INDIA DAILY August 9, 2018 India 8-Aug 1-day 1-mo 3-mo

Transcription

1 Contents Special Reports Strategy Daily Alerts Results Strategy: Iran, US and possible collateral damage BPCL: Weak refining performance Cipla: In-line quarter, US execution key HPCL: Weak underlying results INDIA DAILY August 9, 2018 India 8-Aug 1-day 1-mo 3-mo Sensex 37, Nifty 11, Global/Regional indices Dow Jones 25,584 (0.2) Nasdaq Composite 7, FTSE 7, Nikkei 22,541 (0.5) Hang Seng 28, (1.1) (7.1) KOSPI 2,298 (0.1) 0.6 (5.9) Value traded India Cash (NSE+BSE) Derivatives (NSE) 9,938 4,566 5,498 Deri. open interest 4,013 3,319 3,813 Siemens: Running into rough weather Forex/money market Change, basis points NMDC: A good quarter aided by lower costs Mphasis: Vaulations dim HP/DXC and Direct Core sheen City Union Bank: NII comes under pressure National Aluminium Co.: Strong quarter backed by high prices SRF: Robust performance Kalpataru Power Transmission: Steady on EPC front, turnaround in assets Sobha: Healthy metrics, reported earnings distorted Sector alerts Automobiles: State-wise demand trends in 1QFY19 8-Aug 1-day 1-mo 3-mo Rs/US$ (6) yr govt bond, % (11) 17 Net investment (US$ mn) 7-Aug MTD CYTD FIIs (394) MFs ,140 Top movers Change, % Best performers 8-Aug 1-day 1-mo 3-mo RIL IN Equity 1, SBIN IN Equity DABUR IN Equity RCOM IN Equity GCPL IN Equity 1, Worst performers TTMT/A IN Equity (10.0) (28.1) HDIL IN Equity 23 (0.4) 14.0 (27.0) TTMT IN Equity (6.7) (25.4) JPA IN Equity (8.5) (24.1) UT IN Equity (1.2) (22.9) For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES. REFER TO THE END OF THIS MATERIAL.

2 Strategy Market INDIA AUGUST 09, 2018 UPDATE BSE-30: 37,888 Iran, US and possible collateral damage. (1) The restart of sanctions on Iran by the US on the latter s withdrawal from the Joint Comprehensive Plan of Action (JCPOA), (2) the US President s recent warning to other countries about doing business with Iran, (3) Iran government s intransigence stance and (4) re-imposition of sanctions on Iran oil exports from November 5, 2018 may upset India s delicate macroeconomic balance. We do not see any mitigating factors for India and investors from higher oil prices. Nature of sanctions on oil exports from Iran will be biggest short-term variable for Indian market QUICK NUMBERS The recent statements of the US President suggest that the US government may impose hard sanctions on exports of oil from Iran, which may make it difficult for India to continue to import oil from Iran (0.68 mn b/d out of 4.3 mn b/d of imports in June 2018). Under the pre-jcpoa US sanctions on Iran, certain countries including India could still import oil from Iran. We note that new US sanctions effective November 5, 2018 include (1) purchase of oil from National Iranian Oil Company and other Iranian oil & gas companies and (2) transactions by foreign financial institutions with the Central Bank of Iran and designated Iranian financial institutions. Thus, it may be quite difficult for India to import oil from Iran without explicit US exemptions. Global oil supply-demand balance will change dramatically without Iran oil We note that any hard sanctions by the US government on oil exports from Iran may result in a dramatic decline in Iran oil exports, which will upset global oil supply-demand balance. Iran s oil exports of 2.2 mn b/d in 1HCY18 (see Exhibit 1 for Iran s production and exports of oil since January 2015) is quite large compared to available spare capacity of the OPEC (see Exhibit 2 for global oil supply-demand balance and OPEC spare capacity). Other oil producers may find it hard to offset any cut in Iran oil exports beyond 0.5 mn b/d. The continued decline in Venezuela oil production (see Exhibit 3) may further aggravate global oil supply. India s macro is vulnerable to oil supply shock India s macro position would worsen if oil prices were to shoot above US$80/bbl. We note that a US$10/bbl change in crude oil prices results in (1) 50 bps impact on CAD/GDP; we model 2.8% CAD/GFD at US$72.5/bbl Dated Brent crude price; see Exhibit 4, (2) 30 bps impact on inflation; we model 4.6% average CPI inflation for FY2019; see Exhibit 5 and (3) modest impact on GFD through higher subsidies on kerosene and LPG; we model gross under-recoveries at `460 bn versus the government s provision of `265 bn (see Exhibit 6); GFD could rise if the government was to reduce taxes on diesel and gasoline in order to mitigate the impact of higher oil prices. Iran oil exports at 2.21 mn b/d versus OPEC spare capacity of 3.24 mn b/d in June 2018 India s oil imports from Iran at 0.68 mn b/d versus total imports of 4.3 mn b/d in June 2018 A US$10/bbl increase in oil prices impacts CAD/GDP by 50 bps and CPI inflation by 30 bps Sanjeev Prasad No defense really against higher oil prices; portfolio positioning tricky We do not see any mitigating factors for investors in a scenario of higher oil prices. (1) Interest rates and bond yields are likely to stay high, if not move higher. The current gap between bond and equity yields is already quite high (see Exhibit 7). (2) Defensive stocks are either very expensive (typical consumption stocks; see Exhibit 8) or are bond proxies (regulated utilities). (3) Government-owned upstream oil stocks (the safest hedge in theory) face the risk of unfavorable government action in the form of subsidies (we already assume some in our financial models for the companies). (4) IT stocks are either expensive or have business-related challenges. Sunita Baldawa Anindya Bhowmik For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.

