Fuel Margins Surge Back Above Pre-Conflict Levels Amid Lower Crude Prices

Fuel Margins Surge Back Above Pre-Conflict Levels Amid Lower Crude Prices​

Composite Margins Recover as Low Crude Prices Boost OMC Profitability​

Profitability for state-run oil marketing companies (OMCs) is showing signs of recovery, with composite margins on petrol and diesel sales now surpassing the levels seen before the Middle East conflict. This improvement is primarily driven by steadily falling crude oil prices and crucial reductions in central excise duties.

JP Morgan reports that while losses on LPG remain elevated, the overall trend points towards improved profitability for OMCs as they navigate a complex market environment. The composite margins of state-run refiners and fuel retailers are now stronger than pre-war benchmarks.

Reduced Excise Duties Key to Margin Restoration​

The recovery in fuel margins is heavily attributable to the government's policy decision to maintain lower excise duties on petrol and diesel. In March, the government had cut excise duty by Rs 10 per litre each to cushion the retail price increase.

This duty reduction allows a greater share of the retail fuel price to accrue to OMCs. Analysts estimate that this move cost the government approximately Rs 1.8 lakh crore annually in forgone revenue. This single factor is crucial in restoring operational profits to these companies.

Q2 Earnings Outlook and Company-Specific Gains​

The margin environment suggests a stronger earnings potential for the sector beginning from the second quarter onwards. JP Morgan estimates that OMCs could report robust earnings during the December and March quarters, provided crude prices remain subdued.

Among the three state-run OMCs (Bharat Petroleum Corporation Limited, Indian Oil Corporation, and Hindustan Petroleum Corporation Limited), BPCL and IOC are expected to benefit most in the near term if oil price easing continues. Margins for both companies have returned to or exceeded pre-conflict levels. HPCL's margins have also largely recovered sufficiently.

Headwinds: Debt Accumulation and Tax Uncertainty Loom Large​

Despite the margin improvements, JP Morgan highlights significant issues that limit long-term excitement around this profitability boost. The OMCs accumulated substantial debt over recent months while absorbing losses stemming from the sale of fuel products.

First-quarter earnings are likely to face pressure due to inventory losses caused by the decline in crude prices. Furthermore, a major part of the current margin restoration is directly linked to the excise duty reduction, raising questions about long-term sustainability.

Future Outlook Tied to Crude Price and Policy Risks​

The sector's future performance remains deeply tactical, tied closely to global movements in crude oil prices and subsequent government tax policy decisions. The company OMCs are currently facing pressure from high borrowings after absorbing losses across various fuel types.

Analysts caution that while the government may allow higher margins for a period to aid debt repayment, there is an underlying risk of eventual increases in excise duties. The stronger margin environment could fully support earnings provided refining margins remain elevated and crude prices stay below USD 80 per barrel.