Fitch Lower Risks for Credit Metrics of Indian Oil Marketing Companies

The sustained strength of marketing margins and recovering demand for petroleum products is supporting the profitability of India's oil marketing companies against weak gross refining margins (GRMs), thereby lowering downside risks for their credit metrics, according to Fitch Ratings.

Petroleum product sales at Indian Oil Corporation Ltd (IOC), Bharat Petroleum Corporation Ltd (BPCL) and Hindustan Petroleum Corporation Ltd (HPCL) surged by 22 to 23 per cent in the third quarter of the financial year ending March 2021 (3Q FY21) from the previous quarter with domestic transportation fuel demand recovering to near-normal levels, barring aircraft fuel, and marketing margins on auto fuel sustained at above pre-pandemic levels.

However, reported GRMs dropped due to lower inventory gains, and the improvement in underlying GRMs was limited by weakening product cracks and increasing crude oil prices.

IOC reported a 3Q FY21 GRM of USD2.2/barrel versus USD8.6 in 2Q FY21, BPCL reported USD2.5 versus USD5.8 and HPCL reported USD1.9 versus USD5.1. However, core GRMs excluding inventory gains were lower at USD1.2 for IOC, USD1.2 for BPCL, and negative USD1 for HPCL.

"We expect above long-term average marketing margins from FY22 which should aid GRMs in the short term, partly recover past refinery investments and fund new investments over the medium term. GRMs are likely to rise to around USD3.7 to 4 per barrel in FY22 from USD2 to2.5 in FY21 on a better demand-supply balance as the economy recovers."

Fitch forecast net leverage at IOC as measured by net debt/EBITDA to fall to below 3.5x and be adequate for its standalone credit profile of bb-plus from FY21 as strong volume and marketing margins are supported by its petrochemicals diversification.

Its 3Q FY21 segment EBITDA increased by 61 per cent quarter-on-quarter to Rs 2,000 crore. IOC intends to maintain operational control of its pipelines even post part monetisation, should it choose to do so, given the pipelines' vital role in its integrated business model. IOC owns around 14,600 km of crude and product pipelines.

Fitch expects BPCL's net leverage including full consolidation of Bharat Oman Refineries Ltd to be lower over FY21 to FY22 than its previous estimates, albeit slightly above the level where it will consider revising the standalone credit profile downwards.

BPCL has finalised commercial terms to purchase Oman Oil Company's 36.62 per cent stake in its Bina refinery for Rs 2,400 crore in cash. BPCL intends to sell its 61.65 per cent stake in the Numaligarh refinery to a consortium led by Oil India Ltd and the state of Assam during FY21, an important pre-condition for the government's planned BPCL divestment.

Fitch expects HPCL's credit metrics including the proportionate consolidation of subsidiary HPCL-Mittal Energy Ltd to remain above the levels appropriate for its standalone credit profile of bb during FY22. HMEL's inclusion adds around 0.8x to HPCL's FY22 leverage, higher than our previous estimate of 0.6x. Excluding HMEL will see HPCL's leverage at the same level as the negative sensitivity of its standalone credit profile.

Fitch said its expectations are subject to the risks of persistently weak industry conditions or capex and shareholder returns that are higher than its forecasts.

"We believe the central or state governments may reduce fuel taxes to support affordability if crude oil prices remain at around USD60 per barrel or continue to rise."

Fitch said the capacity to reduce taxes will be supported by the recovery in fuel sales and other government income sources, like the GST, to almost pre-pandemic levels.

"We believe state interference in fuel prices if any will be temporary and limited as it can affect the government's plan to divest BPCL.