3 Strategy India Portfolio: Minor changes to large-cap. and mid-cap. recommended portfolios Exhibit 9 is our recommended large-cap. portfolio. We add ONGC to the Model Portfolio with a weight of 200 bps and trim positions in Cipla (50 bps to 280 bps), Dabur (50 bps to 200 bps) and MSIL (100 bps to 310 bps). The former two have performed quite strongly over the past 2-3 months. They are trading above or near our 12-month forward fair valuations and we would have trimmed positions in the stocks irrespective of our oil-related concerns. We also increase weight on LT by 50 bps (5.2%) and trim position in HDFCB (50 bps to 10.4%). We would clarify that ONGC is not a structural play on volume growth but a short-term hedge against any possible spike in oil prices. Of course, unfavorable government action in the form of government-owned oil companies bearing some portion of the gross underrecoveries on cooking fuels and even on auto fuels may blunt our short-term investment case. Nonetheless, we note that ONGC stock price is discounting US$45/bbl currently (see Exhibit 10 for reverse valuation exercise for ONGC). We anyway model US$55/bbl net realized price for ONGC versus our crude price assumption of US$72.5/bbl for FY2019 and US$67.5/bbl for FY2020. Lastly, we note that current marketing margins on diesel and gasoline preclude any large subsidy burden with respect to auto fuels (see Exhibit 11). Exhibit 12 is our recommended mid-cap. portfolio. We remove Balkrishna Industries (BIL) noting the fact that the stock is trading above our fair valuation; the stock has delivered 20% return since inception of our mid-cap. portfolio. We replace the same with Jyothy Laboratories (JYL; TP: `240). Exhibit 1: Crude oil production from Iran declined by ~1 mn b/d post US-led sanctions over CY Monthly production and exports from Iran, calendar year-ends, (mn b/d) Iran oil production Exports - Jun-11 Sep-11 Dec-11 Mar-12 Jun-12 Sep-12 Dec-12 Mar-13 Jun-13 Sep-13 Dec-13 Mar-14 Jun-14 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15 Dec-15 Mar-16 Jun-16 Sep-16 Dec-16 Mar-17 Jun-17 Sep-17 Dec-17 Mar-18 Jun-18 Source: OPEC, Kotak Institutional Equities KOTAK INSTITUTIONAL EQUITIES RESEARCH 3

4 Jan-16 Feb-16 Mar-16 Apr-16 May-16 Jun-16 Jul-16 Aug-16 Sep-16 Oct-16 Nov-16 Dec-16 Jan-17 Feb-17 Mar-17 Apr-17 May-17 Jun-17 Jul-17 Aug-17 Sep-17 Oct-17 Nov-17 Dec-17 Jan-18 Feb-18 Mar-18 Apr-18 May-18 Jun-18 India Strategy Exhibit 2: OPEC implied spare capacity could decline sharply with lower Iran oil production Estimated global crude demand, supply and prices, calendar year-ends, E Demand (mn b/d) E 2019E 2020E 2021E 2022E Total demand Yoy growth Supply (mn b/d) Non-OPEC Yoy growth (0.4) (0.7) OPEC Crude NGLs Total OPEC Total supply Total stock change 0.2 (0.5) (0.3) (0.1) (0.6) (1.2) OPEC crude capacity Implied spare capacity Demand growth (yoy, %) Supply growth (yoy, %) Non-OPEC (0.8) (1.2) OPEC 7.4 (4.4) (1.0) (0.7) Total Dated Brent (US$/bbl) World GDP growth (%) Notes: (a) OPEC production data includes Indonesia in 2012 and Gabon from 2013 onwards. Source: IEA, Kotak Institutional Equities estimates Exhibit 3: Sharp decline in oil production from Venezuela due to ongoing socioeconomic crisis Monthly production of crude oil in Venezuela, January 2016 onwards (mn b/d) 3.0 Venezuela oil production Source: OPEC, Kotak Institutional Equities 4 KOTAK INSTITUTIONAL EQUITIES RESEARCH

5 Strategy India Exhibit 4: India's external vulnerabilities will be higher at higher oil prices India's balance of payments, March fiscal year-ends, E (US$ bn) 2019E Current account (32.4) (26.8) (22.2) (15.3) (48.7) (70.8) (78.2) (89.5) GDP 1,858 2,038 2,103 2,270 2,602 2,758 2,758 2,758 CAD/GDP (%) (1.7) (1.3) (1.1) (0.7) (1.9) (2.6) (2.8) (3.2) Trade balance (147.6) (144.9) (130.1) (112.4) (160.0) (186.5) (194.0) (205.2) Trade balance/gdp (%) (7.9) (7.1) (6.2) (4.9) (6.2) (6.8) (7.0) (7.4) - Exports oil exports non-oil exports Imports oil imports non-oil imports gold imports Invisibles (net) Services software non-software (1.8) (2.6) Transfers Income (net) (23) (24) (24) (26) (29) (30) (30) (30) Capital account Percentage of GDP Foreign investment FDI FPI 5 42 (4) 8 22 (10) (10) (10) - Equities (4) 9 2 (2) (2) (2) - Debt (8) 26 (0) (1) 21 (8) (8) (8) Banking capital (17) NRI deposits (12) Short-term credit (5.0) (0.1) (1.6) ECBs (4.5) (6.1) (0.2) External assistance Other capital account items (10.8) E&O (0.9) (1.1) (1.1) Overall balance (28.8) (36.2) (47.5) Memo items Average USD/INR Average Brent (US$/bbl) Source: RBI, Kotak Institutional Equities estimates KOTAK INSTITUTIONAL EQUITIES RESEARCH 5

6 India Strategy Exhibit 5: Upside risks to inflation from crude price, INR weakness and higher-than-usual MSP hikes Headline and core CPI inflation (%) 10 CPI inflation Core CPI inflation 8 6 Mar-19: Mar-19: Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Jul-17 Oct-17 Jan-18 Apr-18 Jul-18 Oct-18 Jan-19 Source: CEIC, Kotak Institutional Equities Exhibit 6: Our base-case scenario assumes 100% windfall tax on upstream PSUs above US$55/bbl Share of under-recoveries for various participants, March fiscal year-ends, E (Rs bn) Macro-assumptions E 2020E Dated Brent crude oil price (US$/bbl) Exchange rate (Rs/US$) Subsidy burden Petrol Diesel LPG Kerosene Subsidy burden ,434 1,621 1, Gross under-recoveries ,465 1,651 1, Subsidy sharing Payment by government (direct budgetary support) Payment by government (oil bonds/cash) , Receipt from upstream companies Share of ONGC Share of Oil India Share of GAIL Net under-recovery of OMCs Source: Companies, PPAC, Kotak Institutional Equities 6 KOTAK INSTITUTIONAL EQUITIES RESEARCH

