>India oil marketing companies: Some more government support, but still inadequate

A lower loss is still a loss
The government has agreed to provide an additional cash subsidy of INR140bn (in addition to the earlier announced INR120bn) to oil marketing companies (OMC) to partly fund losses incurred by the OMCs on the sale of controlled petroleum products – e.g., gasoline, diesel, LPG and kerosene – below market prices. While this is good news for OMCs, we do not believe this is enough.

Valuation
BPCL and HPCL: We value both BPCL and HPCL using a sum-of-the-parts valuation of the core refining and marketing businesses and investments. We use a combination of PE-based (50% weight) and EV/EBITDA-based (50% weight) multiples.

We use a target PE of 10.0x for BPCL and 9.5x for HPCL on the basis of the last six-month average. 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 INR50/share. As HPCL’s investments in E&P are still at an initial stage, we have not accorded any value to its E&P portfolio.

Risks
The most important risk to our Underweight (V) ratings for both stocks is a complete reimbursement of under-recovery amounts. The generic risks to our ratings include materially higher refining margins and lower oil price and dollar exchange rates, leading to lower under-recoveries than those assumed for our long-term forecasts. Key company-specific risks follow.

BPCL: BPCL is slated to commence production at its 6 MMtpa refinery at Bina during FY11. A faster ramp-up and earlier commissioning are risks. BPCL has an indirect 12.5% stake in a Brazilian oil field BC-30 which reported a discovery recently. We have ascribed about 2bn barrels (at 3P resource level) in place volume to this discovery. Discovery of significantly higher volume is a risk to our rating.

HPCL: We expect HPCL to commence production at its 9 MMtpa joint venture refinery at Bhatinda during FY12. Early commencement of production is a risk to our rating. Additionally, HPCL has invested in upstream exploration blocks. Significant success in these blocks could be an upward trigger for the stock price.

To read the full report: OIL MARKETING COMPANIES