>CHENNAI PETROLEUM CORPORATION (EDELWEISS)

■ Highest-ever throughput; expansion-related shutdown from Q3FY10-end
Chennai Petroleum Corporation (CPC) posted its highest-ever throughput of 2.76 MMT (up 2.8% Q-o-Q and 20% Y-o-Y) in Q2FY10. Its Chennai refinery will undergo an expansion of 1.0 MMT in the near future. A shutdown of CDU-III (3.0 MMT) for the expansion is planned from December end for about two months, which will reduce throughput by ~0.5 MMT in H2FY10.

■ Inventory gains protect earnings; future expectations bleak
While operational GRMs have been nil-to-marginally-negative for low-complexity refiners like CPC, crude inventory gains due to rising crude prices have been shielding reported GRMs in the past two quarters (see Chart 2). Also, increase in auto fuel prices at the beginning of the quarter has resulted in product inventory gains (~INR 1.47 bn), which has further supported earnings in Q2FY10. With crude prices not expected to rise sustainably in the next quarter (a mild correction post the recent run up is anticipated), poor operational GRMs (bereft of inventory gains) could flow down to the bottom line in Q3FY10.

Bleak outlook for second half

■ Maintaining earnings estimates broadly; cash costs revised up
We have broadly maintained our earnings estimates for CPC. A marginal decline in bottom line due to increased cash costs (employee expenses primarily) has resulted in a 1-2% downwards revision in our earnings for FY10E and FY11E.

■ Outlook and valuations: Weak H2FY10 expected; maintain ‘REDUCE’
At CMP of INR 222/share, CPC is currently trading at 8.9x our FY10E EPS, 1.0x FY10E P/BV, and 6.4x FY10E EV/EBITDA. Hence, the stock appears priced in on all the various valuation parameters on comparison with global peers. We expect operating GRMs to sustainably resurrect earliest by FY12 (especially for relatively low complexity refiners like CPC) and the full impact of CPC’s Euro IV/SPM projects to improve reported GRMs only post FY12. Hence, we maintain our ‘REDUCE’ recommendation and rate the stock ‘Sector Underperformer’.

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