7 Strategy India Exhibit 7: Earnings yields have been broadly stable over the past several months despite a sharp increase in bond yields Nifty earnings yield and bond yield, March fiscal year-ends, (%) 16 Yield gap (%) Earnings yields (%) India 10-y G-Sec yields (%) (4) (8) Aug-03 Aug-04 Aug-05 Aug-06 Aug-07 Aug-08 Aug-09 Aug-10 Aug-11 Aug-12 Aug-13 Aug-14 Aug-15 Aug-16 Aug-17 Aug-18 Source: Bloomberg, Kotak Institutional Equities Exhibit 8: Most consumption stocks in our coverage universe trade at rich multiples 12-m forward PE multiple and earnings growth of certain 'consumption' stocks in KIE universe, March fiscal year-ends, E 12-m forward PB/PE multiple (X) Company Sector Mar-11 Mar-12 Mar-13 Mar-14 Mar-15 Mar-16 Mar-17 Mar-18 Current Eicher Motors Automobiles Maruti Suzuki Automobiles s Bajaj Finance Banks/NBFCs Cholamandalam Banks/NBFCs HDFC Bank Banks/NBFCs Indusind Bank Banks/NBFCs Asian Paints Consumer Products Colgate-Palmolive (India) Consumer Products Dabur India Consumer Products Glaxosmithkline Consumer Consumer Products Hindustan Unilever Consumer Products Jubilant Foodworks Consumer Products Marico Consumer Products Nestle India Consumer Products Page Industries Consumer Products United Breweries Consumer Products United Spirits Consumer Products Source: Companies, Kotak Institutional Equities estimates KOTAK INSTITUTIONAL EQUITIES RESEARCH 7

8 India Strategy Exhibit 9: 'Barbell' portfolio of 'growth' and 'value' stocks KIE large-cap. Model Portfolio Price (Rs) KIE weight Price (Rs) KIE weight Company 8-Aug-18 (%) 8-Aug-18 (%) Automobiles ONGC Mahindra & Mahindra Reliance Industries 1, Maruti Suzuki 9, Energy 13.9 Tata Motors Industrials/Construction Automobiles 10.1 L&T 1, Private Banks and NBFCs Industrials/Construction 5.2 HDFC 1, Metals & Mining HDFC Bank 2, Hindalco Industries ICICI Bank Vedanta ICICI Prudential Life Tata Steel IndusInd Bank 2, Metals & Mining 7.1 LIC Housing finance Others Private Banks and NBFCs 33.0 InterGlobe Aviation 1, PSU Banks Others 1.6 Bank of Baroda Pharmaceuticals State Bank of India Cipla PSU Banks 6.7 Pharmaceuticals 2.8 Consumers Technology Colgate-Palmolive (India) 1, Infosys 1, Dabur India Tech Mahindra Marico Technology 10.8 Consumers 6.3 Utilities Energy Power Grid GAIL (India) Utilities 2.5 Petronet LNG BSE-30 37, Source: Kotak Institutional Equities estimates Exhibit 10: ONGC stock is discounting US$45/bbl of net realization at current levels of crude price ONGC reverse valuation, March fiscal year-end, 2019E (Rs) Net crude realization (US$/bbl) Dated Brent crude price (US$/bbl) Source: Kotak Institutional Equities estimates 8 KOTAK INSTITUTIONAL EQUITIES RESEARCH

9 Strategy India Exhibit 11: Marketing margins on auto fuels have recovered recently Gross marketing margin on diesel and gasoline, March fiscal year-ends, (Rs/liter) 5 Marketing margin on diesel Marketing margin on gasoline (1) May-15 Aug-15 Nov-15 Feb-16 May-16 Aug-16 Nov-16 Feb-17 May-17 Aug-17 Nov-17 Feb-18 May-18 Aug-18 Source: PPAC, Kotak Institutional Equities Exhibit 12: We recommend mid-cap. stocks in automobile components, financials, industrials and power utilities KIE mid-cap. Model Portfolio Target Price price Upside Mkt cap. EPS (Rs) PER (X) PBR (X) RoE (%) Company Sector Rating (Rs) (Rs) (%) (Rs mn) (US$ mn) E 2020E E 2020E E 2020E E 2020E CESC Utilities BUY 931 1, ,457 1, Escorts Automobiles BUY 877 1, ,739 1, Federal Bank Banks BUY ,750 2, Jyothy Laboratories Consumer Products ADD ,044 1, Kalpataru Power Transmission Industrials BUY , Laurus Labs Pharmaceuticals ADD , Max Financial Services NBFCs ADD ,859 1, Prestige Estates Projects Real Estate ADD ,619 1, Sadbhav Engineering Infrastructure BUY , Shriram City Union Finance NBFCs ADD 1,940 2, ,979 1, Source: Companies, Kotak Institutional Equities estimates KOTAK INSTITUTIONAL EQUITIES RESEARCH 9

