Refinery: NATIONAL REFINERY LIMITED - Analysis of Financial Statements Financial Year 2005 - 1H Financial Year 2011

National Refinery Limited (NRL) is a downstream energy company incorporated on August 19th 1963 as a public limited company. It is principally engaged in refining of crude oil and production of petrochemicals. The company's product portfolio includes, fuel products, lube base oils, asphalt and specialty products. NRL is the sole producer of lube base oils in Pakistan.
The company operates three refineries, consisting of two lube refineries and one fuel refinery and a BTX (Petrochemical) plant. Its refineries are located in Karachi. NRL handles its business under two segments, namely, fuel and lube segments. It sells its products both at national and international markets. The company is headquartered in Karachi.

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COMPANY SNAPSHOT

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Name of company        National Refinery Limited

Nature of Business   Oil Refinery & Distributors

Ticker                                       NRL

Share price (as on September 30th 2010    Rs.202

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Sector overview
Oil and gas sector has been a major contributor in the economic development of the country. It contributes more than Rs 230 billion to national exchequer annually. Oil and gas sector can be divided into three categories:
* Upstream - Exploration & Production
Pakistan has so far discovered 1 billion barrels of oil & 54 trillion cubic feet of natural gas. Sedimentary area is Pakistan covers 827,000 Sq. km, 1/3rd of which is under exploration. At present 17 foreign E&P companies including major multinational companies are operating in Pakistan. Pakistan Petroleum Limited, Pakistan Oilfield Limited, Deewan Petroleum and Mari Gas Limited are some of the local E&P companies.
* Mid Stream - Refining

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Refinery                location        Capacity (MT)

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Pak-Arab Refinery       Mehmodkot                 4.5

