RIL likely to clock double-digit gross refining margins

Reliance Industries (RIL) is expected to continue with its momentum of double-digit gross refining margins (GRMs) for the next few quarters on the back of the winter effect and strong fundamentals, analysts say.

Reliance Industries (RIL) is expected to continue with its momentum of double-digit gross refining margins (GRMs) for the next few quarters on the back of the winter effect and strong fundamentals, analysts say.

For the July-September 2016 quarter, RIL reported a GRM of $10.1 a barrel, compared to $10.6 per barrel reported a year ago. The company has been reporting double-digit GRMs for the past seven quarters. Analysts expect the seasonal increase in demand witnessed for petroleum products in winter to keep the momentum going.

“Margin expansion has been a very consistent theme. We see every reason for us to remain constructive both on our refining and petchem business,” said V Srikanth, joint chief financial officer for RIL, at its results press conference last week. He also attributed RIL’s healthy GRMs to its flexibility that an integrated model gives the company to capture value across the chain.

GRM is the difference between the total value of petroleum products produced by processing a barrel of crude oil, and the price of a barrel of crude oil. While a company’s ability to source cheaper crude oil variety influences its profitability, a refiner’s ability to process different types of crude as well as flexibility in altering end-product output is also important. RIL’s sourcing ability and highly complex refineries play a key role in sustaining high profitability.

“(RIL’s) GRM was at $10.1 a barrel, led by strong gasoil margins and a favourable crude mix. Premium over Singapore GRMs was $5.1 per barrel,” say Satish Mishra and Deepak Kolhe in a HDFC Securities report.

Analysts expect the onset of winters could help the company maintain its GRM performance.

“We expect the next two quarters to show stronger GRMs than what it was in the September quarter as demand for such products rises during winters,” said an analyst from a domestic brokerage firm on the condition of anonymity.

Analysts with Morgan Stanley in a 20th October report said they expect RIL’s core GRM to be $10 per barrel in the current financial year and see upside risks to their estimates based on current GRM trends.

Although the company’s GRMs were higher from the $10.6 per barrel reported a year ago, sequentially, RIL has seen a decline in its reported GRMs. For the April-June 2016 quarter, the company reported a GRM on $11.5 a barrel. However, the June quarter’s GRM also gained on the back of inventories held.

Analysts opine the company’s sequential performance might have been flattish but not better in the absence of the inventory gains seen in the June quarter. It is difficult to quantify the effect of inventory gains as the company does not disclose inventory numbers in its results on a regular basis. For the June quarter, inventory benefits contributed $2 a barrel to its GRMs, according to the estimates of Emkay Global analysts.

Beyond the winter effect, incremental margin expansion likely from the company’s petcoke gasification project is also under watch. RIL had started an ambitious $12-billion investment project for its petrochemical business. Part of this was to set up petcoke integrated gasification combined cycle plant, which is expected to be operational in the first half of calendar year 2017. The RIL management has guided for a $2-2.5 a barrel margin addition once its pet-coke gasification project is fully operational.

Analysts are, however, not convinced. “A $12 per barrel margin for a refiner at $40-$50 per barrel crude price puts the refiner at par with an exploration company in terms of margins. That math looks unlikely. I would expect margins to remain where they are now and expect a downside to $12 per barrel expected post the pet coke project,” said an analyst from a domestic brokerage firm who did not wish to be identified.

The first analyst quoted above added that he expects the petcoke project to add marginally and does not expect it to be meaningful in terms of overall GRMs.

While the coming quarters will show how much RIL will gain from the petcoke project, the broad consensus that its GRM trend will remain strong in double digits is positive given that the refining business has consistently accounted for 60-70 per cent of the company’s segment profits or earnings before interest and tax, for many quarters now.