10 BPCL (BPCL) Energy Weak refining performance. BPCL s normalized EBITDA at `19 bn in 1QFY19 was sharply below our estimate driven by weak normalized refining margin and lower crude throughput; reported results were boosted by `26.8 bn of adventitious gains. We retain REDUCE on the stock with a revised target price of `375 (`390 earlier), noting material risk to earnings from uncertainty on cooking fuel subsidy-sharing mechanism and auto fuel price hikes under an adverse global/local macro environment. REDUCE AUGUST 09, 2018 RESULT Coverage view: Attractive Price (`): 387 Target price (`): 375 BSE-30: 37,888 Company data and valuation summary Bharat Petroleum Stock data Forecasts/Valuations E 2020E 52-week range (Rs) (high,low) EPS (Rs) Market Cap. (Rs bn) EPS growth (%) (1.5) (6.7) 3.1 Shareholding pattern (%) P/E (X) Promoters 54.3 Sales (Rs bn) 2, , ,928.3 FIIs 19.8 Net profits (Rs bn) MFs 5.6 EBITDA (Rs bn) Price performance (%) 1M 3M 12M EV/EBITDA (X) Absolute 3.4 (1.3) (23.3) ROE (%) Rel. to BSE-30 (2.7) (8.3) (35.2) Div. Yield (%) QFY19 impacted by sharp decline in underlying refining and marketing margins BPCL s normalized EBITDA declined 42% qoq to `19 bn, adjusted for adventitious/forex gains, led by sharp decline in refining margins to US$4.2/bbl and marketing margins to ~`4,552/ton. Reported EBITDA at `38.8 bn and net income at `22.9 bn were well above our expectations boosted by large adventitious gains of `26.8 bn across refining and marketing segments, which was partly offset by (1) forex-related loss of `7.1 bn and MTM loss of `1.7 bn on oil bonds, both accounted in other expenses, (2) lower other income and (3) sharp increase in interest cost. Lower normalized refining margins at US$4.2/bbl. Inventory-adjusted refining contribution declined sharply to `15.6 bn from `20.6 bn in 4QFY18, led by lower normalized margins at US$4.2/bbl. Normalized refining margins for Kochi refinery was further lower at US$3.1/bbl as compared to US$5.3/bbl for Mumbai. Reported refining margins of US$7.5/bbl included US$3.3/bbl of adventitious gains (`12.8 bn). Crude throughput declined 1% qoq to 7.7 mn tons reflecting modestly lower utilization at both refineries. Sharp decline in implied marketing margins. Inventory-adjusted implied marketing contribution declined to `51.3 bn from `59 bn in 4QFY18, led by sharp 15% qoq decline in realized marketing margins to `4,552/ton, modestly above our expectations. Robust 9.3% growth in domestic volumes; modest 4% growth in auto fuels. BPCL s domestic volumes grew robustly by 9.3% yoy to 11 mn tons; exports remained low at 0.3 mn tons. Diesel sales volumes grew at 3.4% in line with growth in domestic consumption; however, gasoline sales volumes increased by 5.9%, a tad slower than domestic demand. 3-5% cut in estimates; retain REDUCE with revised TP of `375 We revise our standalone EPS estimates to `37.6 (-3%) in FY2019 and `38.7 (-5%) in FY2020, factoring in (1) lower underlying refining margins, (2) modestly lower marketing margins, (3) a weaker rupee and (4) other minor changes; our FY2019 EPS includes 1QFY19 reported adventitious gains and forex loss. Our TP reduces to `375 from `390 previously, based on 5.5X March 2020E EBITDA plus value of investments. We remain cautious on OMCs earnings under an adverse macro environment underpinned by higher crude prices, which has a bearing on (1) refining margins due to falling Middle-East discounts and rising fuel and loss, (2) marketing profitability due to possibility of subsidy sharing and less-than-desirable fuel price hikes and (3) interest cost due to increase in working capital. Tarun Lakhotia Akshay Bhor For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.

11 BPCL Energy Exhibit 1: Normalized results were below our estimates led by weaker underlying refining margins Calculation of normalized profitability (Rs bn) 1QFY18 2QFY18 3QFY18 4QFY18 1QFY19 1QFY19E Gross contribution Operating expenses Reported EBITDA Add: net under-recovery Add: forex-related loss/(gain) 0.9 (0.9) Add: adventitious loss/(gain) 13.5 (6.8) (16.0) (4.5) (26.8) (7.7) Normalized EBITDA Other income Interest expense Depreciation Normalized PBT Effective tax Reported net income Normalized adjusted net income Normalized adjusted EPS (Rs) Source: Company, Kotak Institutional Equities estimates Exhibit 2: Refining margins declined sharply to US$4.2/bbl; marketing margins declined 15% qoq Calculation of segment-wise contribution, 1QFY17 onwards (Rs bn) Segment-wise contribution 1QFY18 2QFY18 3QFY18 4QFY18 1QFY19 1QFY19E Gross contribution Add: net under-recovery Add: one-off provision/charges Add: adventitious loss/(gain) 13.5 (6.8) (16.0) (4.5) (26.8) (7.7) Normalized gross contribution Refining segment Marketing and other segments Blended marketing margins (Rs/ton) 4,385 4,726 3,837 5,332 4,552 4,293 Reported refining margins (US$/bbl) Normalized refining margins (US$/bbl) Crude throughput (mn tons) Domestic sales (mn tons) Export sales (mn tons) Exchange rate (Rs/US$) Source: Company, Kotak Institutional Equities estimates KOTAK INSTITUTIONAL EQUITIES RESEARCH 11

12 Energy BPCL Exhibit 3: Interim results of BPCL, March fiscal year-ends (Rs mn) (% chg.) yoy 1QFY19 1QFY19E 1QFY18 4QFY18 1QFY19E 1QFY18 4QFY18 FY2019E FY2018 (% chg.) Net sales 716, , , ,393 (1.5) ,999,492 2,363, Increase/(decrease) in stock 23,042 (24,689) 12,673 (3,206) Raw material (286,885) (297,486) (171,590) (254,300) (3.6) (1,040,563) (814,675) 27.7 Trading purchase (359,387) (354,024) (321,363) (326,699) (1,643,374) (1,254,627) 31.0 Staff cost (8,751) (8,471) (8,087) (9,571) (8.6) (36,883) (34,310) 7.5 Other expenses (46,235) (38,392) (33,278) (37,280) (157,534) (139,625) 12.8 Total expenditure (678,215) (698,373) (559,008) (615,178) (2.9) (2,878,354) (2,246,442) 28.1 EBITDA 38,752 29,650 12,250 37, , , Other income 5,480 7,200 6,566 8,329 (23.9) (16.5) (34.2) 27,800 30,109 (7.7) Interest (3,018) (2,237) (1,789) (2,194) (9,822) (8,333) 17.9 Depreciation (7,392) (7,363) (5,892) (7,413) (0.3) (29,450) (26,485) 11.2 Pretax profits 33,823 27,250 11,136 35, (5.9) 109, ,980 (2.1) Extraordinary item Current tax (6,620) (6,702) (2,220) (4,576) (27,706) (18,468) 50.0 Deferred tax (4,270) (2,018) (1,470) (4,627) (8,070) (14,318) Net income 22,933 18,530 7,446 26, (14.2) 73,891 79,193 (6.7) Adjusted net income 22,933 18,530 7,446 26, (14.2) 73,891 79,193 (6.7) Adjusted EPS (Rs) Other comprehensive income (1,501) (1,394) 91 Total comprehensive income 22,933 5,945 25,343 79,284 Tax rate (%) Volume data Crude throughput (mn tons) (2.6) 20.6 (1.4) Domestic sales volume (mn tons) Exports sales volume (mn tons) (38.0) (36.7) (8.8) (0.0) Reported refining margin (US$/bbl) (5.2) Normalized refining margin (US$/bbl) (24.5) (39.5) (25.5) (5.6) Implied marketing margins (Rs/ton) 4,552 4,293 4,385 5, (14.6) 4,500 4,569 (1.5) Adventitious gain/(loss) - refining 12,750 3,888 (6,160) 3,460 12,750 11,740 Adventitious gain/(loss) - marketing 14,040 3,831 (7,314) 1,020 14,040 1,210 Net over-recovery/(under-recovery) Exchange gain/(loss) (7,050) (3,456) 292 (1,220) (7,050) (88) Source: Company, Kotak Institutional Equities estimates Exhibit 4: BPCL's growth in auto fuels was modestly below domestic consumption during 1QFY19 Growth in auto fuels volumes, 1QFY16 onwards (%) BPCL HPCL IOCL Consumption (5) (10) 1QFY16 2QFY16 3QFY16 4QFY16 1QFY17 2QFY17 3QFY17 4QFY17 1QFY18 2QFY18 3QFY18 4QFY18 1QFY18 Source: Companies, PPAC, Kotak Institutional Equities 12 KOTAK INSTITUTIONAL EQUITIES RESEARCH

