Buy MRPL and Essar Oil for 50% gain says LKP

LKP has come out with its report on oil & gas space with valuation on MRPL & Essar Oil.

A combination of high crude prices and sustained product demand is resulting in strong product spreads which has positioned pure refiners in a sweet spot. This is best manifested through a cursory glance at the benchmark Singapore GRM which is going strong at $ 8.8/bbl during the quarter-to-date. To put things in perspective, the Singapore GRM during Q1FY11 was just $ 4.1/bbl, which represents more than doubling of refining margins y-o-y. Refining margins have also risen sequentially from $ 7.5/bbl in Q4FY11 to $ 8.8/bbl during the quarter-to-date. Currently, Singapore GRM is ranging between $ 8-8.5/bbl, which is expected to result in very favorable economics for pure refiners.

Sector Dynamics:

A sweeping glance through the oil sector reveals a host of issues that are dogging the sector as a whole and some company specific issues which are acting as a drag on the respective stocks. The over-arching issue of the adhoc subsidy sharing mechanism is taking its toll on the PSU space. Crude prices of $ 110+/bbl threaten to complicate the scenario considerably. The recent move to arbitrarily increase the subsidy burden on the upstream sector to ~39% has severely impacted the stocks. With the finances of the PSU OMCs held hostage to grants by the Govt., it has become very difficult to estimate future performance.

On the other hand, falling output from the KG D6 block threatens to overturn the capacity utilization calculations of various gas pipeline operators which may result in adverse near term performance. The Cairn-Vedanta deal, which was announced 10 months ago, is proving to be a case of indecisiveness in policy-making at the highest levels with opposing pulls & pressures from all sides. The interim CAG audit report on KG D6, Rajasthan & PMT fields couldn

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