On the path of reforms - Oil Price Deregulation

In a meeting held on Friday, June 25, 2010, the Empowered Group of Ministers (EGoM) took a major policy decision on the country's retail fuel pricing. After long deliberation for more than a year, the EGoM has freed the price of petrol from the government's control. On an immediate basis, petrol price has increased by Rs3.7/litre. Diesel prices have been also increased by Rs2/litre and are to be deregulated in a phased manner. However, no timeline for the decontrol has been mentioned. In the cooking fuel segment, domestic LPG prices have been increased by Rs35/cylinder, and kerosene price by Rs3/litre. However, cooking fuels will continue to be subsidized.

While the announcement of petrol deregulation is in line with our expectation, the announcement of the deregulation of diesel prices and increase in prices of kerosene and domestic LPG has surprised us positively. However, absence of
1. the timeline of the diesel price deregulation
2. the frequency of change in petrol price
3. pricing limit (band) for petrol price
takes some sheen off the decision.

We were also pinning hopes on the announcement of the subsidy-sharing formulae. However, the absence of the same has left us a bit disappointed, as it makes it difficult to judge the beneficiaries of the move. All said, we believe the policy change is a significant step in the right direction and has come as a positive surprise for PSU oil companies, viz. ONGC, OIL India, GAIL, IOC, HPCL and BPCL. In case of upstream companies, we were already building in the proposed moves and the same was reflected in higher-than-consensus EPS estimates for ONGC and GAIL.

We believe downstream oil companies are likely to be key beneficiaries of the deregulation on the following counts:
• Reduction in overall subsidies to manageable limits
• Subdued outlook on crude oil prices
• Improved profitability situation of upstream companies post the APM gas price hike, enables them to bear a relatively higher subsidy burden
• Government efforts towards divestment in IOC
Thus, we believe, while the move is likely to benefit downstream oil marketing companies, the same is likely to be neutral for upstream oil companies.