Karachi, December 02, 2021 (PPI-OT): Much-awaited margin revision finally takes place!

Based on a study by PIDE, ECC has approved increase in margins of Oil Marketing Companies (OMCs) by PkR0.71/liter to PkR3.68/liter while the margins for dealers have been increased by PkR0.99/liter to PkR4.90/liter on petrol.

The recent increase in margins is expected to result in incremental EPS impact of PkR5.0/5.2/sh for FY22 for APL/PSO, assuming margins get implemented from Jan’22 and given the retail business is mostly cash based, this will improve PSO’s liquidity as well

If we incorporate revised margins and CPI indexation moving forward, EPS estimates of PSO for FY23/24 increase by PkR18.2/18.2/sh to PkR49.4/61.8. For APL, estimates for FY23/24 increase by PkR13.2/15.6 to PkR62.8/72.9/sh.

APL remains our top pick from the sector with i) company’s low leverage protecting it against any increase in interest rates, ii) high payout ratio of the company providing it attributes of a defensive play, and iii) improved storage network of APL is expected to aid in enhancing market share.

OMC margins increase by PkR0.71/liter: A study by Pakistan Institute of Development Eco- nomics (PIDE) was conducted to determine the basis for revision in OMC margins and as per our channel checks, four recommendations were provided by PIDE which were i) inflation- indexation approach where 50% of the margins were proposed to be revised by CPI annually

while other 50% to be revised once in two years based on interest rates, ii) margins to be deter- mined as a percentage of retail prices, iii) complete deregulation of margins, and iv) discounted cash flow approach where cash flows from standard operations were discounted based on CPI and a risk free rate of return whereby PIDE concluded that to cover deficit of last five years for OMCs, margins need to be increased by PkR0.71/liter. The recommended option according to the summary was the fourth one hence, the recent approval by ECC has resulted in an increase in OMC margins of PkR0.71/liter. To note, last increase in margins took place in Apr’21 of 5.7% which was overdue by 9 months.

Bottomline of PSO and APL to significantly improve: The recent increase in margins is expected to result in incremental EPS impact of PkR5.0/5.2/sh for FY22 for APL/PSO, assuming margins get implemented from Jan’22 and given the retail business is mostly cash based, this will improve PSO’s liquidity as well. Even though the margins have been increased, we await clarity on the mechanism to be adopted moving forward before incorporating it into our estimates. However if we incorporate revised margins and CPI indexation moving forward, EPS estimates of PSO for FY23/24 increase by PkR18.2/18.2/sh to PkR49.4/61.8. For APL, estimates for FY23/24 increase by PkR13.2/15.6 to PkR62.8/72.9/sh. However, if margins are not revised annually in-line with CPI, the EPS estimates for PSO stand at PkR44.7/53.2 for FY23/24 while for APL, they stand at PkR59.0/64.2. To note, with the expected decline in furnace oil sales, reliance on retail fuels will only increase moving forward, making companies more sensitive to any change in margins.

Outlook: Given the worsening macroeconomic indicators, broader market has been under pressure lately and the same will have its impact on OMCs as well. However, once the knee-jerk reaction settles down, we expect OMCs to perform where APL remains our top pick given i) company’s low leverage protecting it against any increase in interest rates, ii) high payout ratio of the company providing it attributes of a defensive play, and iii) improved storage network of APL expected to aid in enhancing market share. PSO on the other hand is expected to suffer from= increased circular debt build up in light of higher power production on furnace oil and increasing prices of LNG. However, recent clearance of circular debt can result in PSO receiving late payment surcharge, hence improving company’s liquidity while recent increase in margins will also provide additional PkR2.5bn in 2HFY22. The defining factor for the company will be power sec- tor reforms (increase in tariffs of electricity and gas), which if implemented, can result in re- rating of the stock.