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Sep 21, 2006 at 10:07am IST

Asian GRM crash threatens petro cos

Mumbai: Asian GRMs (Gross Refining Margins) have crashed in the second quarter and domestic standalone refineries like RIL, Kochi and Chennai Petro are likely to be worst hit. S Varatharajan of Motilal Oswal and Jigar Shah of K R Choksey Securities give their views.

Vartharajan believes that the fall in crude prices is very positive for oil marketing companies. He further states that it is basically the standalone PSU refineries, who will get hurt the most with the fall in GRMs.

Jigar Shah opines that Reliance and MRPL would be less affected as compared to other standalone refineries.

UNDER THREAT: Reliance and MRPL would be less affected as compared to other standalone refineries.

Exclusive interview with S Varatharajan and Jigar Shah:

Q: What have you made of the kind of slide that has come into crude prices and what will be the impact on GRMs for all the standalone refineries?

Varatharajan: There are two sides to it, one obviously, is that the fall in crude prices is very positive for oil marketing companies. They are already positive on gasoline under-recoveries and diesel, LPG and kerosene have also come down very sharply.

So they will benefit from it and as far as the standalone refineries are concerned, they will get hit in a big way especially because the GRMs have come down and incrementally the discounts, which they give on LPG and kerosene start hurting when actually the GRMs are falling.

As far as oil marketing companies are concerned, the under-recoveries on marketing would have come down but the oil bonds coming in the current quarter would actually be a big boost as far as Q2 numbers are concerned.

But overall net-net, it is basically the standalone PSU refineries, who will get hurt the most. As far as Reliance is concerned, obviously they will benefit in the form of a very high petrochemical margin during the quarter. So these two factors not moving in tandem definitely is helpful for Reliance.

Q: On GRM's role, how much do you see it coming down for Reliance?

Varatharajan: They usually have a premium of $3.5-4 over Singapore. We are looking at Singapore for the current quarter at around $4.7. It is at $3-3.5 levels today, but for the first two months, we are slightly higher.

So it is likely to end with $4.7-4.8 compared to last quarter's $9. So there is a significant fall but Reliance should still report somewhere around $7.5-8.

Q: How have you read the drop in crude prices and what might be the impact for smaller companies like Kochi and Chennai Petro?

Shah: Kochi and Chennai Petro will definitely find it a little difficult because of the drop in the prices and with the benchmark margins coming down. However, all of these have given discounts in their prices to the marketing refineries during the quarter in the last year. And therefore, I think those discounts should be lesser because on the under-recovery side, these marketing companies are likely to do better.

So net-net, I think they should not have a very significant impact, but definitely there could be a marginal impact on all the other refineries. MRPL has a different product slate compared to others and MRPL showed good margins last quarter as well. I think MRPL should do better than others because they export.

Similarly, since Reliance exports and they have better product slate, they will continue to maintain those differentials. Even IOC had good margins after adjusting the under-recoveries last quarter.

So I think Reliance and MRPL should be less affected as compared to other standalone refineries. Even later on, they are also trying to integrate Kochi Refinery with BPCL and the other refineries also should follow suit in sometime. This would give them better cost efficiencies than what they have at the moment.

Q: What is your top pick from the oil universe at this point?

Shah: Certainly, Reliance Industries. Given the kind of integration benefits that they would enjoy, when crude is down, they would make more money on petrochemicals and vice-versa. So I think they have been able to manage the whole situation in the most effective manner to their advantage. And therefore, Reliance would certainly be my pick.

Also due to other developments on the SEZ and on the retailing front, I think Reliance continues to be the most attractive, though it is the most premiumly valued, on a forward basis also. But it continues to have sustainability in its earnings.

Q: What is your top pick from the oil universe?

Varatharajan: Reliance, for additional reasons, which would be E&P (Exploration and Production). We are looking at large upsides from E&P, specifically more from retail and SEZ at this point in time.

Other picks are obviously BPCL, HPCL and IOC, given the fact that crude has fallen. My belief is that fundamentally crude is headed down, though geopolitical tensions could cause crude to reverse for a short period of time. So in that scenario, the gainers are BP, HP and IOC.

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