BPCL: Downgrade to Hold: Gov’t Policy Unclear; E&P Could Be Driver:: Citi

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Bharat Petroleum (BPCL.BO)
Downgrade to Hold: Gov’t Policy Unclear; E&P Could Be Driver
 Downgrade to Hold — We downgrade BPCL to Hold (2L) from Buy (1H) with
a TP of Rs746. Our downgrade is prompted by the fact that a transparent
subsidy sharing structure is still not in place, and there is a lack of clarity in
the Govt’s intent to fully compensate the OMCs for under-recoveries. At
current levels, the stock is already pricing in a significant probability of full
diesel deregulation, despite lack of clarity on timelines of the same.
 Risk adjusted TP of Rs746 — We value BPCL by evaluating its earnings
potential in an environment of nil losses, adjusted for probability by applying
a suitable risk-weightage, and base our TP on sum of: (i) 6x FY12E
EV/Ebitda in a base-case scenario of 1/3rd upstream sharing, 50% gov't
share, and diesel deregulation, (ii) 1.5x FY12E EV/Ebitda (i.e., 25%
probability) to incremental earnings in an upside scenario of nil net losses
(i.e., full compensation), and (iii) value of investments (Rs231/sh).
 BPCL better positioned vis-à-vis HPCL — In scenarios with uncertainty on
diesel deregulation and Gov’t share, we believe that BPCL is currently better
positioned than HPCL, as shown in Figure 6. Further, the E&P part of its
business could continue to provide positive newsflow and potentially become
a meaningful value driver over the medium term. Lastly, a refining recovery
also benefits BPCL more, especially with Bina ramping up in FY12E.
 E&P could be medium-term value driver — BPCL has announced 2
discoveries in offshore Brazil in block BM-C-30 (12.5% stake), with
estimated gross resource potential of 200 mmboe. The consortium has also
drilled another exploratory well in the block – Wahoo South – which is
currently under evaluation. Besides, BPCL has also announced two gas
discoveries (Windjammer and Barquentine) in one of its blocks in offshore
Mozambique in the Rovuma Basin (10% stake). It has also farmed into two
exploration acreages in the Perth Basin, which hold shale gas potential.
Since its still early days, we currently value BPRL (BPCL’s wholly owned
subsidiary) at the value of its investments (cRs15bn or Rs41/sh), which has
the potential to move up with further positive developments. For instance,
200 mmboe at Wahoo at US$6-7/bbl and 6 tcf at Rovuma Basin at US$3-
4/boe itself could potentially be worth ~Rs60-80/sh of BPCL.