13 BPCL Energy Exhibit 5: We have assumed higher refining margins driven by Kochi upgradation and steady marketing margins Key assumptions, March fiscal year-ends, E E 2020E 2021E Key assumptions Exchange rate (Rs/US$) Effective tariff protection (%) Crude throughput (mn tons) Net refining margin (US$/bbl) Sales volume (mn tons) Marketing margin on auto fuels (Rs/liter) Subsidy under-recoveries (Rs mn) (5,115) (4,874) Source: Company, Kotak Institutional Equities estimates Exhibit 6: Earnings sensitivity of BPCL to refining margins and marketing margins, March fiscal year-ends (Rs mn) Fiscal 2019E Fiscal 2020E Fiscal 2020E Downside Base case Upside Downside Base case Upside Downside Base case Upside Refining margins Refining margins (US$/bbl) Net profits (Rs mn) 63,951 73,891 83,831 65,938 76,178 86,418 66,639 77,036 87,434 EPS (Rs) % upside/(downside) (13.5) 13.5 (13.4) 13.4 (13.5) 13.5 Marketing margins Auto fuels marketing margin (Rs/liter) Net profits (Rs mn) 62,308 73,891 85,474 64,097 76,178 88,259 64,430 77,036 89,642 EPS (Rs) % upside/(downside) (15.7) 15.7 (15.9) 15.9 (16.4) 16.4 Source: Company, Kotak Institutional Equities estimates Exhibit 7: We compute fair value of `375 for BPCL Fair valuation of BPCL, March 2020E (Rs/share) EV/EBITDA based valuation Refining and marketing business (Rs bn) March 2020E standalone EBITDA 127 EV/EBITDA (X) 5.5 EV of refining and marketing business (Rs bn) 696 EV of refining and marketing business (Rs) (A) 354 Investments (Rs bn) Numaligarh Refinery 66 Petronet LNG 42 Indraprastha Gas 32 Oil India Ltd 3 Others 75 Value of investments (Rs bn) 217 Value of investments (Rs) (B) 110 Net debt (Rs bn) 176 Net debt (Rs) (C) 89 Total equity value (A) + (B) - (C) 375 Source: Company, Kotak Institutional Equities estimates KOTAK INSTITUTIONAL EQUITIES RESEARCH 13

14 Energy BPCL Exhibit 8: Profit model, balance sheet, cash model of BPCL, March fiscal year-ends, E (Rs mn) E 2020E 2021E Profit model (Rs mn) Net sales 2,600,605 2,380,869 1,884,046 2,022,106 2,363,131 2,999,492 2,928,310 3,047,244 EBITDA 80,862 76, , , , , , ,923 Other income 14,687 22,000 17,762 26,007 30,109 27,800 28,150 28,500 Interest (13,591) (5,831) (5,652) (4,959) (8,333) (9,822) (9,253) (8,687) Depreciation (22,468) (25,160) (18,446) (18,913) (26,485) (29,450) (32,379) (34,304) Pretax profits 59,490 67, , , , , , ,432 Extraordinary items 6,579 (4,900) Current tax (21,829) (19,836) (26,987) (20,988) (18,468) (27,706) (30,095) (31,461) Deferred tax 2,948 (3,474) (6,360) (9,047) (14,318) (8,070) (6,859) (5,934) Adjusted net profits 40,609 46,334 70,564 83,960 79,193 73,891 76,178 77,036 Adjusted EPS (Rs) Balance sheet (Rs mn) Total equity 194, , , , , , , ,290 Deferred taxation liability 13,609 17,083 35,118 36,182 50,924 58,994 65,853 71,788 Total borrowings 203, , , , , , , ,512 Currrent liabilities 312, , , , , , , ,974 Total liabilities and equity 724, , , ,896 1,002,225 1,093,473 1,130,173 1,185,563 Cash 2,038 13,602 20, , Current assets 382, , , , , , , ,282 Total fixed assets 221, , , , , , , ,237 Investments 118, , , , , , , ,208 Total assets 724, , , ,896 1,002,225 1,093,473 1,130,173 1,185,563 Free cash flow (Rs mn) Operating cash flow, excl. working capital 62,232 58,016 86,450 79, ,840 82,851 86,212 87,429 Working capital changes 7, ,160 7,522 (8,441) (818) 2,469 8, Capital expenditure (47,439) (80,349) (93,246) (89,824) (64,910) (73,292) (74,852) (75,216) Investments (6,527) (9,092) 26 (29,314) (12,194) (2,000) (2,000) (2,000) Other income 11,107 10,351 13,338 17,836 30,109 27,800 28,150 28,500 Free cash flow 26,459 96,085 14,090 (30,086) 53,026 37,828 46,461 39,002 Ratios (%) Debt/equity Net debt/equity RoAE RoACE Key assumptions Crude throughput (mn tons) Effective tariff protection (%) Net refining margin (US$/bbl) Sales volume (mn tons) Marketing margin on auto fuels (Rs/liter) Subsidy under-recoveries (Rs mn) (5,115) (4,874) Adventitious gain/(loss) (Rs mn) 15,770 (31,420) (23,710) 19,872 1,210 14,040 Source: Company, Kotak Institutional Equities estimates 14 KOTAK INSTITUTIONAL EQUITIES RESEARCH

