Losers and gainers in Indian industry as fuel prices climb to record high

Expensive retail fuel can trigger inflation, hurting a fragile economic recovery. Devangshu Datta explains who loses - and gains somewhat - when prices rise

Global downturns lower fuel prices as demand falls, helping India that imports about 80 per cent of crude and one-third of its gas. Cheap crude and gas in 2020 led to a surplus trade balance despite lower exports, allowing room for high taxes without pushing up retail prices.
 
That period is over and energy prices are moving up as the global economy expands. Crude prices have spiked 37 per cent since January 1 and Indian consumption is likely to rise.
 
Crude and gas consumption was 12 per cent lower between April 2020 and January 2021, compared with the first 10 months of 2019-20. Consumption picked up in February and March and should improve through 2021-22 as the Indian economy picks up.

 

An analysis says the economy can cope with high international prices if there is demand, but retail fuel hitting all-time highs has created unease in the country. Expensive retail fuel can trigger inflation, hurting a fragile economic recovery.
 
India has few primary energy producers. The bulk of its gas and crude production comes from ONGC and OIL, both state-owned companies. Vedanta is its only major private company. Most midstream and downstream refiners are state-owned and the retail marketing chain is PSU-dominated, too. Reliance Industries is the only major private sector refiner.
 
Primary producers' realisations increase when international prices rise, as those of refiners and marketers dip. Domestic prices depend on international trends, but ONGC and OIL realise less than prevailing international spot prices. There is fear that, in case prices rise, they may have to subsidise oil marketing companies (OMCs) like BPCL, ICL and HPCL (an ONGC subsidiary) by selling them fuel cheaper than international prices.

 
For PSU refiners, rising prices cause multiple problems. They cannot pass on the entire price increase, pulling down their margin and profit. Second, (quite apart from taxes) the government effectively sets the price as the majority shareholder. Political or macro-economic compulsions determine prices, not profit. Retail prices can freeze during political campaigns and elections. State-owned companies cannot export petro-products, meaning they can’t earn forex at overseas prices.
 
Oil exploration is one industry that gains when crude and gas prices rise. Domestic exploration has been largely unsuccessful, but work increases if international prices rise. Exploration outfits such as HOEC could be gainers in 2021-22 after a long lull.

 
The renewables sector too gains from higher energy prices. If fossil fuel prices are high, investment in renewables looks attractive. Renewables startups, and listed renewables firms could soon come into focus. Exporters linked to oil-producing countries — Bharat Forge, Dabur, Marico, L&T, Bajaj Auto and Voltas — could see a positive impact.
 
Sectors that may hurt include cement, automobiles, and other consumer stocks like Asian Paints or Hindustan Unilever. The fertiliser industry depends on gas as feedstock. An impact there would result in an increase in the government’s estimated budgeted subsidy of Rs 80,000 crore.
 
Reliance Industries makes the bulk of its revenues from its petroleum division, but the conglomerate is not valued as an energy player due to the fast growth in its digital subsidiary, Jio Platforms, and its retail arm.

 
Vedanta, erstwhile Cairn India, is a primary producer. It could see its share price driven up by news and rumours that the open offer price may soon be revised upwards. The stock has risen substantially due to an upwards climb in energy prices.
 
Valuations for state-owned oil and gas companies drop when fuel prices rise. OMCs' profits may fall as crude/gas prices rise, pulling down the companies’ valuations and complicating the government’s disinvestment programme where BPCL is a key counter.
 
There could also be tax worries. The central and state governments rely on taxes on oil and gas. Between April 2002 and December 2020 (nine months), they together collected Rs 4.16 trillion as GST, VAT and customs duties. In 2019-20 (full fiscal), collections hit Rs 5.42 trillion. In 2020-21, collections were almost the same as 2019-20 despite 12 per cent less in the way of volume and lower international prices This was due to much higher tax rates.

 
Crude prices are back around $60/ barrel. There’s pressure to cut tax rates to control retail prices, but the government can ill afford to forego revenue. It has to control inflation along and secure its political interests in the five assembly elections in 2021, and Punjab and Uttar Pradesh voting in early 2022.
 
A rough estimate suggests $10/ barrel rise increases the trade deficit by 40-50bps (0.4-0.5 per cent). Given huge reserves, such a trade deficit is manageable unless prices move beyond $80. The bigger worry will be inflation. During this next phase, we may see investors moving to the sectors that could gain as energy prices rise.