Oil and Gas - OMCs, ONGC to benefit from price correction; ::Edelweiss

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Adjusting for higher-than-expected YTD FY12 crude prices, we have increased our (FY12) Brent price assumption to USD110/bbl. Moreover, in anticipation of higher supplies from both OPEC (Libya, Kuwait, Iraq) and non-OPEC (US), we have maintained our earlier, bearish crude prices for FY13 at USD95/bbl (Refer note ‘Higher crude supplies to keep prices in check’ dated Nov 29, 2011). We have also increased our long term crude price average to USD95/bbl (USD90/bbl) to incorporate higher fiscal breakeven for OPEC countries. Further, our economy team has increased the INR/USD assumption for FY12/13 to 48.0 against 46.0 earlier, to account for the recent depreciation. Consequent to changes, we have hiked EPS estimates for OMCs (HPCL, BPCL, IOCL) and CAIR (+5.4%). We have moderately lowered ONGC FY12 EPS to INR29.4. We note that OMCs and ONGC are beneficiaries of a correction in crude prices. Our top pick: ONGC, BPCL.

FY12 under-recovery at INR1301bn, upstream to share 46%

Higher crude prices and depreciated INR have increased FY12 and FY13 gross under-recoveries to INR1,301 bn (INR869 bn) and INR701 bn (INR565 bn) respectively. We now factor in FY12 upstream and GoI share at 46% each (INR 600 bn) with the remaining 8% being shared by OMCs. Our assumption implies that Govt will have to provide for another INR300 bn in FY12 in addition to INR300 bn approved by Parliament recently. At INR600 bn of upstream share, ONGC’s net realization comes at USD42/bbl. For FY13, we estimate upstream, Govt and OMC shares at 50%, 39%, and 11%, respectively.

ONGC attractive for stressed EPS, BPCL preferred among OMCs

ONGC: While we have cut FY12/13 EPS to INR 29.4/34.4, our FY12 earnings factor in net realization of USD42/bbl, the lowest in last six years. We believe that ONGC’s FY12 EPS is unlikely to fall significantly below INR30 which makes the stock trade at FY12E P/E of 9.0 – at the lower of the P/E band (9-11x), making the stock attractive. Maintain BUY/Sector Outperformer on the stock.

CAIR: While, the increase in our long-term crude price assumption to USD95/bbl has led to a hike in SOTP to INR320 (INR301 earlier), we see CAIR underperforming due to our bearish view on crude prices and lack of clarity on deployment of cash. MaintainHOLD/Sector performer rating on the stock.

OMCs: These companies are the best beneficiaries of a correction in crude prices due to the improvement in uncertainty related to under-recoveries. Our SOTP of BPCL, HPCL, and IOCL have gone up by INR 2-4/share. We like BPCL despite HPCL’s high leverage to correction in crude prices due to the ongoing low-return capex for HPCL (Euro IV) which is yet to be completed.