India Ratings & Research (Ind-Ra) believes that the Indian government's decision to rollover the fuel subsidy of Rs 350 billion to FY15 in an attempt to contain the fiscal deficit will increase the cash flow mismatches of oil marketing companies (OMCs). This is likely to result in the deterioration of their stand-alone credit profile. Ind-Ra continues to rate OMCs based on their strong strategic and operational linkages with the government of India (GoI), which remain intact.
GoI has allocated Rs 2,460 billion towards food, fertiliser and fuel subsidy for FY15 with the fuel subsidy being the same as in FY14 at Rs 650 billion. There is a strong possibility that this could be insufficient in real cash flow terms given that over half of the subsidy would be consumed by the rolled over amount of FY14. OMCs are compensated for the losses made on selling regulated products at subsidised rates by way of subsidies from the government and discounts from upstream companies.
The estimated gross under recovery for FY14 is just above Rs 1,400 billion. Assuming the proportion of sharing of the burden similar to the last two years (GoI: 60%, upstream companies: 40%), the government needed to provide for a subsidy of around Rs 850 billion for FY14. Accordingly, the government has revised their budgeted estimate to Rs 855 billion from the initial Rs 650 billion.
The aggregate subsidy liability for FY14 would be higher by Rs 450 billion at around Rs 1,850 billion, considering the rollover subsidy from FY13. Thus, the subsidy burden on upstream companies and OMCs would be Rs 645 billion for FY14, after accounting for Rs 855 billion budgetary support and Rs 350 billion rollover to FY15. This would mean that either the upstream companies would bear a higher burden than in the last two years or OMCs would be obliged to bear a part of the subsidy.
Over FY11-FY13, upstream companies shared around 37%-40% of the burden with the balance being borne majorly by the government. OMCs had been forced to bear a significant portion (9% in FY11) only once during this period. In the past two years, the subsidy burden on OMCs has been negligible at below 1%. The share of upstream companies has increased to around 48% in 9MFY14. However, this is likely to reduce for the full year as GAIL (India) (IND AAA/stable) did not share the subsidy burden in 3QFY14 and is unlikely to provide significant discounts in 4QFY14. If OMCs are forced to bear a significant share, their already fragile finances could deteriorate significantly.
While OMCs' share has been negligible in the past two years, due to the time lag with respect to the actual transfer of subsidy, managing cash flow mismatches has become a challenge. This is likely to persist in FY15. Out of around Rs 258 billion accounted for by Hindustan Petroleum Corporation (AAA/ stable), Bharat Petroleum Corporation and Indian Oil Corporation ('AAA'/ stable)as subsidy from the government during 1HFY14, only around 30% was actually received during that period and around 30% was still pending to be received even at end-January 2014.
The ratings of the OMCs Indian Oil and Hindustan Petroleum are based on their significance to the government and the tangible financial support they receive through subsidies. Thus, if the OMCs are forced to bear a significant part of the GUR burden, it could impact Ind-Ra's assessment of their linkages with the government. If the government absorbs any under recovery burden above the budgeted amount, it could still impact OMCs' stand-alone profile. This is because of the likely delays in the release of subsidies, possibly causing the OMCs to take up additional short-term debt to help resolve cash flow mismatches.
