Margin gains for oil refiners amid Ukraine war-led energy price spike

RIL, MRPL and Chennai Petro stocks are up; BPCL, HPCL and IOC are weighed down over marketing margin concerns

As the Russia-Ukraine war goes well into its fourth month, the global energy markets remain in turmoil. While the prices of crude oil and natural gas have soared, so have gross refining margins (GRMs) for petroleum products.

This is an unusual situation. When crude oil and gas prices are high, refiners normally find it difficult to pass on the entire increase. However, the war has also resulted in the shutdown and sanctions of refining capacities and the lockdown in China also contributed to shortages in refined products. This has led to soaring refining margins.

In addition, data suggests that India’s imports of discounted Russian crude will rise considerably from around 1-2 per cent of all imports in calendar year 2021 (CY21) to over 15 per cent in the current quarter. This implies a discount of up to $30 a barrel in Russian oil versus the benchmark Brent – more likely, it will be a discount of around $15-20 a barrel, after high freight and insurance costs, which is still very substantial.

The impact on the Indian energy sector is complicated. Reliance Industries will be a clear gainer, since it can fully benefit from high refining margins (apart from being a producer though that is a small contribution). ONGC and Oil India (OIL) have been beneficiaries of the rise in crude and gas, since they are producers. Vedanta also gains as a producer, but the company’s profile is complicated due to its exposure to metals.
 

The standalone refineries such as Chennai Petroleum Corporation (CPCL) and MRPL have been major gainers. The oil marketing public sector undertakings (PSUs) such as HPCL, IOC, and BPCL have suffered, however, since whatever they gain on refining margins, they lose on the marketing margins since they are forced to sell at lower prices that may not necessarily be remunerative.

The supply chain issues could persist for an undefined period, which means there could be an unusual situation of high GRM and high crude and gas prices also persisting.

For RIL, assuming roughly 20 per cent of sourcing comes at discount via Russia, the GRM could rise by close to $3 a barrel.

According to an analysis by Morgan Stanley, a rise of $1 a barrel in GRM would imply a rise in consolidated full-year earnings per share (EPS) by 4 per cent for RIL. For BPCL, HPCL, and IOC, a rise of $1 a barrel would imply an increase of EPS by 14-16 per cent. However, every Rs 1-a-litre drop in marketing margin would also impact EPS negatively by between 25-40 per cent. Hence, GRM would have to rise by close to $3 a barrel to offset Rs 1-a-litre decline in margins. Since the recent excise cuts have been passed on and the companies have not passed on the rise in raw material costs, current marketing margins are extremely negative.

The market response to this has been quite clear. While CPCL has shot up almost 200 per cent in the last three months, and MRPL has also seen 125 per cent rise, BPCL and HPCL have seen double-digit declines.

IOC, which has a more favourable mix in terms of refining and retail marketing, has more or less seen its share price stagnate. RIL has gained around 20 per cent, while ONGC has declined around 10 per cent. OIL has risen 14 per cent and hit a new 52-week high recently.