Expect another robust quarter for downstream companies
New Delhi   12-Apr-2016
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We expect Q4FY16 to be another strong quarter for the downstream cos, particularly for the three oil marketing companies (OMCs), due to no inventory losses and strong diesel marketing margins. Low crude price will continue to hurt the upstream companies; production decline is an added worry for them. All three gas companies are expected to benefit to varying degrees from the Rasgas renegotiation which reduced LNG price by half.

Reliance (RIL IN, Buy) —Another strong quarter, though slightly down sequentially: We expect another strong quarter from Reliance led by refining with gross refining margins (GRMs) expected to be $10.5/bbl. While this is somewhat lower than the peak hit in Q3 of $11.5/bbl, this is still much higher than the last 5-year average of $8.6/bbl reported by the company. As usual, commentary on Reliance Jio, downstream projects and capex will be key.

BPCL (BPCL IN, Buy)/HPCL (HPCL IN, Buy)/IOCL (IOCL IN, Buy)—Three catalysts: Strong earnings, subsidiaries, balance sheet improvement. We expect lower inventory losses (both in refining and marketing) and higher diesel marketing margins (R1.6/l vs. R0.7/l in Q3) to drive sequentially better earnings for the three OMCs. Better performance in the subsidiaries vs. FY15 and further improvement in debt on balance sheet are likely to be additional catalysts. These remain our top picks in the oil & gas sector in India.

ONGC (ONGC IN, Buy)/Oil India (OINL IN, Hold)/Cairn India (CAIR IN, Hold)—Low crude price continues to hurt, production issues add to worries: With Brent averaging $35/bbl in Q4, we expect yet another weak quarter for the three upstream companies despite no subsidy share for ONGC and Oil India. In addition, data up to February points to decline in production of both crude and gas across all three companies. Oil India’s crude production decline is particularly worrisome in our view, as it suggests natural decline in what is effectively a single asset company.

GAIL (GAIL IN, Hold), Petronet LNG (PLNG IN, Buy)—Rasgas renegotiation should lead to much better quarter: Rasgas’ renegotiated contract which has reduced LNG price by half is a major positive factor for both GAIL and PLNG in Q4. For GAIL, we expect a significant improvement in petrochemical business earnings while for PLNG we expect it to show in lower energy costs and better volume visibility. Strong LPG prices despite the decline in crude price should also help GAIL.

Indraprastha Gas (IGL IN, Buy)—Expect better volume growth; recent gas price cut should help margins going forward: We expect stronger volume growth for Indraprastha Gas in Q4 due to pick-up in both CNG (aided by 15 days of odd-even restriction in Jan from which CNG cars were exempted and greater adoption of CNG by Ola/Uber cabs based on Supreme Court order) and PNG (on account of Rasgas renegotiation which should lead to some revival in industrial segment) volumes. While we expect a sequential margin contraction in Q4, the recent gas price cut should lead to a margin expansion in Q1—IGL has cut CNG price by Rs 0.6/kg vs. our estimate of Rs 2.5-3/kg.