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Reliance refining margins rise 30% as IMO benefits set in

Vikas Srivastava
IMO benefit, Reliance Industries, IMO, GRM, CAGR, cheaper LNG costs, sulphur fuel oil

Reliance Industries (RIL) gross refining margins (GRMs) have risen around 30% sequentially in the July-September quarter. The company, one of the most complex refiners globally, is seen as the biggest beneficiary in Asia of the impending International Maritime Organisation (IMO) regulations.

Shipping companies will have to adhere to the IMO's low sulphur fuel regulations starting January 1. The regulations 2020 mandate reduction in sulphur content of bunker fuel to less than 0.5% from 3.5% to reduce sulphur dioxide emissions globally.

RIL's refinery has the complexity of 20, which means it can break the heaviest of crude into sweet crude saving on price due to light heavy differentials and increased demand from the shipping companies. In its latest report dated September 23, Morgan Stanley noted that as shipping companies prepare for IMO, Asian refining margins have risen, and diesel, which forms nearly half of RIL's refined product output, has seen near-record high margins. "Our proprietary margin tracker highlights around 30% QTD rise in RIL's refinery margins and we estimate a 27% compounded annual growth rate (CAGR) in refining Ebitda by FY21. We factor in these trends and cheaper LNG costs in our FY20-22 Ebitda per barrel estimates and raise them 2-6%," Mayank Maheshwari and Parag Gupta, analysts with Morgan Stanley, said.

The RIL management, in an earnings analyst meet, in July said, they are preparing to reap maximum benefits from the impending IMO 2020 regulations. Some of the measures highlighted by the company included an enhanced coker capacity from the October-December quarter of 2019; widening of crude blend window to process high sulphur blends, supply low sulphur fuel oil (LSFO) or marine gas oil (MGO) if economics are favourable, apart from taking a few scrubber fitted vessels on Time Charter.

Saurabh Handa of Citi Research said Reliance is enhancing its coker capacity by 50 kbpd which will be available from Q3FY20, just in time for the 2020 regulations. The company is making modifications to process more heavy sour crudes (improved desalting capacity) as well as looking at possibilities to produce very low sulphur fuel oil (VLSFO) or MGO. "Venezuelan heavy crude is being replaced by Iraqi, Mexican, Columbian, and Canadian grades and all petcoke gasifier units have been commissioned, though no timelines have been provided on commencement of contribution," Handa said.

RIL's GRMs in Q1FY20 contracted marginally to $8.1 per bbl from $8.2 per bbl in the previous quarter as the premium to Singapore GRMs fell to $4.6 per barrel from $5.0 per bbl on account of sequentially stronger gasoline and slightly weaker mid-distillate cracks.

In an earnings report by Bernstein Research, senior analyst Neil Beveridge said RIL's GRMs fell for the seventh consecutive quarter from a peak of $12 a bbl to $8.1 a bbl. "Margins could be at trough levels, however, while we continue to see an oversupplied product market in 2019, given exceptional capacity growth, Reliance will benefit from IMO 2020. IMO 2020 will start to have an impact in Q3FY20 and we could start to see sequential margin improvement helped by the complexity of Reliance refining capacity and high-light product yields," Beveridge said.
Fuel oil has traditionally been the bottom of the barrel, high-sulphur byproduct formed along with gasoline and distillate (diesel) by refiners.

To give a sense of how important the regulation is, on an annual basis, one large container ship emits more sulphur dioxide than 50 million diesel cars over a year. There are over 65,000 ships in operation globally.