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BPCL: Oil bond kicker - Views on News from Equitymaster
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BPCL: Oil bond kicker
Nov 8, 2006

Introduction to results
BPCL, the refining and marketing major, declared its 2QFY07 results recently. The topline, in wake of issuance of oil bonds coupled with robust domestic demand has spurted by 56% YoY. Operating margins and profitability have also improved on the back of issue of oil bonds and an improved business mix.

Financial snapshot*…
(Rs m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Net sales 170,398 265,174 55.6% 341,389 492,281 44.2%
Expenditure 169,176 248,036 46.6% 341,293 477,752 40.0%
Operating profit(EBDITA) 1,222 17,138 1302.5% 96 14,529 15034.4%
EBDITA margins(%) 0.7% 6.5% 2341.7% 0.03% 3.0% 34014.9%
Other income 1,503 2,207 46.8% 2,393 3,298 37.8%
Interest expenses 461 920 99.6% 931 1,828 96.3%
Depreciation 1,798 1,964 9.2% 3,627 3,778 4.2%
Profit before tax 466 16,461 3432.4% (2,069) 12,221 -690.7%
Tax 278 3,876 1294.2% 536 3,901 627.8%
Profit after Tax 188 12,585 6594.1% (2,605) 8,320 -419.4%
Net profit margin(%) 0.1% 4.7%   -0.8% 1.7%  
No.of shares(m) 361.5 361.5 361.5 361.5 361.5 361.5
Diluted earnings per share* 0.52 34.81   (7.21) 23.02  
Price to earning ratio.(x)**         8.5  
* From FY07 onwards, numbers are for BPCL merged with Kochi Refineries, thus numbers for 1HFY06 has been restated.
** Based on annualised Earnings.

What is the company’s business?
BPCL is a refining and marketing major with refining capacity of 12 MMTPA (million metric tonnes per annum) and has more than 7,000 retail outlets and 1,000 kerosene dealers. At, present the company enjoys a market share of 30% in petrol and 26% in diesel. Also, the average fuel sale per retail outlet was 158 KL to 200 KL per month (FY06), depending on the location of the outlet. Historically it has enjoyed higher throughput per outlet compared to that of industry. The company, along with its subsidiaries holds 14% of the total domestic refining capacity. BPCL merged its subsidiary KRL with itself recently. Besides its existing profitable JVs like Indraprastha Gas (22.5% stake) and Petronet LNG (12.5% stake), it further plans to increase its presence in the retail gas distribution segment by forming various JVs with GAIL. BPCL also plans to foray in the upstream segment so as that it can integrate its presence across the energy value chain.

What has driven performance in 2QFY07?
Oil bonds propel revenues: Sales volumes during 1HFY07 increased from 10.39 MMT to 11.20 MMT registering a growth of 7.8% over the corresponding period. Low base coupled with more sales on account of Reliance losing market share in fuel retailing led to higher than normal growth rate. It needs to be noticed that Reliance was charging a higher price to the extent of Rs. 2.5 per litre on the sales of petrol and diesel, which shrunk its market share. During 1HFY07 BPCL registered a growth of 15% in HSD (retail) and 5.5% in MS (retail). Major volume driver besides HSD (retail) and MS (retail) were ATF (37.5%), LPG (5%), lubricants (12%) and LNG (22%). Sales growth during 2QFY07 was higher at 8.6% YoY. However, It should be remembered that in order to compensate the oil marketing companies for under recoveries, government has issued oil bonds. Hence, with the issuance of these oil bonds, the increase in product prices is finally manifesting itself in the form of the robust rise in topline. BPCL’s share of oil bonds amounted to Rs 32 bn (12.1% of the net sales of the quarter), which lead to significant improvement in realisations.

Business mix and oil bonds save the day: Capacity utilisation during the period would have improved as third party purchases have reduced considerably. Purchase of product for resale, which was 58% of the net sales during 2QFY06, reduced to 45% in 2QFY07, signifying the change in business mix. GRMs for 1HFY07 were US$ 2.94 per barrel compared to US$ 3.77 in 1HFY06 for the Mumbai refinery, while the same for Kochi refinery was US$ 2.37 (US$ 6.34 in 1HFY06). Decline in GRMs could be attributed to discounts from the refining division to the marketing division along with reduction in the international benchmark GRMs. Issue of oil bonds for 1HFY07 to the tune of Rs 32 bn led to improvement in realisation and consequently the profitability of the company, as excluding the impact of the same, EBDITA margins would have turned negative.

Expenditure break –up…
(Rs m) 2QFY06 2QFY07 Change 1HFY06 1HFY07 Change
Consumption of raw material 56,443 115,598 104.8% 117,086 225,739 92.8%
as a % of sales 33.1% 43.6%   34.3% 45.9%  
Staff Cost 1,864 2,087 12.0% 3,942 4,501 14.2%
as a % of sales 1.1% 0.8%   1.2% 0.9%  
Purchase of product for resale 98,057 118,179 20.5% 196,864 223,980 13.8%
as a % of sales 57.5% 44.6%   57.7% 45.5%  
Other expenditure 12,812 12172.0 -5.0% 23,401 23,532 0.6%
as a % of sales 7.5% 4.6%   6.9% 4.8%  

Working capital blues: Subsidized sales of four major petroleum products have adversely affected the working capital position of the company. The same is reflected by the fact that company had to resort to borrowing to meet the requirements. Consequently, the interest expenditure for the quarter increased by as much as 100% YoY. Other income during the quarter increased by 47% YoY and it includes the interest on the oil bonds issued during 4QFY06.

Thus, the issue of oil bonds to the tune of Rs 32 bn salvaged the operating performance and the profitability of the company.

What to expect?
At the current prices of Rs 390, stock is trading at price to earnings multiple of 8.5 times its annualised 1HFY07 earnings. Decline in crude oil prices has led to improvement in the marketing margins of the petrol while the margins for Diesel, LPG and SKO continue to be negative.

Subsidy sharing system has been made more transparent in recent times with upstream sector sharing 33% of the under-recoveries in addition to discounts from refiners and issue of oil bonds by the government. Thus steps are being taken to ensure the profitability of oil marketing companies. This is a positive for oil marketing companies including BPCL.

With the recent concluded merger with Kochi, the company would enjoy savings on account of lower sales tax outgo. Also, the marketing to refining ratio now stands close to 1, thus signifying equal presence in refining and marketing segment of the industry. This is going to benefit the company as the refining margins are expected to be strong during the next few years. We recommended ‘HOLD’ on the stock recently and continue to maintain our view. The regulatory risk though, still remains the biggest concern.

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