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HRRL start-up the key catalyst in FY26E

* HPCL missed our EBITDA estimate in 1QFY25 due to lower-than-expected marketing margin of INR3/lit (est. of INR4.1/lit). The miss was largely due to LPG-related under-recoveries of INR23.5b in 1Q.

* Refinery throughput was above estimate at 5.8mmt (up 7% YoY). The company expects refining throughput to improve post-commissioning of the expanded capacity at Visakh refinery. Singapore GRM (SG GRM) has been inching up to close to ~USD5/bbl now vs. USD3.5/bbl in 1QFY25, which should support refining performance in 2QFY25.

* In the marketing segment, sales volumes came in line with our est. at 12.6mmt (up 7% YoY). OMCs are currently earning a gross marketing margin higher than our assumption of INR3.3/lit for both petrol and diesel. Among OMCs, HPCL has the highest leverage to marketing and would benefit the most due to an uptick in marketing margins.

* Commissioning of the bottom upgradation unit at Vizag refinery would result in the distillate yield improving 10% from 4QFY25. The company expects to maintain a GRM delta of USD3.5/bbl over SG GRM. De-merger of lubricant business also provides value-unlocking opportunity.

* HPCL took a hit of INR23.4b due to LPG under-recoveries in 1QFY25. However, LPG being a controlled product, HPCL remains hopeful of financial support from the government. Owing to LPG under-recovery, we cut our FY25 EBITDA/PAT estimates by 23%/35%; we conservatively account for these losses now, though potentially OMCs could receive financial assistance related to LPG in due course of time.

* We reiterate our BUY rating on the stock, valuing it by SoTP method to arrive at our TP of INR460. The start-up of the Rajasthan refinery (HRRL; HPCL has 74% stake) can be a key catalyst in FY26, in our opinion.

EBITDA/PAT lower than estimates due to LPG “losses”

* HPCL’s EBITDA stood at INR21b in 1QFY25 (vs. our estimate of INR33b).

* The miss was due to the LPG under-recovery of INR23.5b, which we believe could be reversed in due course as the LPG remains a controlled product.

* Refining throughput was 7% above our estimate at 5.8mmt (+7% YoY). Reported GRM was 14% below our estimate at USD5/bbl (-32% YoY).

* Marketing volumes stood at 12.6mmt (est. 12.2mmt), up 7% YoY.

* Marketing margin (including inv.) stood at ~INR3/lit (est. INR4.1/lit), down 64% YoY. The miss is likely attributable to LPG under-recovery.

* PAT came in at INR3.6b (vs. our estimate of INR12.4b) due to lower-thanestimated other income.

* As of Jun’24, HPCL had a cumulative negative net buffer of INR24.4b, due to the under-recovery on LPG cylinders (INR1b as of Mar’24).

1QFY25 highlights:

Operational performance:

* HPCL clocked its highest-ever quarterly sales volume of 12.63mmt (including exports), implying 0.25% market share gain among PSU OMCs.

* Lubricant business sales stood at 152tmt (+3% YoY). Additionally, it posted the highest-ever petrochemical sales of 30.3tmt in 1Q.

* The highest-ever pipeline throughput of 6.83mmt was recorded in 1Q.

* HPCL has commissioned 126 new retail outlets nationwide, bringing the total number of outlets to 22,148.

* The company achieved the highest-ever Ethanol blending of 14.3% in 1Q

Update on ongoing projects:

* A capex of INR20.2b was incurred in 1QFY25

HRRL:

* Key process units, diesel hydro-treating (DHDT), and hydrogen generation unit (HGU) are currently in the pre-commissioning phase. The overall physical progress of the project has surpassed 80%.

* As of Jun’24, total commitments stood at INR698.5b and capex was INR480b.

* Visakh Refinery: The 3.55mmtpa residue upgradation facility at its Visakh refinery, one of the largest and most energy-efficient residue hydrocracker units globally, is anticipated to be mechanically completed in 2QFY25, with the commissioning expected in 3QFY25.

Other highlights

* During 1QFY25, HPCL’s lubricants division introduced new brands, including Finit, Rustop HP-50, and the premium brand Futur-X.

* It has finalized three master sales purchase agreements (MSPAs) with suppliers for sourcing spot LNG cargoes, bringing the total number of MSPAs to eight

Valuation and view

* HPCL remains our preferred pick among the three OMCs. We model a marketing margin of INR3.3/lit for both MS and HSD in FY25-26E, while the current MS/HSD marketing margins are INR6.9/lit and INR4.9/lit, respectively. We see the following as key catalysts for the stock: 1) demerger and potential listing of lubricant business, 2) the commissioning of its bottom upgrade unit, and 3) the start of its Rajasthan refinery in 4QFY25’end.

* HPCL currently trades at 1.5x FY26E P/B, which we believe offers a reasonable margin of safety as we estimate FY26E RoE of 18.3%. Our SoTP based TP includes:

* The standalone refining and marketing business at 6.7x FY26 EV/EBITDA.

* INR33/sh as potential value unlocking from de-merger of the lubricant business.

* HMEL at 8x P/E based on its FY24 PAT (HPCL’s share), deriving a value of INR35/share.

* Chhara Terminal at 1x P/B, and HPCL’s HRRL stake at 0.5x of HPCL’s equity investment in the project to date. MRPL stake is valued at MOFSL’s TP.

* All these lead to a revised TP of INR460. Reiterate BUY.

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