Weakening rupee reverses under-recovery gains for OMCs:ICRA
As the prices of sensitive products are regulated, the Rupee selling prices of these remain either unchanged or increase marginally, thereby increasing the gross under-recovery burden of OMCs. Weakening rupee reverses under-recovery gains for OMCs says ICRA in the study.
July 02, 2013 / 15:43 IST
ICRA analysis on rupee falling impact on oil marketing companies (OMC)
The Government of India (GoI), on January 17, 2013, decided to partially deregulate diesel prices, which authorised the PSU oil marketing companies (OMCs) to periodically revise diesel prices, although by a small amount. Besides, the OMCs were empowered to sell diesel to bulk consumers like railways, defence and state transport undertakings at market-determined prices, the volumes of which were about 18 percent of overall diesel sales. While partly deregulating diesel prices in January 2013, the GoI also restricted the number of subsidised LPG (domestic) cylinders to nine per annum for each consumer, which though was a step to appease the domestic consumers as the number of cylinders was relaxed from 6 per annum enforced earlier in September 2012. These moves were aimed to reduce the overall gross under-recoveries (GURs) on sensitive products, especially on diesel, which had been contributing more than 50 percent in the total gross under-recoveries over the last few years. In FY 13 gross under-recoveries on diesel was Rs. 921 billion, about 57 percent of the total gross-under-recoveries of Rs. 1610 billion. Post GoI's decision of partial deregulation of diesel in January 2013, diesel prices have been increased by OMCs almost every month by around Rs 0.40-0.50 per litre. Following the increase in diesel prices, gross under-recoveries of the public sector oil marketing companies decreased by 8 percent (qoq) to Rs. 362 billion for Q4 FY 13 from Rs. 393 billion for Q3 FY 13. However, GURs for FY 13 stood at Rs. 1610 billion, 16 percent higher than Rs. 1385 billion for FY 12 owing to higher crude oil prices pushing up under-recoveries in absence of commensurate increase in retail prices.It was anticipated that the OMCs would benefit from increase in retail prices of diesel by small amount (Rs. 0.4-0.5 /litre) every month as this would materially reduce under-recoveries related to diesel which not only constitutes the largest chunk of under recoveries but was also growing at robust rates. Additionally demand for crude oil is expected to be exceptionally weak in Europe, where consumption in 2013 is expected to be the lowest since the 1980s. Accordingly international crude oil prices are expected to remain somewhat subdued in 2013. Due to the combined effect of lower crude oil prices and partial deregulation of diesel the GURs of PSU OMCs were expected to be substantially lower in FY14 and beyond. At the beginning of FY 14 GURs were expected to reduce to almost half the levels of FY 13 (Rs 1610 billion) considering international crude price of about USD 100/bbl and INR/USD exchange rate of 54.5 prevalent at that time. The lower under-recoveries of PSU OMCs were also significantly expected to decrease the subsidy burden of GoI and PSU upstream companies on a full year basis. However the Indian Rupee has depreciated sharply by about 10.5 percent against the US dollar since the beginning of the FY14 and has plummeted past the 60 to the dollar mark. As the purchases and sales of OMCs are dollar denominated, depreciation of INR makes both crude oil and refined products costlier in INR. However as the prices of sensitive products are regulated, the Rupee selling prices of these remain either unchanged or increase marginally, thereby increasing the gross under-recovery burden of OMCs. ICRA estimates that the annual GURs increase to the extent of about Rs. 81 billion for every one Rupee depreciation against USD. Accordingly the estimates of gross under-recovery of the oil companies as well the GoI have been upset by the sharp depreciation of the INR vs the USD which threatens to undo the gains that were expected to be realised by the partial deregulation of diesel and lower prices of crude oil. Accordingly ICRA has estimated GURs under two scenarios-under scenario I, diesel prices are assumed to be stagnant at current levels and under scenario II, retail prices of diesel are increased by Rs 0.5/litrd every month through FY14. In case the GURs are lower than the past year, on account of diesel price pass through, the working capital requirements of OMCs are expected to reduce. In a scenario of average crude price of USD 105/bbl, INR/USD exchange rate of 60 and diesel price pass through, the GURs are expected to be about Rs. 1343 billion about 12 percent lower than FY 13 GURs of Rs. 1610 billion. In such a scenario the working capital borrowings are expected to reduce by about Rs 80 billion for all the PSU OMCs combined considering a 6 month delay in receipt of cash compensation and about 60 percent of the GURs being compensated by GoI.Apart from the issue of gross under recoveries, another area where INR depreciation would impact the OMCs is on account of foreign currency borrowings and creditor payments. OMCs have large short term borrowings, mostly USD denominated, in order to fund the delay in GoI compensation and normal working capital gap. While USD borrowings help contain the borrowing costs and attain some natural hedge (as the revenues are largely import parity based), it can result in large translation losses on quarterly earnings, when INR depreciates vs USD in a short span of time. Moreover, sundry creditors on crude oil purchases can also result in short term translation losses. It may however be noted that, over a slightly long time horizon and steady state currency scenario, such losses tend to get evened out as the product prices catch up on import parity basis.Disclaimer: The views and investment tips expressed by investment experts/broking houses/rating agencies on moneycontrol.com are their own, and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions. 
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