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Energy (Oil & Gas) / India

2012 Outlook: Indian Oil and Gas

Stable Despite a Challenging Environment
Outlook Report
Rating Outlook

Rating Outlook
Stable Despite Challenges: Fitch Ratings Outlook on both public and private sector Indian oil and gas companies is Stable despite various challenges including increasing fuel subsidy burden on public sector companies (PSCs) and an uncertain global macroeconomic environment. Strategic Importance to Government: Outlook on the Indian public sector oil and gas companies is Stable for 2012, based on Fitchs expectation of no weakening of the ties between the government and its majority-owned oil companies, which dominate the sector. The agency links the ratings of these companies with that of the sovereign because of the strategic importance of the sector and the evidence of tangible financial support. Consequently, these companies Stable Outlooks reflect that of the sovereign. Slow Reforms Increasing Subsidies: While high crude oil prices and a depreciating INR contributed to increased under-recoveries (caused where retail price is lower than market price), a lack of policy reforms still remains the key reason for the burgeoning under-recoveries. There is also a lack of policy reform to improve timeliness of subsidy transfer to public sector oil marketing companies (OMCs). Since Fitch does not expect much fuel-pricing reforms in 2012, under-recoveries will remain high unless crude oil reduces significantly or INR appreciates. OMCs Half-Yearly Results: All three public sector OMCs reported EBITDA losses in H112 (ended September 2011) due to increased under-recoveries. However, Fitchs ratings on these companies are based on its expectation of continued sovereign support to these companies, given their role as the government's extended arm for policy implementation, and consequently, these ratings are not likely to be affected. Private Refining Sector: Refining margins are expected to soften from the 2011 levels as global demand growth slows and refining capacity is added. However, Outlook on the private sector companies is also Stable given Fitchs expectation of earnings and capital expenditure. Overcapacity in Domestic Refining: Indias surplus in refining capacity will increase with the commissioning of new facilities in the medium term. Public sector downstream companies benefit from subsidy support. The surplus refining capacity mostly lies in the private sector, which can export a significant part of the production on a sustained basis.

STABLE

Figure 1

Rating Outlooks
(%) 1 00 80 80 60 40 20 20 0 P o sitive So urce: Fitch 0 Stable Negative

What Could Change the Outlook

Related Research
2012 Outlook: Asian Oil Related Research & Gas (December 2011)

Weakening of Government Link: The public sector OMCs could move to a Negative Outlook if their links with the government weaken. However, the risk of this happening is considered low. Sovereign Outlook: Any change in the sovereigns rating Outlook will lead to a similar change in its majority-owned companies Outlook. Private Sector: Some private sector companies Outlook could move to Negative if debtfunded capex steps up significantly, or earnings are significantly lower than projected, due to depressed global economic conditions.

Other Outlooks www.fitchratings.com/outlooks Other Outlooks

www.fitchratings.com/outlooks 2012 Outlook: Asian Oil & Gas (December 2011)

Analysts Analysts

Abhinav Goel +91 11 4356 Abhinav Goel7240 Abhinav.goel@fitchratings.com +91 11 4356 7240 Abhinav.goel@fitchratings.com Pragya Bansal Pragya 4356 7253 +91 11 Bansal +91 11 4356 7253 pragya.bansal@fitchratings.com pragya.bansal@fitchratings.com

www.fitchratings.com

20 January 2012

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Key Issues
Under-Recoveries Increasing but Strategic Importance Intact
The credit profiles of all PSCs in the oil and gas industry are supported by the strategic importance of the industry to the government of Indias socio-economic policies and the PSCs continued dominance of the industry.
Figure 2

Subsidy Sharing
(INRbn) Gross under-recovery Auto fuels Cooking fuels Less: upstream contribution Less: government support Net under-recovery of downstream PSCs
Source: Industry

FY07 494 208 286 205 241 48

FY08 771 426 345 257 353 161

FY09 1,033 575 458 320 713 -

FY10 461 145 316 144 260 57

FY11 780 375 405 303 410 67

H112 649 377 273 216 150 283

Figure 3

Slow policy reforms in the Indian oil sector increase under-recoveries of OMCs and lead to skewed use of fuels. While the Indian government de-regulated petrol prices in June 2010, the way retail petrol prices are revised hints that the government still has some say in petrol pricing. Moreover, partial deregulation has led to misdirection of subsidy defeating the Indian governments intent of reducing the subsidy burden. This is evident from the increasing use of diesel in private vehicles and power generators, which are not the intended beneficiaries of the subsidy. This pushed the governments estimated diesel under-recovery for FY12 to INR670bn, of a total of INR1.3 trillion. This means diesel could account for more than 50% of underrecovery in FY12 against the 39% in FY11. The Indian government made little headway in controlling LPG and kerosene subsidies as well and given the political uncertainty, it remains unlikely that any progress will be made during 2012.

Currency Movements* Against USD

Currency Indian rupee Chinese yuan Brazilian real Russian ruble South Korean won Thai baht Japanese yen
Source: Reuters *From 1 January to 31 December 2011

INR Depreciation Increasing Under-Recoveries

The INR was the worst performing major Asian and BRIC currency against the USD in 2011. Since India imports a significant part of its crude oil requirement for domestic consumption (83% in FY11), oil cost in local currency terms increases even if international crude prices are stable. According to the government of India, every rupees depreciation against the USD is leading to an additional INR80bn outflow on oil imports on an annual basis, thus adding to under-recoveries. Private sector companies, however, are able to manage the risks better due to an export-led strategy though the timing impact could lead to mismatches.

