Rising crude, uncertainty ahead of elections keep analysts wary on OMCs

Analysts say the already weakening marketing margins will be a concern ahead as the fate of OMCs remains tied to uncertain crude prices and the inability to raise prices amid the coming elections

Notwithstanding the robust turnaround in the financial performance for the June quarter (Q1FY24), stocks of state-run oil marketing companies have been in a downtrend in the last month. The fall comes on a rise in crude oil prices that have surged to a 7-month high of $88 a barrel.

A busy political calendar in the months ahead that may see the government keep a lid on auto fuel prices is also a dampener, analysts said.

Shares of Hindustan Petroleum (HPCL), Bharat Petroleum (BPCL) and Indian Oil (IOC) have shed 9-11 per cent since their respective earnings announcement between July 26 to August 4 .

The near-term outlook for the stocks remains cloudy as the recently announced government subsidy on LPG cylinders has heightened the market’s fear of more such measures for other products such as petrol and diesel, analysts said, suggesting to avoid the stocks in the near term. 

“Following the cut in LPG cylinder price, the government may introduce more such subsidies for auto fuels, which is not being seen positively by the markets. If a part of such a subsidy has to be borne by OMCs, it will hurt their financials. This risk element is creeping into the stocks, so from a tactical point of view, short-term investors can remain underweight on this space,” said Mahantesh Sabard, an independent market analyst.   

The already weakening marketing margins will likely be a concern ahead as the fate of OMCs remains tied to uncertain crude prices and the inability to raise retail prices amid the busy election calendar, experts say. 

“After making supernormal profits in Q1FY24, we expect OMC earnings to normalize in coming quarters as marketing margins have begun falling again with the rise in benchmark petrol and diesel prices. OMCs are estimated to make a margin of Rs 3-3.5 per litre ahead given the upcoming elections and uncertain crude prices,” said Swarnendu Bhushan and Payal Shah of Prabhudas Lilladher in a note. 

As per the note, the gross marketing margin on petrol has slipped to Rs 5.5 a litre, while it turned negative (Rs -0.7 a litre) on diesel in August as compared to Rs 10.1 and Rs 7.4 a litre, respectively, in July. 

An increase of $1 per barrel affects OMC's gross marketing margins by 50 paise per litre, it noted. 

Refining margins a relief

OMCs saw their profits swelling in the June quarter due to strong marketing margins even as lower refining margins weighed on their top line. 

Due to the decline in crude, HPCL, BPCL and IOC’s gross refining margins (GRMs) fell to $7.4, $12.6 and $8.3 per barrel, respectively in Q1 FY24 from $16.7, $27.5 and $31.8 a barrel in the year-ago period. 

But the current silver lining for the companies remains a swift recovery in the GRMs, analysts said. 

Refining margins are anticipated to improve on the back of rising Singapore GRMs and discounted Russian crude benefits. Singapore GRMs have recovered sharply since July, currently at around $12.1 per bbl, as per Prabhudas Lilladher note.  

Thus, while short-term volatility will persist, investors willing to look beyond the election cycle can remain invested in the stocks amid low valuations, experts say. 

“OMCs generally recover marketing margins over a period of time. These were meaningfully higher till recently to make up for losses last year. Looking at the business in totality, refining profitability is high and to an extent can make up for weakness in marketing. So, other than short-term events, strength in the refining cycle, deleveraging of balance sheets, discounts on crude from Russia and attractive valuations should be other factors to consider before taking an investment call,” said Sandip Bansal, Associate Director at ASK Investment Managers.