MRPL - Initiating Coverage - Phase III delay set to end; initiate with a BUY - Centrum

We initiate coverage on MRPL, a standalone refiner, with a BUY rating and a PT of Rs60 (~38% upside). A credible turnaround candidate, we are optimistic on it due to (1) Channel checks revealing stabilization of power plant and hence imminent commissioning of phase-III in 1-2 months; (2) Strong business outlook despite building in conservative Gross Refining Margin (GRM) leading to a modest positive turnaround in earnings from FY15E; and (3) Negligible impact of Export Parity Pricing (EPP), if implemented. The stock adequately factors in the continuing delay in capacity expansion and consequent low GRM.

- Benefits of Phase-III to gain traction from 2HFY15E: Phase III expansion is set for commissioning by Q1FY15 with stabilization of CPP - as corroborated by channel checks; however, we have conservatively built-in benefits to accrue from 2HFY15 and expect a significant jump in GRM led by (1) high yield products; (2) lower fuel loss; (3) full benefits of lower freight costs from FY16E due to Single Point Mooring and (4) tax benefits. Delay in implementing phase-III resulted in adverse impact on FY13 and YTD earnings due to low yield product mix and high fuel loss. This, we believe, will reverse from 2HFY15.

- Intrinsically strong despite lower GRMs built-in: We have built-in a modest GRM of USD4.2/6 per bbl in FY15E/FY16E against the preceding 5-year average GRM of USD5/bbl (without Phase-III expansion benefits). We derive GRMs using historical linear relationship between crude and product prices; estimates are conservative to factor in risk of global product imbalances. Although incremental supply of Gasoline and Naphtha is expected to contribute 50% of the overall product surplus in CY13-18, MRPL with 9% exposure to export markets in these products will be relatively insulated. Further, MRPL is competitively buttressed by its ability to source low-cost high-sulphur crude, cost and energy efficiency and favourable logistics.

- Robust financials make MRPL a strong investment case: A 55% CAGR in EBITDA earnings and 105% CAGR in EBIT earnings over FY13-16E coupled with RoE of 17% in FY16E, turning free cash flow positive over FY15/FY16E and current valuations at Mean-SD across matrix on FY16E, make MRPL a compelling investment bet. We emphasise that for such a turnaround case, only FY16 would represent a return to stable earnings, and demonstrate that even modestly better GRMs, realistic for MRPL, can lead to material positive earnings surprises.

- Valuation and Key risks: We initiate coverage with a BUY rating and a PT of Rs60 which is derived as the average value using DCF and fair multiple assigned to EV/EBITDA, EPS and BV. MRPL in FY16E would trade at trough valuations and valuations at 20% discount to global peers, caps the downside. Key risks are (1) Lower GRMs; (2) Delay in commissioning of phase III and (3) Skewed product mix. The stock has limited coverage on the street.

Source : Equity Bulls

Keywords