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GRM recovery key to outlook

Indian Oil Corporation’s (IOC) Q1FY22 consolidated EPS is up 2.7x YoY, despite fall in net marketing margin and core GRM, driven by petrochemical EBITDA jump and inventory gain vs loss in Q1FY21. Hefty hike in domestic prices and fall in international prices from peak has meant auto fuel net marketing margin is on track to be in line with our FY22 estimate of Rs2.5/l.

IOC’s GRM is weak in FY22-TD and recovery in diesel cracks is key to GRM rising to our FY22 estimate of US$3/bbl. The net impact of factoring the market value of investments (rise by Rs3/share), cutting diesel sales volume (-8% in FY22E vs -20.6% in Q1) and pipeline EBITDA (Rs63bn in FY22E vs Rs15.7bn in Q1) is cut in FY22E EPS by 3% and target price by 3% to Rs107 (4% upside). We maintain HOLD on IOC.

* Q1 EPS up 2.7x YoY driven by inventory gain and petrochemical EBITDA jump: Standalone Q1FY22 recurring EPS is up 3.1x YoY driven by: 1) 2.7x YoY surge in petrochemical EBITDA to Rs19.9bn, 2) GRM of US$6.58/bbl including inventory gain of US$4.34/bbl vs GRM of minus US$2.0/bbl in Q1FY21, and 3) estimated 99% YoY rise in product inventory gain to Rs27.7bn. Core GRM at US$2.24/bbl is down 49% YoY. Q1 EPS was up YoY despite 77% YoY fall in net marketing margin to Rs1.4/l. Excluding inventory gain/loss, Q1 standalone EPS is down 80% YoY. Q1 consolidated EPS YoY growth at 2.7x YoY is more modest than standalone as rise in share of profit of JV/associates is more modest than that of IOC at 57% YoY and profit of subsidiary Chennai Petroleum is down 80% YoY.

* Marketing margins appear on track to be at ~Rs2.5/l in FY22E: Adequate (Rs9- 11.28/l) hike in domestic diesel and petrol prices in FY22-TD and modest fall in international prices from 6-Jul’21 peak has meant that net auto fuel marketing margin is at Rs2.56/l on 30-Jul’21 and Rs2.75/l in Q2FY22-TD vs Rs1.43/l in Q1FY22 and Rs1.76/l in FY22-TD. Net margin is estimated at Rs3.39/l for 1-Aug based on international prices in 16-29 Jul’21 and at Rs2.69/l at latest international prices. If domestic and international prices remain at current levels, FY22E net margin would work out to Rs2.41/l vs our FY22E estimate of Rs2.5/l.

* Q1 core GRM 25% below FY22E GRM; diesel cracks rebound key to GRM recovery: IOC’s Q1FY22 core GRM at US$2.24/bbl is 25% below our FY22 estimate of US$3/bbl. Reuters Singapore GRM is at an 8-quarter high driven by petrol cracks at 7-quarter high in Q2FY22-TD. However, diesel cracks continue to be weak at US$5/bbl and their rebound to pre-covid level of US$11/bbl is key to GRM recovery.

* Cut FY22E EPS and target price: We have cut IOC’s FY22E diesel sales volume to assume 8% fall over FY20 levels vs 3% fall assumed earlier and cut pipeline EBITDA to assume it at the same level as in FY20 (3.5% rise assumed earlier). The net impact of these changes and factoring the market value of investments is cut in FY22E EPS and target price by 3% to Rs107. Diesel cracks rebound is key to GRM recovery, which we see as being crucial to improve IOC’s stock performance.

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