Subsidy Burden Estimates For Upstream Oil Companies: A Crude Shock

In recent times, the Indian equity markets have had a torrid time as investor sentiments have been heavily marred by negative news from every possible direction. From S&P’s downgrading India’s rating to the far-from-exciting core sectors’ growth for March 2012 and from the rather lackluster March quarter results till date to the slower-than-expected growth in the global economy, nothing seems to be going well from the markets’ point of view.

In the midst of all this there is still one concern lurking over the markets and the economy on the whole in the form of a ticking time bomb. That is the crude oil prices’ environment. Though in the recent past one has seen a sharp fall in the global crude oil prices, in terms of the Indian basket the cost of crude continues to remain high thanks to the unprecedented weakening of the Indian rupee against the US dollar. At present, according to the latest data released by the Petroleum Planning & Analysis Cell (PPAC), the daily under-recovery suffered by our domestic oil marketing companies (OMCs) like IOCL, BPCL and HPCL stand at a staggering Rs 512 crore per day. Unfortunately, the government seems to be in no mood to bail out these companies by pushing up the retail fuel prices.

While much has already been discussed over the apathy suffered by the OMCs in our earlier articles, we would now like to bring to the notice of our readers the crippling effect that the burgeoning subsidy bill could have on upstream companies like ONGC, Oil India and GAIL.

Our Core Research Unit (CRU) estimates that at current rate the total under-recoveries for the full year ended March 2012 would stand at a whopping Rs 2,05,000 crore. As against this, the government’s budget papers have accounted for merely Rs 68,481 crore as its share of the subsidy bill. This means that the upstream and oil marketing companies would have to collectively cough up the remaining Rs 1,36,519 crore to set off all the losses.

As one can see from the above table, the burden on individual upstream companies would be pretty steep in fiscal 2011-12, which could have a gruesome impact on their financial performances. Add to this the recently announced increase in budgetary cess charge to be levied on indigenous oil explorers like ONGC and Oil India, which could further mar their future growth prospects. GAIL, on the other hand, has its own set of problems with the Petroleum & Natural Gas Regulatory Board (PNGRB) breathing down its neck over issues relating to the marketing margins commanded by gas distribution companies.

While such is the scenario on the full year front, the situation for the quarter ended March 2012 in comparison to the corresponding quarter of the previous year is quite comforting. Based on the estimates made by us in the below table, GAIL may see a steep rise in its subsidy bill for the quarter ended March 31, 2012 while Oil India and ONGC might see flat growth.

In conclusion, while the effect of the rising subsidy bill might not have much impact on the upstream company’s quarterly financial performances, the full year performance could be majorly impacted. Going forward, the government budgetary support towards the fuel subsidy bill for the current fiscal (2012-13) has been revised downwards to Rs 43,580 crore. Given the fact that global crude prices would remain sticky at around the current levels, we believe that the government would either be forced to revise its estimates upwards or would ask the OMCs to hike the retail prices of petrol and diesel by their desired amounts.

Whatever the government’s decision may be, it will surely have a detrimental effect on the country’s overall macro-economic situation. While on one hand the higher budgetary support may stretch the already precarious fiscal deficit numbers, on the other hand a hike in retail fuel prices will lead to higher inflation, following which the RBI would be forced to take some stringent measures, which in turn would take its toll on the country’s economic growth prospects. Hence we can call the current situation a ticking time bomb indeed!