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HPCL: The woes of under recovery - Views on News from Equitymaster

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HPCL: The woes of under recovery
Aug 1, 2007

Performance summary
  • Topline increased by 5.8% for 1QFY08

  • Due to a relatively lower increase in expenditure at 3.9% YoY, losses reduced sharply at the EBITDA level and margins improved from a negative 2.5% in 1QFY07 to a negative 0.6% in the first quarter this fiscal

  • Bottomline showed a marked improvement as net margins stood at negative 0.4%, up from negative 3% in the corresponding period last year, thus implying significant reduction in losses

Financial snapshot
(Rs m) 1QFY07 1QFY08 Change
Net sales 206,741 218,817 5.8%
Expenditure 211,907 220,102 3.9%
Operating profit (EBITDA) (5,166) (1,285) NA
EBITDA margin (%) -2.5% -0.6%  
Other income 1,021 3,351 228.2%
Interest (net) 596 1,334 123.8%
Depreciation 1,701 1,798 5.7%
Profit before tax (6,442) (1,066) NA
Tax (366) (197) NA
Profit after tax/(loss) (6,077) (869) NA
Net profit margin (%) -2.9% -0.4%  
No. of shares (m) 339.3 339.3  
Diluted earnings per share (Rs)* (71.6) (10.2)  
Price to earnings ratio (x)**   4.2  
(* annualised, ** on trailing twelve months earnings)

What is the company’s business?
HPCL is the country’s third largest integrated oil marketing company with over 7,500 retail outlets, spread across the length and breadth of the country. The company has just over 20% market share in the diesel business and a 25% market share in retail petrol sales. HPCL also has a strong presence in the LPG business accounting for a quarter of the industry volumes and catering to over 19 m customers. The company operates two refineries, one at Visakhapatnam, with a rated capacity of 7.5 million metric tonnes (MMT) and the other at Mumbai, having capacity of 5.5 MMT. HPCL is progressing towards setting up of a refinery at Bhatinda, Punjab.

What has driven performance in 1QFY08?
Crude prices and under recovery: The results of the company continue to be beleaguered by high crude and product prices. With crude prices hovering close to the all time high of $ 77 per barrel, downstream companies face high input costs. Moreover, HPCL operates in the domestic markets and cannot pass on the costs fully to the consumers. This explains why the company posted a negative bottomline.

The pressure was eased to an extent by the discounts from upstream oil companies (ONGC and GAIL) to the tune of Rs 9 bn. However, it must be noted that the upstream companies have trouble providing discounts. In fact, the discount in the comparable period last year was higher at Rs 12.4 bn.

Cost break-up
(Rs m) 1QFY07 1QFY08 Change
Raw materials 201,592 210,796 4.6%
% sales 97.5% 96.3%  
Staff cost 1,657 1,805 8.9%
% sales 0.8% 0.8%  
Other expenditure 8,659 7,502 -13.4%
% sales 4.2% 3.4%  
Total cost 211,907 220,102 3.9%
% sales 102.5% 100.6%  

Better gross refining margins (GRMs): GRMs for 1QFY08 were $ 9.04 per barrel up from $ 8.08 per barrel in the corresponding period last year for Mumbai refinery. On the other hand, they stood at $ 7.80 per barrel for the first quarter this fiscal down from $ 8.41 per barrel in the comparable period last year for the Visakh refinery. As the Mumbai refinery is the larger of the two, the net impact was an increase in overall GRM.

Higher subsidies: Subsidies amounting to the tune of Rs 1.3 bn was claimed from the government in 1QFY08, marginally up from Rs 1.29 bn in the same period last year.

What to expect?
At the current prices of Rs 251, the stock trades at price to earnings ratio of 4.2 times its trailing twelve months earnings. While the regulatory concerns will continue to impact the performance of the company, the steps taken, particularly in the refining side of the business is going to improve the business mix. Also, the company is taking various steps to cement its growth in the retail side of the marketing segment. Historically, IOC and BPCL have attracted premium valuations vis-ŕ-vis HPCL. However, with improving business mix and lower third party purchases going forward, this premium is set to diminish.

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