Fitch Ratings: Robust Refining Margins Support Indian Downstream Firms’ Credit Profiles

Fitch Ratings-Mumbai: Strong refining margins and the likely inventory gains arising from increasing oil prices should offset the moderate marketing margins of Indian oil marketing companies (OMCs) and continue to support their standalone credit profiles (SCP), says Fitch Ratings.

Fitch expects diesel and gasoline refining margins to remain healthy in the near term, with the Indian economy continuing to recover, although diesel spreads may narrow a little as the peak winter heating demand reduces.

Improving demand and a rebound in product spreads, along with inventory gains, drove Indian Oil Corporation Ltd’s (IOC, BBB-/Negative, SCP: bb+) gross refining margin to USD8.5/barrel in the first nine months of the financial year ending March 2022 (9MFY22) from USD3.0 in 9MFY21, and that of Bharat Petroleum Corporation Limited’s (BPCL, BBB-/Negative, SCP: bb+) climbed to USD6.8 from USD2.9.

Hindustan Petroleum Corporation Limited’s (HPCL, BBB-/Negative) gross refining margin rose to USD4.5 from USD2.4, with the improvement smaller than peers' as it undertook a planned shutdown to expand its Mumbai refinery and stabilisation took time. The refinery is now operating at its expanded capacity.

Fitch expects transportation fuel demand to improve to pre-pandemic levels from FY23. Petroleum product sales for the OMCs increased by 8%-11% during 9MFY22 from a year earlier as demand rebounded from a pandemic-induced fall. However, demand was still 5%-7% below pre-pandemic levels in 9MFY20.

We expect the OMCs to generate steady marketing margins in FY23 as they continue to pass on changes in crude oil prices to consumers. However, record high retail-fuel prices may limit the extent to which the changes are passed on, should crude oil prices continue to rise. The OMCs incurred marketing inventory losses in 3QFY22, driven by the excise duty cut in November 2021, as the fuel inventory in their pipelines and retail outlets were priced at higher rates.

Capex at most OMCs is likely to stay high over the next few years as they expand their refining and petrochemical capacity and retail networks, and gradually increase investments in alternate energy. We expect IOC, BPCL and HPCL to incur combined annual capex of USD6.5 billion-7 billion over FY23-FY24.

We believe that the credit metrics of IOC and BPCL will continue to retain comfortable headroom for their SCPs over the medium term. BPCL has indicated that its potential divestment by the state of India (BBB-/ Negative) may be pushed to FY23, and we continue to treat it as an event risk.

The headroom for HPCL’s SCP is relatively low in FY22 as we proportionately consolidate its joint-venture HPCL-Mittal Energy Limited (HMEL, BB/Negative, SCP: b+). We expect HPCL’s metrics to improve to levels comfortably within the SCP’s negative trigger from FY23, as HMEL’s petrochemical plant starts contributing to earnings. The improved refining environment should support Fitch’s expectation of HMEL’s earnings in FY23, although risks of a delay in commissioning and EBITDA contribution from its new petrochemical plant remain.

The Issuer Default Ratings of the three Fitch-rated Indian OMCs – IOC, BPCL, and HPCL – are driven by the high likelihood of parental support, based on continued strong linkages.