15 Cipla (CIPLA) Pharmaceuticals In-line quarter, US execution key. Cipla s 1QFY19 numbers were broadly in line with estimates as an in-line revenue performance was largely offset by lower gross margins, though, higher other income helped drive PAT outperformance. While US revenues declined US$4 mn qoq, we believe recent approvals provide visibility towards US$500 mn revenue base for FY2019. We cut our FY E EPS by ~8% each, and revise our target price to `680/share (from `650/share), as we move to 21X June 2020E EPS. BUY AUGUST 09, 2018 RESULT Coverage view: Neutral Price (`): 633 Target price (`): 680 BSE-30: 37,888 Company data and valuation summary Cipla Stock data Forecasts/Valuations E 2020E 52-w eek range (Rs) (high,low ) EPS (Rs) Market Cap. (Rs bn) EPS grow th (%) Shareholding pattern (%) P/E (X) Promoters 36.7 Sales (Rs bn) FIIs 25.2 Net profits (Rs bn) MFs 9.9 EBITDA (Rs bn) Price performance (%) 1M 3M 12M EV/EBITDA (X) Absolute ROE (%) Rel. to BSE-30 (2.7) (0.3) (7.5) Div. Yield (%) In-line quarter, though US disappoints Cipla s 1QFY19 revenues at ~`39 bn were 2% higher than our estimates, driven by a 22% growth in the domestic segment, helped by a favorable base effect (reported 2-year CAGR: 3%, ~10% adjusted for excise). US revenues at US$100 mn were US$5 mn below our estimates, as new launches were unable to fully offset the negative impact of supply disruptions (US$5 mn impact) as well as product rationalization (US$5 mn). However, we believe the 1QFY19 numbers present a base, and expect material growth from 2QFY19 as several recent launches are likely to meaningfully add to the base, with diclofenac gel, isoproterenol and testosterone cypionate being the notable launches. South Africa was strong, growing at 23% yoy (14% on constant currencies), EU disappointed declining 18% yoy (21% decline on constant currencies). Africa business declined 2% yoy given the impact of tenders, while RoW reported muted 1% growth. Gross margins disappointed, missing our estimates by 240bps, though lower R&D spend (-11% versus KIE), meant that EBITDA margins were largely in line with estimates. Adjusting for `850 mn one time other income, PAT exceeded estimates by 12%. Approval trajectory strong execution key to US scale-up We expected Cipla to emerge as a beneficiary of the changing environment in the US, given its low base, a solid pipeline expected to benefit from quicker review cycles, and limited portfolio concentration. To this extent, Cipla has received several interesting approvals over the past quarter, most notably, voltaren gel, isoproterenol, testosterone cypionate, azacitidine, and decitabine, which should together contribute ~US$80 mn revenues in FY2019 (negligible contribution in 1QFY19). The management proffered guidance on 15 launches in FY2019, and we expect the launch momentum to sustain with further 4-5 injectable approvals in FY2019, along with first inhaler approval in 2HFY19 (ProVentil). FY will see continued momentum given CiproDex, Flonase, Truvada/Atripla, as well as Advair and Abraxane inj. launches. Cut FY E EPS by ~8% any correction could present buying opportunity We cut our FY E EPS by 8-9% each, primarily due to lower revenue assumptions (-4 to 5%) and operating leverage with tax rate. Cipla is now trading at ~13X FY2020 EV/EBITDA and ~20X FY2020E EPS. We revise our target price to `680/share (from `650/share earlier) implying 21X June 2020E EPS (ex-exclusivities). We move away from SOTP valuation to a relative valuation, given (1) FY2020 should see the first inhalation approval, and (2) US contribution will likely increase to 22% by FY2020 (25% by FY2021), reflecting normalized profitability. Chirag Talati, CFA Kumar Gaurav For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.

16 Pharmaceuticals Cipla Exhibit 1: Cipla interim results March fiscal year-ends (` mn) (% chg.) 1QFY19 1QFY19E 1QFY18 4QFY18 1QFY19E 1QFY18 4QFY18 FY2019E FY2018 (% chg.) Sales 39,390 38,591 35,251 36, , , Raw material (14,239) (13,024) (11,767) (13,303) (58,155) (54,384) 6.9 Staff cost (7,140) (7,234) (6,729) (6,990) (1.3) (29,322) (26,901) 9.0 R&D costs (2,757) (3,100) (2,120) (2,810) (11.1) 30.1 (1.9) (13,028) (10,415) 25.1 Other expenditure (7,990) (8,250) (8,170) (8,308) (3.2) (2.2) (3.8) (33,124) (32,229) 2.8 Total expenditure (32,126) (31,609) (28,786) (31,411) (133,628) (123,929) 7.8 EBITDA 7,264 6,982 6,465 5, ,213 28, Depreciation (2,410) (2,875) (2,134) (2,848) (9,889) (13,228) Interest (351) (200) (279) (352) (914) (1,142) Other income / exceptionals 1, ,514 (375) 3,000 2,801 Pretax profits 6,204 4,457 5,566 1, ,411 16, Tax (1,737) (1,070) (1,308) (462) (7,395) (2,501) Minority interest/associates (11) (170) (170) (1) (50) (343) Net income 4,456 3,218 4,088 1, ,966 13, Net income (adjusted) 4,456 3,218 4,088 2, ,966 15, Adjusted EPS (Rs) Tax rate (%) Segment wise sales (Rs mn) Domestic (reported) 15,440 15,221 12,710 13, ,730 58, Exports 23,040 22,442 21,330 21, ,612 88, US 6,700 7,236 6,460 6,750 (7.4) 3.7 (0.7) 34,533 25, South Africa 5,750 5,466 4,670 5, ,289 20, Europe 1,340 1,250 1,650 1, (18.8) (1.5) 5,511 6,197 (11.1) - RoW 7,250 7,091 7,250 6, ,718 29,863 (7.2) - Export API 2,000 1,400 1,300 1, ,561 6, Total 38,480 37,664 34,040 35, , , Other operating income ,211 1,860 (1.9) (24.8) (51.1) 3,500 4,820 (27.4) Net sales 39,390 38,591 35,251 36, , , Margins (%) Gross margin Staff cost to sales R&D as % of sales Other expenditure to sales EBITDA margin Source: Company, Kotak Institutional Equities Exhibit 2: Cipla changes to estimates March fiscal year-ends, E (Rs mn) New estimates Old estimates Changes (%) 2019E 2020E 2021E 2019E 2020E 2021E 2019E 2020E 2021E Sales 167, , , , , ,775 (4.3) (5.1) (3.6) Gross profits 109, , , , , ,866 (3.2) (4.7) (3.8) Staff cost (29,322) (32,548) (36,128) (28,919) (32,100) (35,631) R&D (13,028) (15,244) (17,644) (13,161) (16,377) (18,385) (1.0) (6.9) (4.0) Other expense (33,124) (34,446) (39,805) (34,148) (36,251) (41,271) (3.0) (5.0) (3.6) EBITDA 34,213 41,869 51,518 37,120 45,554 55,579 (7.8) (8.1) (7.3) PAT 18,966 24,851 32,167 20,693 27,393 34,874 (8.3) (9.3) (7.8) EPS (8.3) (9.3) (7.8) Source: Company, Kotak Institutional Equities estimates 16 KOTAK INSTITUTIONAL EQUITIES RESEARCH

