Crude prices have been on the boil since the US and the EU imposed sanctions on Iran. Besides hurting government’s finances, high oil prices have implications for the entire oil and gas sector. With Brent crossing $120/bbl, companies in the oil exploration and production (E&P) business stand to gain.
Higher oil prices will result in better realisations for Cairn and Oil and Natural Gas Corp (ONGC). Though ONGC will have to share some of the subsidy burden, analysts say, better realisations would ease some pressure from underrecoveries. As for Cairn Energy, Jigar Shah, head-research at Kim Eng Securities, says: “Cairn is in a sweet spot as its realisations, now at $67/bbl, will improve. After paying royalty and other dues, while realisation per barrel is $67, cost of production is $16. With every price change of $1, impact on Cairn’s net profit is 2.3 per cent.”
While ONGC’s realisation may not be as high as Cairn’s, it would still benefit. Though Reliance Industries Ltd (RIL) is also in the exploration space, analysts say, since its output from the KG basin has been falling, it may not benefit from rising oil prices. While the impact of high crude prices is positive for upstream companies, downstream firms will see underrecoveries pile up if the prices of petroleum products are not increased. According to Sanjeev Panda of Sharekhan, if the government revises LPG and diesel prices and oil marketing companies raise petrol prices, it would benefit downstream companies as the pressure of underrecoveries would ease.
Kotak Institutional Equities sees downside risks to RIL’s the earnings from refining, thanks to a sharp decline in refining margins over the past month. Singapore complex refining margins fell sharply to $1.5/bbl for the week ended March 2, from $3/bbl at the beginning of February 2012, it said. Kotak is modelling RIL’s refining margins for FY14 at $9.2/bbl and $9.7/bbl, respectively, but sees large risks to these assumptions.
Petrochem margins, too, have been declining on increase in naphtha prices, led by a sharp rise in crude oil prices. Given that the slowdown in Europe has affected demand, the company may not be able to pass on a further rise in input costs for the petrochemicals business either.