Low crude oil prices to benefit OMCs, consumers and govt; upstream, oil field services sector to be hit: ICRA
09 January 2015
Global crude oil prices have declined by ~ 55 per cent from $112/bbl (Brent) in June 2014 to $ ~50/bbl now primarily due to significant increase in supply with US crude oil production at a 25-year high due to shale oil boom; growth slowdown in Europe, Japan and China and cut in speculative positions. The crude oil prices are expected to remain at low levels in the near-term, although oil prices could marginally recover over the next 1-2 years with slower production growth and demand recovery (aided by lower prices).
Lower crude oil prices would materially impact profits of crude oil producers; for instance the operating profit of Cairn India Ltd. could decrease by ~35 per cent(yoy) in FY15. According to K Ravichandran, senior vice-president and co-head, corporate ratings, ICRA, ''the impact on ONGC and OIL would be limited with around 15 per cent hit on operating profit in FY15 as their subsidy burden will likely go down with fall in under-recovery levels. We expect the decline in under-recovery sharing discount to decline from US$ ~59 /bbl in FY14 to US$ 40-45/bbl in FY15.''
If crude oil prices sustain in the range of $50-55 /bbl, the extent of discount for upstream companies would be a key driver of profits in FY16. Further, cash generation of overseas ventures of ONGC Videsh Ltd, OIL and Reliance Industries Ltd (RIL) would decrease significantly.
The significant decline in crude oil prices, if sustained, will lead to reduction of capital spending of global E&P companies due to lower realizations and deferment of development of complex fields due to poor economics.
This could lead to increase in idling assets of service providers, which could put pressure on the service providers to reduce rates leading to lower Finding and Development (F&D) costs for the upstream companies.
On the other hand, the oilfield services industry, especially offshore drillers would be adversely impacted by low oil prices and significant increase in supply globally in the near-to-medium term. While exploration activity in India is not expected to witness material decline, significant fall in day rates would lead to weakening of the financial profiles of the domestic oilfield services companies, except for companies with long-term contracts or those with sufficient liquidity to tide over the downcycle.
The gross under recoveries of downstream companies are expected to decline sharply from Rs1,399 billion in FY14 to around ~ Rs788 billion in FY15 (estimated at Indian Basket crude oil price of $65/bbl and the dollar at around Rs62.5 for H2 FY15) and ~Rs450 billion in FY16 (at crude price of $60/bbl and the dollar at Rs64).
Ravichandran said, ''On account of the lower crude prices, the working capital requirements of downstream oil companies would reduce leading to lower working capital debt levels. Additionally lower under-recoveries on the sale of sensitive products would also improve the profitability and liquidity of oil marketing companies.
"Nevertheless the sharp decline of about 40 per cent in crude oil prices during Q3 FY15 would lead to large inventory valuation losses for the downstream companies. Consequently GRMs are expected to be negative or remain subdued in Q3 FY15 on account of large inventory valuation losses, though partly offset by higher crack spreads witnessed during the quarter for several products.''
Industries like paint, FMCG and tyres could be the major gainers due to fall in the prices of raw materials.
Further, industrial units consuming liquid fuels or RLNG for power and fuel would witness material fall in costs. Aviation industry will also witness fall in losses in line with the fall in prices of ATF. However, petrochemical players such as those producing commodity polymers through naphtha-crackers, and polyester producers consuming crude oil derivatives (PX, PTA, MEG etc) could suffer inventory losses during Q3-Q4 FY15.
The extent of inventory losses could be huge for the companies which keep high inventory levels due to market dynamics or import dependence. Further, entities involved in trading of crude oil derivatives such as various polymers and chemicals could report material inventory losses in the near term.
Despite recent hikes in excise duties during Nov-14 to Jan-15, the retail prices of petrol and diesel (at Delhi) have declined by ~17 per cent and ~13 per cent from July 1, 2014 to now. Ravichandran said ''The fall in petrol prices from July 1, 2014 to now is expected to lead to annual savings of ~Rs1,400 per annum per two-wheeler consumer and ~ Rs9,400 pa per passenger vehicle (PV). The diesel price fall could save ~ Rs8,100 per annum per diesel PV. The savings in fuel expenses would leave additional money in the hands of consumers, which could push discretionary expenditure leading to higher sales of consumer durables and sales of vehicles if crude oil prices sustain at the lower levels for some time''.
The fiscal space created by lower fuel subsidy and higher excise collections on various fuels in FY15 as compared to FY14 is estimated at Rs400-450 billion or ~0.3 per cent of GDP, which is substantial when seen in relation to the budgeted fiscal deficit of the centre of Rs5.3 trillion for the current fiscal (FY15).
This would help ease the pressure on GoI's fiscal balances, created by factors such as the below-target growth of GoI's tax revenues so far in FY15, delay in raising of substantial revenues through disinvestment, etc. However, growth of sales tax revenues of state governments may dip due to reduction in the retail prices of fuels, as state-level sales taxes on several fuels are typically levied on an ad valorem basis.
VAT on POL products accounted for a sizable 30 per cent of the VAT revenues of Indian States in 2012-13.
To safeguard their sales tax collections, several States have recently increased the rate of VAT levied on certain fuels. On the external balance front, net oil imports are likely to decline to $80-85 billion in the current fiscal from $100 billion in FY14, resulting in a reduction in the current account deficit to $28-30 billion in FY15 from $32 billion in FY14, as the positive impact of low crude oil prices would be partly offset by a rise in non-oil imports such as electronics and gold and low export growth on account of weak demand from Europe and Japan.
In FY16, a change in crude oil price of $1 /barrel would impact India's current account deficit by $1 billion. Lower crude oil prices may, however, lead to fall in capital inflows from sovereign wealth funds, especially based out of West-Asia.