Cloud of uncertainty over OMC stocks

 
 

The war in Ukraine has led to a spike in oil and gas prices. Further price increases are likely in event of any physical supply disruption. Even otherwise, supply will be tight and prices will remain elevated for an undefinable period.

Russia’s crude oil production has been around 10 million barrels per day (b/d) and it has averaged exports of 4.7 million b/d for the past six months. The EU, the US, and the UK have not directly imposed sanctions on Russian energy exports but sanctions will impact the banking system, and hinder industrial operations. Opec+ nations on Wednesday decided to stick to its plans for a modest output rise in April, ignoring the Ukraine crisis and snubbing calls from consumers for more crude even as crude prices rocketed higher.

Higher prices may lead to bumper profits for ONGC, Oil India, and Vedanta because all the three are producers. It will negatively impact India’s trade account and lead to inflation. It may lead to higher global coal prices, as substitutions arise. The share price movement in Coal India reflects that.

Higher energy prices will impact many downstream sectors negatively. Paints, chemicals, and petrochemicals will see rising input costs. And so will the fertiliser and energy-intensive industries (metals producers), and transporters.

What happens to public-sector oilmarketing companies (OMCs), such as BPCL, HPCL, and Indian Oil Corporation (IOC), in a scenario of a steep price increase? They have not been allowed to pass on cost escalation through February and March against the backdrop of the assembly elections. Everyone is anticipating a large hike in petrol, diesel, aviation fuel, and gas (CNG/LPG) prices after March 10.

The government could consider cutting its own direct revenues by reducing cess and taxes, while allowing OMCs to hike retail prices. It may also ask OMCs to absorb cost increases, perhaps offering compensation via the oil bond mechanism for under-recoveries.

OMCs are estimated to be absorbing under-recoveries on LPG since October 2021 and the rate of underrecovery will increase in April when the refinery cost per cylinder is likely to rise by least 65 per cent. Although cylinder prices were increased by approximately 11 per cent in March, this only compensates for asimilar 11 per cent cut in January. They have absorbed under-recoveries on petrol and diesel through February onwards as retail prices were frozen.

Refining margins will fall for OMCs, though obviously, they will hurt more financially if the government places the entire underrecovery burden on them. To some extent, under-recovery can be masked in Q4 results since OMCs will be able to book large profits on inventory gains on crude and gas bought earlier at lower prices. But as inventory is mopped up, that cushion will not be there in the future.

The share price trends reflect the market’s pessimism about this situation. BPCL has lost 13.5 per cent in the past 30 days and it is down 25 per cent in the past year. The disinvestment of BPCL will have to be postponed until the energy sector stabilises because there will be no taker for it in the current scenario. IOC has lost 10.2 per cent in the past month, though it is still ahead 11 per cent for the year. HPCL (where ONGC owns the majority stake) has lost 15 per cent in a month and it is up 7 per cent in the past year.

HPCL SENSEX IOC

160 140 120 100 80 60 Mar2,‘22 Mar2‘21

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BPCL

https://www.business-standard.com/article/companies/amid-ukraine-crisis-uncertainty-clouds-weighing-down-on-omc-stocks-122030201346_1.html

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