Upstream oil PSUs lubed up for stronger Q1 earnings

Downstream refiners could see a moderation in earnings, led by weaker refining margins and possible forex losses

India's upstream public sector oil companies are likely to report stronger earnings on the back of higher crude realisations in the quarter ending June 30, 2015. Downstream refiners, however, could see a moderation in earnings led by weaker refining margins and possible foreign exchange (forex) losses.

Brent crude, a benchmark for half the world's oil, averaged out 15 per cent higher at $62 per barrel (bbl) during the first quarter ended June compared to $54 per barrel in the previous quarter (fourth quarter of last financial year). The Indian basket of crude oil also averaged higher at $61.5 per barrel, up from $52.9 per barrel in the previous quarter.

"Upstream public sector undertakings (PSUs), including Oil and Natural Gas Corp (ONGC) and Oil India (OIL) could report a sequentially stronger first quarter led by better crude realisations of $57 per barrel as compared to realisations of $55 per barrel in the fourth quarter FY15," said Nitin Tiwari, analyst at equity research firm Religare in his latest report.

The improved realisations are on account of higher average gross crude oil prices during the quarter, and also because the government is likely to bear the entire liquefied petroleum gas (LPG) subsidy and kerosene subsidy to the extent of Rs 12 per litre, leaving the upstream firms to bear only a marginal burden of Rs 1,200 crore.

The three oil marketing companies (OMCs) suffered gross under-recoveries (GURs) of around Rs 8,900 crore during the first quarter on subsidised sales of petroleum products. This includes Rs 5,100 crore for LPG sales and Rs 3,900 for kerosene. Thanks to the historic drop in global crude oil prices since June last year, the Centre has exempted the upstream firms from bearing the subsidy burden for LPG.

The government is expected to fix its share of subsidy burden at Rs 12 amounting to a total of Rs 2,700 crore in the April-June 2015 quarter. The upstream companies would have to shell out Rs 1,200 crore as their share of the burden at Rs 4 a litre. This includes Rs 1,000 crore to be paid by ONGC and the rest Rs 200 crore by OIL.

For OMCs, analysts say there will be inventory gains accruing from the increased average crude prices, which will offset forex losses due to "unfavourable cross-currency movements". "Refining margins have remained firm through the first quarter, but they were led by expansion in gasoline spreads from $12 to $15 per barrel. "As the product slate of domestic refiners is biased towards middle distillates (where spreads have corrected) they are unlikely to benefit from the strength in gasoline spreads," Religare said.

Going forward, the ongoing decline in crude prices in July will turn out to be a positive for OMCs as their working capital requirements would reduce due to lower crude oil and product prices and lower GURs. According to research and ratings agency ICRA, the companies could save up to Rs 65,000 crore on crude imports in the current financial year, if the average Indian basket price of $60 per barrel observed in the first four months is sustained, as compared to the original estimate of $70 per barrel.

"OMCs' economic moat is widening led by scope for meaningful increase in marketing margin and profitability, slower ramp-up by private marketers, high volume growth led by GDP boost and improving balance sheets," another research firm Motilal Oswal said in its recent report. These factors could lend greater sustainability to earnings.