>India oil marketing companies: HPCL & BPCL (MACQUARIE RESEARCH)

Ministry confirms fear
Our fears that OMCs may have to bear a part of losses on the sales of transportation and cooking fuels seem to be materialising.

The Secretary of Ministry of Petroleum and Natural Gas, India (MoPNG) confirmed today that oil marketing companies shall bear a part of losses incurred on the sales of transportation fuels like gasoline and diesel. This differs from the MoPNG’s previous stance that Government-owned upstream companies would bear 100% of the losses from the sales of transportation fuels and the Government would bear 100% of the losses on sales of cooking fuels.

Separately, the Government has in the meantime agreed to pay only INR120bn towards losses on sales of cooking fuels against demand of cINR200bn, implying that OMCs are likely to bear a part of losses on sales of cooking fuels as well. Focus therefore is changing to the “bearing ability” of various stakeholders. This is in line with our expectation that OMCs shall bear a part of the losses (please refer to our report titled, Oil Marketing Companies HPCL & BPCL: worse days ahead, dated 15 January 2010).

Our forecast continues to be below consensus. Our FY12e EPS is lower than consensus by 42% for BPCL and 46% for HPCL. This is despite factoring in the impact of an increase in the regional benchmark margin (cracking) to USD4-5/bbl from the current USD2/bbl and expansion of refining capacity by both BPCL and HPCL by about 30% each by FY12e.

Take profit on HPCL and BPCL: We recommend taking profits on HPCL and BPCL. Our target price for HPCL is INR280 and for BPCL INR552.

UW(V): Under-recovery fears seem to be materialising

■ Ministry confirms that oil marketing companies (OMCs) shall be sharing losses on sales of transportation fuels

■ Shortfall in government payout towards its share of cooking fuel losses indicate that OMCs are likely to bear part of losses on sale of cooking fuels as well

■ FY12e EPS 40-50% below consensus; remain UW(V) with TP of INR280 for HPCL and INR552 for BPCL

Valuation and risks
We value OMCs using a sum-of-the-parts valuation of their core refining and marketing business and investments. We value core refining and marketing business using a combination of PE (50% weight) and EV/EBITDA (50% weight) multiples.

We use target PE of 10.0x for BPCL on the basis of the last 6 month average. Historically, BPCL has traded at a premium to HPCL on PE multiples, mainly on account of 10-12% lower under-recoveries per barrel of throughput. This is due to the fact that BPCL has higher refining cover than HPCL. But we expect HPCL’s multiple to come closer to BPCL’s due to commissioning of its Bhatinda refinery and implementation of various upgrade projects. Hence, we target PE of 9.5x for HPCL. We value listed investments at market price and others at book value. We use a target EV/EBITDA multiple of 5.5x for HPCL and BPCL.

We also value BPCL’s E&P portfolio at INR39/share, valuing its discovery in the block CM-30-101 in Brazil at USD160m based on our initial estimate of 2bn bbl of resources, 25% recovery factor, 50% risk weight and USD5/bbloe valuation and valuing BPCL’s investments in nine blocks in India and five blocks in Australia, Oman and UK at cost. As HPCL’s investments in E&P are still at an initial stage, we have not accorded any value to HPCL’s E&P portfolio.

To read the full report: HPCL & BPCL