17 Cipla Pharmaceuticals Exhibit 3: Cipla US revenues to double over FY E March fiscal year-ends, E (US$ mn) E 2020E 2021E 2022E Invagen base business Invagen launches Key product profit share (partnered) Cipla ow n launches Cipla base business (incl. partner) US Dymista royalties US inhalers Total US sales yoy grow th (%) Cipla + Invagen base business as a % of sales Partner key launches as a % of sales Cipla + Invagen key launches as % of sales Dymista as a % of sales Inhalers as a % of sales Source: Company, Kotak Institutional Equities Exhibit 4: Cipla - revenues by segments March fiscal year-ends, E (Rs mn) E 2020E 2021E Net revenues 101, , , , , , , ,573 Domestic sales 39,740 46,830 50,220 55,300 58,710 65,730 73,913 83,257 Export formulations 49,844 54,988 75,539 82,239 82,550 92, , ,582 South Africa 13,187 15,883 15,690 18,270 20,465 24,289 28,583 32,195 Europe 5,684 4,351 6,060 5,430 6,197 5,511 7,194 8,225 US 7,437 9,069 21,050 26,240 25,890 34,533 40,366 53,147 Others 23,535 25,685 32,739 32,299 29,998 27,718 29,104 32,015 Bulk exports 8,344 7,006 7,380 5,270 6,249 6,561 6,889 7,234 Licensing/other income 3,076 4,630 2,959 3,494 4,684 3,500 3,500 3,500 Growth % Domestic sales Export formulations South Africa (1) Europe 8 (23) 39 (10) 14 (11) US (32) (1) Others (1) (7) (8) 5 10 Bulk exports 28 (16) 5 (29) % of sales Domestic sales Export formulations South Africa Europe US Others Bulk exports Source: Company, Kotak Institutional Equities KOTAK INSTITUTIONAL EQUITIES RESEARCH 17

18 Pharmaceuticals Cipla Exhibit 5: Cipla profit and loss, balance sheet, cash model March fiscal year-ends, E (Rs mn) E 2020E 2021E Net revenues 82, , , , , , , , ,573 Gross Profit 53,267 62,256 71,557 85,199 93,131 97, , , ,096 Staff costs (10,360) (15,430) (19,737) (24,340) (26,338) (26,901) (29,322) (32,548) (36,128) R&D expenses (3,638) (5,450) (7,034) (8,846) (10,741) (10,415) (13,028) (15,244) (17,644) Other expenses (17,290) (20,046) (23,170) (27,257) (31,294) (32,229) (33,124) (34,446) (39,805) EBITDA 21,979 21,331 21,617 24,755 24,758 28,264 34,213 41,869 51,518 Depreciation & amortisation (3,305) (3,726) (5,047) (7,159) (13,229) (13,228) (9,889) (10,344) (10,767) EBIT 18,674 17,604 16,570 17,596 11,529 15,036 24,324 31,525 40,751 Net Interest (339) (1,457) (1,683) (2,062) (1,594) (1,142) (914) (401) 293 Other income 2,557 2,531 1,403 2,170 2,287 2,774 3,000 2,300 2,200 Profit before tax 20,892 18,677 16,290 17,704 12,222 16,667 26,411 33,424 43,244 Tax & Deferred Tax (5,443) (4,634) (4,000) (3,779) (1,798) (2,501) (7,395) (8,523) (11,027) Net Income 15,449 13,884 11,808 13,504 10,064 14,105 18,966 24,851 32,167 EPS (Rs) Balance sheet Equity 90, , , , , , , , ,084 Total borrowings 9,669 12,283 17,018 51,991 41,126 40,980 29,359 22,859 16,359 Other liabilities 16,732 20,750 30,338 41,419 38,938 41,809 43,231 45,364 48,930 Total liabilities 116, , , , , , , , ,372 Net fixed assets 48,748 77,519 81, , , , , , ,964 Investments 8,871 8,136 7,156 9,483 9,922 11,160 11,160 11,160 11,160 Cash 22,598 4,866 9,543 14,532 14,477 20,678 21,004 29,371 42,759 Other current assets 45,242 51,648 66,372 73,974 73,752 87,463 94, , ,650 Total assets 116, , , , , , , , ,372 Cashflow statement Operating profit before working capital 23,792 24,157 22,843 27,258 26,019 28,596 36,250 43,718 53,961 Tax paid (4,617) (5,619) (3,923) (5,077) (4,503) (2,501) (7,395) (8,523) (11,027) Change in w orking capital (5,198) (5,619) (7,186) (4,242) 2,307 (8,156) (5,736) (7,861) (9,470) Capital expenditure (6,201) (5,666) (6,262) (10,769) (11,360) (7,500) (7,000) (7,000) (6,500) Free cash flow 6,404 7,254 5,472 7,170 12,464 10,439 16,119 20,335 26,964 Margins and ratios Gross profit margin (%) EBITDA margin (%) Tax rate (%) RoAE (%) RoACE (%) Source: Company, Kotak Institutional Equities 18 KOTAK INSTITUTIONAL EQUITIES RESEARCH

