Kerosene price hike may boost EPS of companies like ONGC, OIL

ET Intelligence Group: Investor interest in stocks such as ONGC and Oil India has risen after the government raised the price of kerosene for the first time in five years. Despite the small 25 paise a litre hike, investors believe it’s a step in the right direction and is aimed at lowering the petrol subsidy bill.

This bodes well for upstream companies. Analysts believe that earnings per share (EPS) of companies such as ONGC and Oil India may see an upgrade of 1-1.5% for FY17 and FY18, respectively, if there is no more hike. But if the price is raised every month till FY18, these companies may see an EPS upgrade of more than 10%.

Kerosene and LPG are still sold below their cost of production. (Petrol and diesel are sold at market-related rates following their price deregulation some years ago).

The cost to produce a litre of kerosene is Rs 26.52, while it is sold at Rs 15.28, according to Petroleum Planning and Analysis Cell (PPAC).

The government, along with upstream companies, absorb the difference. Currently, underrecoveries on kerosene and LPG are Rs 13.1 a litre and Rs 116 per cylinder, respectively.

The government provides Rs 12 per litre for kerosene and the balance is borne by the upstream companies. At current prices, upstream companies are contributing Rs 1.1 per litre to kerosene subsidy.

As a result, the reduction in kerosene subsidy means lower oil subsidy burden for upstream companies, thereby higher earnings growth. It is estimated that the EPS of ONGC and Oil India would rise by 1-1.7% for FY17 and FY18 if the subsidy burden is lowered by Rs 500 crore.

Under-recoveries on kerosene are expected to be Rs 11,800 crore for FY17, nearly 42% of the total gross underrecoveries.

After the recent hike of 25 paise per litre, gross under-recoveries will come down 3% and 10% for FY17and FY18, respectively. If one assumes monthly hikes of 25 paise per litre, there will be no subsidy after seven years.

Investors must note that upstream companies are also benefiting from declining consumption of kerosene in the past 10 years.

Kerosene consumption has been on a downward trend – falling at 3% a year since FY01 and has fallen 40% since 2001 due to rising LPG consumption and growing electrification.