May 20, 2011|
Fuel price deregulation - Reading the fine print
The long wait could finally be approaching its end as Government decides whether or not to go for diesel deregulation. The stakes are high and diverse. Needless to say, the worst blow will be borne by end user, be it a normal price hike or deregulation. Let us take a look at the possible actions/policies ahead and what they imply for other stakeholders.
The total under recoveries reported by Oil marketing companies (OMCs) stand at around Rs 780 bn for FY11. The Government has announced a relief of Rs 410 bn. That leaves Rs 380 bn. Assuming upstream (companies involved in Exploration and Production like ONGC) share one third, it will leave around Rs 100 -Rs 110 bn to be borne by state run OMCs. This compares to a total consolidated profit of Rs 134 bn for FY10 (FY11 results are not declared yet) for BPCL, HPCL and IOC. Imagine the impact on state run OMCs and upstream companies next year when such losses are projected at around Rs 1,700- 1,800 bn. Especially in the light of the fact that the government in its budget for FY12 has announced a subsidy of Rs 236 bn for FY12 and there have been no changes in duties on petrol products.
At current level of crude, the state run OMCs like BPCL are incurring a loss of Rs 15 per litre for diesel, Rs 29 for kerosene and Rs 330 for LPG per cylinder. The under recovery balance of Rs 780 bn for FY11 does not include losses incurred on petrol post June because prices were decontrolled on paper. Hence, even after the ninth round of increase, petrol is incurring a loss of Rs 5 a litre.
Diesel deregulation - how likely?
At current levels of inflation, diesel deregulation looks unlikely. The Government has planned a disinvestment in ONGC (FPO scheduled in July). Since ONGC takes care of around 80% of the upstream share of subsidies, any increase in upstream share of subsidy sharing /lack of clarity can make it a lost opportunity. It may be too late if we wait for rate of inflation to cool down to 7%.
There is a buzz in the market that the share of the upstream companies to compensate for under recoveries will be raised from 33% to 38.5%. Because of this, the stock prices of upstream companies have taken some beating.There are high chances that rise in crude prices will offset the increased subsidy burden. If prices come down, it will imply less subsidy dole out. This improves net realizations. However, what is negative for the sector is a lack of clarity on subsidy sharing mechanism.
The impact on downstream players will depend on whether the prices get fully freed (and not just on paper). It will be naive to assume that diesel deregulation, if opted for, will bring under recovery balance to nil. With Government owning a majority stake in OMCs, chances are high that prices will be governed by political interests. The OMCs will not get anything if deregulation happens and if they donít increase the fuel prices as per the global rates (as has happened in case of petrol). The share of downstream companies has varied from nil to 23% in last three years. Hence, deregulation could imply a potential loss for them. For BPCL alone, the under recoveries on petrol are to the tune of Rs 630 crore (not included in Rs 78,000 crore).
Diesel deregulation is a hard bullet to bite for the Government. Nonetheless, it is inevitable. Hence, we believe that any deregulation will come along with cuts in duties to keep inflation in control. As per a CAG (Comptroller and Auditor General of India) report, petroleum products contributed about 60% of total excise revenue in FY10. This is double the Governmentís share of under recovery compensation in the same year. This means that this sector is a net income generator for the Government. It is interesting to note that until this price hike of Rs 5 per litre for Petrol, half of the amount paid by a consumer used to go as taxes. Since duties are applied as a percentage on the commodity, the higher the commodity prices, the higher the revenues for the Government by way of indirect tax collections. So in case of rising crude prices, there will be pressure on Government to cut duties. It is estimated that such receipts yield 40% of indirect tax collections. Would not the interest of the state run OMCs and customers be best served if levies are brought down? Tough decision again as it will curtail Governmentís revenues and will be adverse for fiscal health of the country.
Already dragged down by Rs 5 per litre of hike in petrol prices post state elections, we believe the auto sector will continue to suffer. This is because, deregulation or no deregulation, we expect the Government to go for a round of price hikes for both petrol and diesel. This along with high rates of interest on auto loans will dampen the performance of the sector.
Need of the hour
While deregulation is the best long term option, at inflation rate of 8.7%, it is a tough call for the Government. Another round of price hike will not be enough. What we all need is a very clear subsidy sharing mechanism. Also, if deregulation happens, it needs to come along with cuts on various duties on fuel products. Taking a step further in direction of reforms, the stakes of the Government in OMCs should be brought down. This will ensure that once deregulation happens, we stick to it in letter and in spirit.
More Views on News
Mar 27, 2017
GAIL (India) Ltd has announced results for the quarter ended December 2016. reported 9.4% year on year (YoY) decline in sales, while bottom-line grew 45.4% YoY.
Mar 17, 2017
ONGC has announced results for the quarter ended December 2016. The company has reported 9.2 % year on year (YoY) growth in sales, while bottom-line grew 197% YoY.
Jan 24, 2017
Oil India Limited announced results for the quarter ended September 2016. The company has reported an 6.5% and 7.8% Year on Year (YoY) decline in sales and net profit respectively during the quarter.
Dec 3, 2016
GAIL (India) Ltd has announced results for the quarter ended September 2016. The company has reported 16 % year on year (YoY) decline in sales, while bottom-line grew 180% YoY.
Nov 3, 2016
ONGC has announced results for the quarter ended September 2016. The company has reported 10.3 % year on year (YoY) decline in sales, while bottom-line grew 6.3% YoY.
More Views on News
Aug 7, 2017
The data tells us quite a different story from the one the government is trying to project.
Aug 10, 2017
Don't miss these proxy bets on growing companies or in a few years you will be looking back with regret.
Aug 8, 2017
Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...
Aug 12, 2017
The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.
Aug 7, 2017
Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...
Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement. LEGAL DISCLAIMER:
Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here
. The performance data quoted represents past performance and does not guarantee future results.SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.
Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: email@example.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407