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Energy
India
Numbers reveal a lot. We are encouraged by the sharp decline in gross underrecoveries
in July 2011 reflecting the twin benefits of (1) higher retail prices and
(2) lower duties on regulated products. Earnings of upstream companies will benefit
significantly from the decline in subsidy burden. The lower under-recoveries will also
improve the sentiment for downstream companies due to enhanced earnings visibility
although it may not directly impact their earnings.
Decline in gross under-recoveries positive for oil sector
Exhibit 1 shows the actual monthly gross under-recoveries for the first four months of FY2012 and
depicts a sharp decline in the gross under-recoveries to `73 bn in July 2011 from `151 bn in April
2011 and `125 bn in June 2011 despite a similar level of crude oil prices, reflecting the full benefit
of (1) the increase in domestic retail prices of regulated products and (2) cuts in excise and
customs duties on June 24, 2011. The decline in under-recoveries is in line with our expectations.
We estimate gross under-recovery of `1.04 tn for FY2012E at assuming crude oil (Dated Brent)
price US$110/bbl. We note that the gross under-recoveries were at `435 bn in 1QFY12.
Net crude price realizations set to improve for ONGC and OIL
The lower under-recoveries at similar levels of crude prices will result in improvement in net crude
price realizations for ONGC and OIL. We estimate net crude price realizations for ONGC and OIL to
improve to US$61.3/bbl and US$73/bbl for FY2012E from US$48.8/bbl and US$59.6/bbl in
1QFY12. The improvement in net realizations is despite assuming a higher subsidy sharing for
upstream companies at 39% for FY2012E versus 33.33% in 1QFY12. There has been some
skepticism about our assumption of a yoy increase in net realizations for upstream companies.
However, we would like to highlight the steady increase in net realization for ONGC from US$35-
45/bbl in FY2005-07 to US$45-55/bbl in FY2008-10. Exhibit 2 and 3 shows the historical net crude
price realizations for ONGC and OIL as well as our estimates for FY2012-14E.
Strong EPS growth for upstream companies even on assuming a conservative scenario
We currently work on the assumption that upstream companies will bear 39% of the gross underrecoveries.
Our assumption is based on the actual share of upstream companies in FY2011. There
has been some skepticism about the upstream companies being asked to pay a higher subsidy
burden in FY2012E in light of likely high gross under-recoveries; we estimate `1.04 tn. However,
we remain confident of our investment thesis given a strong growth in EPS for ONGC to `34
(+36% yoy) and OIL to `135 (+13% yoy) in FY2012E even in a scenario of net realizations of
upstream companies being kept at FY2011 levels (see Exhibit 4). On the other hand, we would
highlight the potential upside to our earnings assumption and fair value for ONGC and OIL if the
subsidy burden on upstream companies is restricted to 33.33%.
Improved earnings visibility for downstream oil companies
We note that earnings of oil marketing companies (OMCs) depend on the net under-recoveries to
be borne by them which, in turn, depend on the compensation from the upstream companies and
the government. Thus, the decline in gross under-recoveries in the system may not result in higher
earnings for the downstream companies. However, we do expect improved investment sentiment
for BPCL, HPCL and IOCL from enhanced earnings visibility in a scenario of a decline in gross
under-recoveries in the system. We assume net under-recovery of `74 bn for the OMCs for
FY2012E versus `69 bn in FY2011 and `56 bn in FY2010
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Energy
India
Numbers reveal a lot. We are encouraged by the sharp decline in gross underrecoveries
in July 2011 reflecting the twin benefits of (1) higher retail prices and
(2) lower duties on regulated products. Earnings of upstream companies will benefit
significantly from the decline in subsidy burden. The lower under-recoveries will also
improve the sentiment for downstream companies due to enhanced earnings visibility
although it may not directly impact their earnings.
Decline in gross under-recoveries positive for oil sector
Exhibit 1 shows the actual monthly gross under-recoveries for the first four months of FY2012 and
depicts a sharp decline in the gross under-recoveries to `73 bn in July 2011 from `151 bn in April
2011 and `125 bn in June 2011 despite a similar level of crude oil prices, reflecting the full benefit
of (1) the increase in domestic retail prices of regulated products and (2) cuts in excise and
customs duties on June 24, 2011. The decline in under-recoveries is in line with our expectations.
We estimate gross under-recovery of `1.04 tn for FY2012E at assuming crude oil (Dated Brent)
price US$110/bbl. We note that the gross under-recoveries were at `435 bn in 1QFY12.
Net crude price realizations set to improve for ONGC and OIL
The lower under-recoveries at similar levels of crude prices will result in improvement in net crude
price realizations for ONGC and OIL. We estimate net crude price realizations for ONGC and OIL to
improve to US$61.3/bbl and US$73/bbl for FY2012E from US$48.8/bbl and US$59.6/bbl in
1QFY12. The improvement in net realizations is despite assuming a higher subsidy sharing for
upstream companies at 39% for FY2012E versus 33.33% in 1QFY12. There has been some
skepticism about our assumption of a yoy increase in net realizations for upstream companies.
However, we would like to highlight the steady increase in net realization for ONGC from US$35-
45/bbl in FY2005-07 to US$45-55/bbl in FY2008-10. Exhibit 2 and 3 shows the historical net crude
price realizations for ONGC and OIL as well as our estimates for FY2012-14E.
Strong EPS growth for upstream companies even on assuming a conservative scenario
We currently work on the assumption that upstream companies will bear 39% of the gross underrecoveries.
Our assumption is based on the actual share of upstream companies in FY2011. There
has been some skepticism about the upstream companies being asked to pay a higher subsidy
burden in FY2012E in light of likely high gross under-recoveries; we estimate `1.04 tn. However,
we remain confident of our investment thesis given a strong growth in EPS for ONGC to `34
(+36% yoy) and OIL to `135 (+13% yoy) in FY2012E even in a scenario of net realizations of
upstream companies being kept at FY2011 levels (see Exhibit 4). On the other hand, we would
highlight the potential upside to our earnings assumption and fair value for ONGC and OIL if the
subsidy burden on upstream companies is restricted to 33.33%.
Improved earnings visibility for downstream oil companies
We note that earnings of oil marketing companies (OMCs) depend on the net under-recoveries to
be borne by them which, in turn, depend on the compensation from the upstream companies and
the government. Thus, the decline in gross under-recoveries in the system may not result in higher
earnings for the downstream companies. However, we do expect improved investment sentiment
for BPCL, HPCL and IOCL from enhanced earnings visibility in a scenario of a decline in gross
under-recoveries in the system. We assume net under-recovery of `74 bn for the OMCs for
FY2012E versus `69 bn in FY2011 and `56 bn in FY2010
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