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IBP: Merger in the offing

Aug 9, 2004

Performance summary
But for IOC (Indian Oil Corporation), IBP would have been a perfect candidate for divestment as per the government's plans, as the company has posted a net loss during the 1QFY05. While the topline improved by an impressive 31% YoY backed by robust volume growth, the bottomline plummeted by 127% YoY on account of higher costs and freeze on retail prices of petroleum products.

What is the company's business?
IBP is a pure marketing company with nearly 10% market share in diesel sales and 8% market share in terms of petrol. The company has strong presence in the rural segments of northern India. However, it has been unable to pose any threat to other PSU marketing companies such as HPCL and BPCL, who have a strong market share of over 20%. IBP uses its parent, IOC's refining infrastructure for product purchase and sells them through its retail network of over 2,000 outlets.

(Rs m) 1QFY04 1QFY05 Change
Net sales 25,076 32,877 31.1%
Other income 105 161 53.5%
Expenditure 24,596 33,010 34.2%
Operating profit (EBDITA) 480 (133) -127.7%
Operating profit margin (%) 1.9% -0.4%  
Interest 0 - -100.0%
Depreciation 93 115 23.6%
Profit before tax 492 (86) -117.6%
Tax 176 - -100.0%
Profit after tax/(loss) 315 (86) -127.4%
Net profit margin (%) 1.3% -0.3%  
No. of shares (m) 22.2 22.2  
Diluted earnings per share (Rs)* 56.9 (15.6)  
P/E ratio (x)      
(* annualised)      

What has driven performance in 1QFY05?
Riding on sector performance: Despite a freeze on prices of retail fuels, the topline growth of 31% is impressive. This growth is on the back of strong demand for diesel (nearly 12% YoY) and petrol (nearly 9% YoY) on account of the campaigning season and robust economic activity for the sector. Further, strong rural presence also helped the company post robust volume growth, as the consumption increased YoY due to better crop season. On the other hand, the company has witnessed a dip in its explosives and cryogenics business (1% of revenues).

Segmental breakup
(Rs m) 1QFY04 1QFY05 (%) change
Petroleum 24,834.6 32,652.8 31.5%
Explosives 206.8 199.2 -3.7%
Cryogenics 34.5 25.3 -26.7%
Expenditure break-up
(%) of sales 1QFY04 1QFY05
Purchase/RM consumed 95.4% 98.3%
Staff cost 1.1% 0.8%
Other expenditure 1.7% 1.2%

Regulatory hassles: Operating margins have taken a hit of nearly 230 basis points (2.3%) on account of the company's vulnerability to high product prices at the refinery gate. To simplify things, prices of petroleum products are de-regulated at the refinery level (i.e. if crude prices increase, pure refining company can increase prices in line with international trends). Since marketing companies like IBP purchase products from refineries, whenever crude price goes up, the cost of input increases. At the same time, prices at the retail level are regulated. Consequently, the government's decision not to increase prices of petrol and diesel in the face of increasing global prices did not help matters. To put things in perspective, crude prices (Indian mix) touched nearly US$ 35 per barrel fuelled by growing demand in 1QFY05.

It all filters down to the bottomline: High costs and freeze on prices had a trickle down effect on the bottomline and the company posted a net loss during 1QFY05. Further, the company also contributed marginally towards the subsidy-sharing scheme (as it has a lower market share in LPG and kerosene sales).

Over the last four quarters: The last four quarters for the company have been very volatile. Just when things were looking up, came the elections and the resultant freeze in pricing of petro products. As a result, the company witnessed a net loss after posting a record 147% YoY jump in the bottomline in 4QFY04.

What to expect?
IBP has a strong rural presence and has acquired the approval to merge with its parent company, IOC. As a result, this would help the parent company utilize IBP's strong presence in the rural markets and at the same time, help the latter utilize IOC's infrastructure effectively. Also, IOC would benefit from the merger in terms of sheer size of the combined marketing network (more than 50% of the retail outlets), thereby creating major roadblocks for the new entrants. However, if status quo is maintained, IBP, with a less attractive business model as compared to its peers, HPCL and BPCL, lacks new avenues and margins shall continue to be under pressure due to external dependence.

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