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Refining margins strong; leverage to weigh on valuation 

Hindustan Petroleum Corporation’s (HPCL) Q4FY22 standalone EPS was down 40.5% YoY – hit by YoY plunge in marketing earnings but offset by stronger throughput and a 4-year high GRM in Q4. Marketing volumes of 10.7mt were up 5.2% YoY (+1.2% QoQ), ahead of I-Sec estimate of 10.4mt. However, implied marketing margin is among the lowest ever, driven by Rs1.4/ltr net loss for petrol and Rs1.6/ltr net loss for diesel retail sales in Q4. FY22 EBITDA of Rs101.76bn and PAT of Rs63.8bn were down 36% and 40% YoY respectively. FY23E prospects appear muted despite the assumption of double-digit GRMs, with negligible marketing earnings to offset this advantage. FY24E is likely to see sharp recovery, with 3x refining throughput, thanks to commissioning of ~7mtpa Vizag, 4-5mtpa of Rajasthan refinery (50% share) and the expected MRPL merger (~12mtpa) apart from some recovery in marketing. We remain cautious however due to the corresponding sharp increase in leverage and sharp decline in return ratios over FY22-FY24E. Reinitiate coverage with ADD and EV/EBITDA-based target price of Rs260/sh, offering ~7% upside.

Refinery margins strong; marketing weak for Q4: Refinery throughput of 4.7mt reflecting >105% utilisation for Q4 was the strongest in four years and GRMs of US$12.4/bbl (including undisclosed inventory gains) were also at multi-year highs. However, while marketing volumes of 10.7mt did grow 7% YoY, marketing margins remained weak, due to continued freeze on price hikes in retail fuels and rising product prices internationally. Blended marketing margins (net of assumed inventory gains) were at Rs500/t, a multi-year low for HPCL.

Refining surge can sustain: The combination of volatile geopolitical worries, steady demand and refinery supply woes should keep GRMs elevated though we do expect some normalisation from the current levels of ~US$19/bbl (average for Q1FY23-TD till 13th May’22). We estimate average GRM of US$13/bbl for HPCL in FY23E. The more critical monitorable for the company remains its abysmal marketing margins, with the freeze on retail fuel prices implying loss on petrol/diesel at Rs1.4/1.6 per litre for the quarter. We believe H2FY23E should see some normalisation of the pricing policy. We factor-in minimal retail fuel margin of Rs0.5/litre for FY23E.

Reinitiate coverage with ADD: HPCL is on track to materially raise its refinery capacity by 9mtpa for its standalone Mumbai/Vizag refineries and another 4-5mt capacity to come via the share in Rajasthan refinery (HMEL). We also assume MRPL’s 12mt capacity to merge with HPCL by FY24E, raising refining scale materially. However, with abysmal marketing margins, DER at ~2x by FY24E (from 1x in FY21) and return ratios also dipping over FY21-FY24E, we see limited upside even from the current low valuations. Our EV/EBITDA-based valuation delivers a target price of Rs260. ADD.

Key upside risks: Faster execution of capacity expansion, faster recovery in marketing earnings, higher GRMs. Key downside risks – Lower marketing margins, lower GRMs and delays in project commissioning

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