PINC Sector Report - Refinery Sector - Buy MRPL, Accumulate CPCL

COMPLEXITY AND SCALE ADDING PROMINENCE

The oil demand has stagnated in the mature markets specially in the US and Europe owing to global economic meltdown, promotion of fuel substitutes, intensive focus on energy efficiency and sustainable environment. However, in the long term oil demand led by non-OECD countries, specifically China and India should compensate for the slack in oil demand from OECD countries. Indian players are adding refining capacity to match the robust local demand and improving their complexity for better refined products to meet the prescribed environmental friendly specifications.

India, with a capacity of 193mmtpa, currently accounts for ~13% in refining capacity and ~12% of consumption in Asia. In the last decade, export's proportion has increased from ~8% to ~29%. Throughput capacity is set to increase by ~25% to 240mmtpa by FY15, making India an important player in the Asian refinery map.

DEMAND DRIVEN BY NON-OECD COUNTRIES: Out of total incremental demand of 5mb/d (CAGR 1.4%) by FY15, non-OECD countries are likely to account for 6.2mb/d more than compensating the decline of 1.2mb/d in OECD countries. China and India should be the major driver with contribution of 2.9mb/d.

CAPACITY FOLLOWING DEMAND: With future incremental demand coming from non-OECD, ~95% of upcoming capacity of 6.7mb/d to 99.5mb/d by FY15 is located in the region. China and India lead the group with 3.2mb/d of upcoming capacity (2.3mb/d and 0.9mb/d respectively).

IMPROVEMENT IN COMPLEXITY: Matching with the rising demand for middle distillate and better auto fuels, Indian companies are revamping their facilities along with capacity addition. Average Nelson complexity index is likely to increase from the current levels of 6-7 to 9-10 in next 1-2 years. Higher proportion of gasoil against Singapore benchmark makes a case for relative improvement in the future.

SINGAPORE GRM TO MODERATE: We expect Singapore GRM to stabilise between USD6.0/bbl to USD7/bbl after trading strong in 9mCY11. However, Gasoil spread is expected to remain strong which should support Indian players' GRM.

CONCERNS: Current global economic uncertainty remains the major risk as volatility in crude oil price, international GRM and USD-INR exchange rate may falter the performance substantially. Delay in project commissioning can impact the performance.

VALUATIONS AND RECOMMENDATION

We are positive on the Indian refining sector and we initiate our coverage on pure refining companies, with a 'BUY' rating on MRPL (TP Rs88, +42%) and an 'ACCUMULATE' on CPCL (TP Rs215, +16%). Essar Oil is also set to benefit with increasing refining capacity and complexity improvement, however, we are currently not rating the company.

Source : Equity Bulls

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