Change (%) -16.6 4.5 -10.1 -7.7 -3.9 -3.5 7.2

Half-Yearly Results of OMCs

All public sector OMCs reported EBITDA losses in H112 despite accounting for Indian government subsidies of INR82bn by IOC, INR35.2bn by BPCL and INR32.7bn by HPCL. Fitch still maintains a stable Outlook on these companies based on its expectation of continued sovereign support to these companies, given their role as the government's extended arm for policy implementation. Continued support is evident from the governments additional subsidy grant of INR150bn to these companies after Q212 results.
Figure 4

H112 Financial Results

(INRbn) Revenue EBITDA Interest PAT Borrowings Indian Oil Corporation H112 H111 1,816.7 1,414.3 -71.8 42.0 25.2 10.8 -112.0 19.1 732.9 442.0 Hindustan Petroleum H112 H111 778.3 599.3 -54.4 9.5 5.7 4.2 -64.4 2.0 312.5 224.0 Bharat Petroleum H112 H111 884.0 696.3 -48.6 10.8 7.9 5.1 -57.9 4.2 247.3 209.7

Source: Company reports

Related Criteria
Corporate Rating Methodology (August 2011)

2012 Outlook: Indian Oil and Gas January 2012

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FY09 recorded the highest gross under-recovery before FY12. Since these companies were facing the double whammy of higher gross under-recovery and inventory losses in FY09, the Indian government increased its financial support substantially to INR713bn (FY08: INR353bn) to ensure that net under-recoveries of OMCs was zero (though a large proportion of it was in the form of bonds), after which, the government of India moved to a system of cash subsidies, which in Fitchs opinion demonstrates a higher commitment despite net under-recoveries. In FY12 Fitch expects gross under-recoveries to exceed that of FY09; the Indian government already announced support of INR300bn for the OMCs, and the upstream contribution in H112 was INR216bn (FY09: INR320bn). Fitch believes the government will support OMCs to ensure they keep meeting their obligations in time. OMCs borrowings increased in H112 partly due to the time gap between the announcement of subsidies and actual release of funds by the Indian government. The first tranche amounting to INR80bn of the budgetary support of INR300bn for H112 was released only towards the end of December 2011..

Domestic Surplus Refining Capacity to Continue

India will have surplus refining capacity as more facilities are under construction, and are due to be commissioned in the short to medium term, by PSCs and private companies. In FY10 the petroleum product consumption was 138.6mmtpa against a refining capacity of 184.4mmtpa.
Figure 5

Planned Refining Capacity Additions

Company HPCL Mittal Energy Limited Bharat Oman Refineries Limited Essar Oil Limited Location Bhatinda Bina Vadinar Capacity (MMTPA) 9 6 6 (expansion) 15 6 Expected date of commissioning Partially commissioned from Sep 2011; full commissioning by March 2012 Commissioned in May 2011 Partially commissioned in December 2011 for additional 4 mmtpa; fully operational by Sep 2012 June 2013 March 2012

Indian Oil Corporation Limited Nagarjuna Oil Corporation Limited

Source: Industry

Paradip Cuddalore

2011 Review
In line with Fitchs expectation of continued support from the Indian government to national oil companies, ratings and outlooks of these companies remained Stable. In the private sector, Outlook on RILs LC IDR was revised to Positive from Stable reflecting the likelihood of RIL's credit metrics strengthening further, after the closure of its deal with BP Plc (BP, 'A'/Stable), subject to no major investment announced in the near term. All ratings of RIL were affirmed; the FC IDR is constrained by the country ceiling. The National Long-Term Rating of GSPC Gas was upgraded in 2011 reflecting the improvement in its financial leverage in FY11 and Fitch's expectation that the company will sustain this leverage profile over the medium term. Ratings and outlooks on all other private sector entities remained Stable as their credit profile remained in line with Fitchs expectations.

2012 Outlook: Indian Oil and Gas January 2012

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Figure 6

India Oil & Gas Coverage

Ratings Headroom FC IDR/ Outlook Essar Oil Limited GAIL (India) Limited GSPC Gas Company Limited Hindustan Petroleum Corporation Limited HPCL Mittal Energy Limitedc HPCL Mittal Pipelines Limitedc Indian Oil Corporation Ltd Jubilant Energy (Kharsang) Pvt. Ltd Jubilant Offshore Drilling Private Ltdc Petronet LNG Ltd Reliance Industries Ltd BBB/Stable Fitch A(ind) Fitch AAA(ind) Fitch A+(ind) Fitch A+(ind) Fitch AAA(ind) Fitch BBB (ind) Fitch BBB (ind) Fitch AA(ind) Fitch AAA(ind) Stable Stable Positive Positive Stable Stable Stable Stable Stable National Long-Term Ratings Fitch BBB (ind) National LT Rating Outlook Good Stable x x x x x x x x x x EBITDAR/ Adj. net debta/ Free cash flowb net fixed operating charge (x) EBITDAR (x) (INRm) 3.6 8.3 -40,860.9 30.5 7.4 17.8 8.3 19.7 7.3 -170.4 0.8 1.4 6.4 3.3 10.0 -39,466.7 -1,250.5 -60,600.0 -87,199.8 -232.8 -

Medium Low x

BBB/Stable

BBB/Stable

1.6 -2,821.3 1.3 -107,023.5

Full-year numbers to March 2011 a Net debt plus capitalisation of operating lease obligations plus other off-balance-sheet debt b After dividends c Companies in project phase at FYE11 Source: Fitch

2012 Outlook: Indian Oil and Gas January 2012

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2012 Outlook: Indian Oil and Gas January 2012