profitability and capex for these companies to the lower levels currently implied. Such low levels of cash generation, however, should not be sustained in the long run.
Differentiating among the three: BPCL has been able to sustain its RoE better than the other two OMCs—some of which may be due to its weighted average inventory accounting policy. We use net operating cash flow (as reported by the companies annually) per ton (of refining + marketing volumes) and the cash conversion cycle to assess the divergence in core operating performance. BPCL has been able to manage its businesses better. The cash flow per tonne as well as the cash conversion cycle for BPCL is better than both HPCL/IOC. Even on leverage metrics, BPCL appears less stressed. Its net debt to equity (1.8x) is lower than that for HPCL. Debt-to-Ebitda (FY13 actual, including other income at 3.7x) is lower than that for HPCL (8.6x) and IOC (5.1x).
Upgrade stocks: As we see limited potential downside to valuations, we upgrade BPCL to Outperform (target price to R376 from R283) and HPCL to Neutral (TP to R194 from R261). IOC has a proportionately higher refining capacity and the implementation of export parity could erode RoEs (return on equity) more than that for BPCL/HPCL; the new Paradip refinery could struggle to make reasonable margins as well. However, large investments/holdings and the pipeline business mean downside from current levels is limited.
Given its greatest leverage to the regulated business, HPCL has the most to gain from any regulatory improvement. The timing and form of regulations in the space are difficult to predict, and our upgrades are based on a valuation argument. Should the Barmer refinery project proceed, HPCL’s leverage would increase further. We, therefore, prefer BPCL—for which we estimate 90% of current market capitalisation is explained by its investment and E&P businesses.