrades and multiples to levels only seen in 2014-2017,” said the report.

HPCL and IOCL, which were trading at a discount to BPCL for most of the past decade, are catching up as they showcase multiple triggers and clarity on earnings delivery by management. For Reliance Industries, the report said its NAV is starting to reflect energy upside.

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“In our view, RIL’s implied refinery multiples have re-rated by ~10% since last quarter. While there is also an element of the investment cycle being unwound, a large part is driven by the fuel business. Improving refining margins and their impact on deleveraging, along with clarity on margins due to limited windfall taxes on exports, are all falling in line,” the report added.

Morgan Stanley believes the re-rating will be followed by an earnings upgrade cycle.

In the past three months, Reliance share price has risen more than 22%, HPCL shares have jumped over 96%, IOCL shares have rallied over 77%, while BPCL shares have gained over 61%.

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