19 HPCL (HPCL) Energy Weak underlying results. HPCL s normalized EBITDA at `18.2 bn in 1QFY19 was 8% below our estimate led by sharp weakness in underlying refining margins; reported results were boosted by `19.1 bn of adventitious gains. We retain REDUCE rating on the stock with a revised target price of `285 (`320 earlier), noting material risk to earnings from uncertainty on cooking fuel subsidy-sharing mechanism and auto fuel price hikes under an adverse global/local macro environment. REDUCE AUGUST 09, 2018 RESULT Coverage view: Attractive Price (`): 283 Target price (`): 285 BSE-30: 37,888 Company data and valuation summary Hindustan Petroleum Stock data Forecasts/Valuations E 2020E 52-week range (Rs) (high,low) EPS (Rs) Market Cap. (Rs bn) EPS growth (%) (3.2) (22.3) (2.2) Shareholding pattern (%) P/E (X) Promoters 0.0 Sales (Rs bn) 2, , ,649.0 FIIs 23.4 Net profits (Rs bn) MFs 9.7 EBITDA (Rs bn) Price performance (%) 1M 3M 12M EV/EBITDA (X) Absolute 5.5 (7.9) (35.2) ROE (%) Rel. to BSE-30 (0.7) (14.4) (45.2) Div. Yield (%) QFY19 impacted by sharp decline in underlying refining and marketing margins HPCL s normalized EBITDA declined 36% qoq to `18.2 bn, adjusted for adventitious/forex gains, led by sharp decline in refining margins to US$3.7/bbl and marketing margins to ~`4,960/ton. Reported EBITDA at `31.9 bn and net income at `17.2 bn were well above our expectations boosted by large adventitious gains of `19.1 bn across refining and marketing segments, which was partly offset by (1) forex-related loss of `5.4 bn and MTM loss of `1.7 bn on oil bonds, both accounted in other expenses, (2) lower other income and (3) sharp increase in interest cost. Lower normalized refining margins at US$3.7/bbl. Inventory-adjusted refining contribution declined sharply to `8.1 bn from `14.3 bn in 4QFY18, led by lower normalized margins at US$3.7/bbl. Reported refining margins of US$7.1/bbl included US$3.4/bbl of adventitious gains (`7.7 bn). Crude throughput declined 2% qoq to 4.5 mn tons. HPCL s reported segment EBITDA implied a surprising sharp increase in refining operating cost. Sharp decline in implied marketing margins. Inventory-adjusted implied marketing contribution declined to `48.2 bn from `54.6 bn in 4QFY18, led by sharp 14% qoq decline in realized marketing margins to `4,960/ton, modestly above our expectations. 4.7% growth in domestic volumes and 3.8% growth in auto fuels, modestly below growth in consumption. HPCL s domestic volumes grew by 4.7% yoy to 9.6 mn tons; exports remained low at 0.1 mn tons. HPCL s diesel and gasoline sales volumes grew at 2.8% and 6.7% yoy, modestly below growth in domestic consumption. Pipeline throughput increased 3.4% qoq to 5.5 mn tons. Fine-tune estimates; retain REDUCE with revised TP of `285 We revise our standalone EPS estimates to `32.4 (+1%) in FY2019 and `31.7 (-4%) in FY2020, factoring in (1) lower underlying refining margins, (2) modestly lower marketing margins, (3) a weaker rupee and (4) other minor changes; our FY2019 EPS estimate has increased marginally due to inclusion of reported adventitious gains in 1QFY19. We cut our TP to `285 from `320 previously, based on 5.5X March 2020E EBITDA plus value of investments. We remain cautious on OMCs earnings under an adverse macro environment underpinned by higher crude prices, which has a bearing on (1) refining margins due to falling Middle-East discounts and rising fuel and loss, (2) marketing profitability due to possibility of subsidy sharing and less-than-desirable fuel price hikes and (3) interest cost due to increase in working capital. Tarun Lakhotia Akshay Bhor For Private Circulation Only. FOR IMPORTANT INFORMATION ABOUT KOTAK SECURITIES RATING SYSTEM AND OTHER DISCLOSURES, REFER TO THE END OF THIS MATERIAL.

20 Energy HPCL Exhibit 1: Normalized results were below our estimates led by weaker underlying refining margins Calculation of normalized profitability 1QFY18 2QFY18 3QFY18 4QFY18 1QFY19 1QFY19E Gross contribution Operating expenses (34.5) (31.8) (34.5) (41.3) (43.5) (40.6) Reported EBITDA Add: net under-recovery Add: forex-related loss/(gain) Add: inventory/adventitious loss/(gain) 15.8 (7.9) (14.8) (1.6) (19.1) (8.2) Normalized EBITDA Other income Interest expense Depreciation Normalized PBT Effective tax Reported net income Normalized net income Normalized EPS (Rs) Source: Company, Kotak Institutional Equities estimates Exhibit 2: Refining margins declined sharply to US$3.7/bbl; marketing margins declined 14% qoq Calculation of segment-wise profitability Segment-wise contribution 1QFY18 2QFY18 3QFY18 4QFY18 1QFY19 1QFY19E Gross contribution Add: net under-recovery Add: one-off provision/charges Add: adventitious loss/(gain) 15.8 (7.9) (14.8) (1.6) (19.1) (8.2) Normalized gross contribution Refining segment Marketing and other segments Blended marketing margins (Rs/ton) 5,184 4,689 4,062 5,782 4,960 4,682 Reported refining margins (US$/bbl) Normalized refining margins (US$/bbl) Crude throughput (mn tons) Domestic sales (mn tons) Export sales (mn tons) Exchange rate (Rs/US$) Source: Company, Kotak Institutional Equities estimates 20 KOTAK INSTITUTIONAL EQUITIES RESEARCH