Byco                       Hub                  2.187

National Refinery        Karachi                 2.07

Pakistan Refinery        Karachi                  2.1

Attock Refinery         Rawalpindi               1.82

Dhodak                   D.I.Khan                0.12

Enar Petrotech           Karachi                 0.13

Total Refining                                 12.927

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Major players in the industry are as follows:
1. PARCO; production 100,000 barrels per day equivalent to 4.5 million tons
2. NRL; production 65,000 barrels per day equivalent to 2.8 million tons
3. PRL; production 50,000 barrels per day equivalent to 2.2 million tons
4. ARL; production 42,000 barrels per day equivalent to 1.8 million tons
5. Byco; production 30,000 barrels per day equivalent to 1.5 million tons
Current crude production of Pakistan is 65,000 to 67,000 barrels per day and total capacity of the refineries is 287,000 barrels per day or 12 million tons hence 22,0000 barrels per day are imported.
National Refinery is the second largest refinery of the country in terms of refining capacity after Pak Arab Refinery (PARCO) and is presently selling its products both locally and internationally. On an average, it contributed 22.7% in the total production of the country during the last five years.
FY10 has been a very challenging year for the entire oil sector, especially the refineries. FY09 saw severe fluctuations in international petroleum prices, with prices of Arab Light crude reaching all time high of USD 143.09/bbl and slumping to a low USD 35.35/bbl respectively. In comparison, prices varied between USD 70/bbl to USD 87/bbl during FY10, which is a considerable improvement. However, the stabilisation in prices was not sufficient to maintain profitability, as the guaranteed return for the refineries was withdrawn, causing an erosion in the gross refiners margin (GRM). The average GRM for the year was insufficient to cover production costs, and the refineries could not as a result, post a profit in the fuel segment of their operations. Start of FY11 was not very good for refining sector when the worst floods hit Pakistan along with the unresolved issue of circular debt, which has been hampering the industry for the past two years, has added to the difficulties, posing severe risks to liquidity and disrupting daily operations of the refineries.
Petroleum products off-take for the year grew by 8.52%, with volumetric sales standing at 20,314,743 MT (FY09: 18,719,300 MT). Demand for gasoline, HSD and LDO dropped, while furnace oil sales expanded by 15%.
Currently, PARCO, the market leader, works under oil refinery formula with 25 percent guaranteed rate of return up to December 2008. The profit of NRL, PRL and ARL up to 2001-2002 is under 10 percent guaranteed rate. The IPP formula was modified in 2002 and minimum 10 percent guaranteed with upper limit of 40 percent was done away with.
Tariff protection was allowed to NRL, PRL and ARL giving incentive of custom/deemed duty of 10 percent on high speed diesel (HSD) and 6 percent on kerosene oil, light diesel oil (LDO) and jet propulsion (JP-4) in their ex-refinery prices to operate on self financing basis. The formula was further revised in 2007-08 by reducing deemed duty to 7.5 percent on HSD and removing 6 percent deemed duty on kerosene, LDO and JP-4/8 through budgets. This reduction in deemed duty, twined with fall in global oil prices and caused a considerable decline in the profitability of the oil refineries.
The companies have been actively involved in deliberations with the government over changes in the pricing policy; however no progress has been over the past year.
Share of the petroleum products is about 40% of the current energy consumption in Pakistan. This consumption has grown sharply during 1980s at rate of almost 7% per annum. However, it showed a decreasing trend during 1990s and during 2004-05, it gained pace at about 10% per annum.
Oil consumption of energy products is dominated by gasoline and fuel oil. Gasoline in Pakistan consists of High Speed Diesel (HSD) and Light Speed Diesel Oil (LDO), while fuel oil consists of furnace oil.
The transport and agricultural sector are the two major users of gasoline in Pakistan. In the past years, a high level of subsidy was being provided by the government on gasoline, due to which its consumption increased. In 2007, the increase in the oil prices in the international market affected Pakistan's economy, and as a result the government was no longer in a position to provide the same amount of relaxation as before. The government has gradually reduced the subsidy level, causing increase in domestic prices of gasoline and consumption to drop. Secondly, the government is promoting the Compressed Natural Gas (CNG) sector in Pakistan and is encouraging the transport sector to convert to CNG. This indicates that in the coming years Pakistan will see reduced consumption of gasoline products in the transport sector. There is, however, no alternative for gasoline in the agriculture sector, which is facing extreme difficulties due to rising prices.
Furnace oil or fuel oil is normally used for production of electricity via thermal power plants. At the moment Pakistan is facing an extreme energy crisis due to which the government is planning construction of short-term power generation plants that are oil based, and is also encouraging independent power producers to invest in the country. As all the new thermal power plants are oil based and as the country has very limited natural gas resources, the consumption of furnace oil will also increase in the coming years.
Financial performance (1H11)
Gross sales increased to Rs 83.4 billion as compared to Rs 59.7 billion in the same period last year. Gross profit more than doubled at Rs. 4.6 billion as compared to Rs. 2.2 billion in the same period last year. Distribution, marketing, and administrative expenses were kept at a decent level and did not increase considerably much as compared to last year. Other operating income was considerably higher at Rs 1.2 billion as compared to Rs 0.5 billion in the same period last year. PAT was recorded at Rs. 3.13 billion as compared to Rs. 1.15 billion in same period last year, translating into an EPS of Rs. 39.22 as compared to an EPS of Rs. 14.43 in the same period last year.
Favorable GRM along with stable rupee and higher thorough put resulted in this increased profitability. Overall both lube and fuel segment did well.
Liquidity
In terms of liquidity, the company's position remained relatively stable, with only a slight deterioration as compared to the same period last year. NRL is performing better as compared to the sector in terms of liquidity, and its current ratio of 1.46, which is well above the industry average of 1.10.
The issue of circular debt continued haunting the company during this quarter; however the company managed to keep the overdue receivables at a constant figure of Rs 9,393 million. Oil industry is looking towards the government to develop a mechanism that could settle the aggravating issue of circular debt.
Current assets at the end of the quarter stood at Rs. 54.9 billion as opposed to the 47.9 billion in the 1st quarter of FY09. The largest proportionate change was seen in stocks in trade, with a rise of 36% indicating a troubling liquidity position for the company. Trade debts, another large component of current assets grew by only 10%, which is an achievement for the company given the current situation of circular debt which is affecting the sector.
Current liabilities for the year stood at Rs. 37.5 billion as opposed to 31.9 billion last year. Trade and other payables stand at Rs. 33.3 billion, which is the only major component of current liabilities.
Asset management
In terms of Asset Management, NRL has remained relatively stable, with only a small decline. Inventory turnover has remained steady, at 34 days during both FY09 and FY10 and it has continued during the quarter. This is due to the stability in both sales and inventory over the period. Days sales outstanding increased from 38 days in FY09 to 43 days in FY10 and another increase of 2 days in this quarter. This again is due to sales remaining stable, and receivables increasing by a relatively larger proportion. The operating cycle thus stands at 79 days, compared to 72 days in FY09. The company's operating cycle is considerably shorter than the industry average, which stands at 96 days.
Debt management
Like asset management, debt management of NRL also declined over the year. The debt to asset ratio increased from 59% in FY09 to 62%in FY10, showing an increase of the company's debt. The ratio further increased to 63% on YoY basis in this quarter. The company is however still in a better position than the industry, which has an average debt to asset ratio of 78%. Total liabilities for NRL stood at Rs. 37 billion. Total assets on the other hand stood at Rs. 58.7 billion. The increases in both the total assets and total liabilities were largely due to increases in the current portions of the two accounts. This is visible in the long-term debt to equity ratio which is only 0.7%, showing that the company has almost no long-term debt.
As a result of the considerable drop in the company's finance costs this year, from Rs. 2.4 billion in FY09 to Rs. 696 million in FY10, the TIE ratio has shown improvement. The TIE ratio stood at 7* as compared to the 2* last year.
Market value
Throughout the quarter, the market price of the share showed a continuous increase. The share price, which dropped last year, slowly and gradually increased reaching 202 as on 30th September 2010. This reflects the improving conditions of the company's profitability and decreasing risk associated with investment.
Earnings declared in the quarterly report showed a 100% increased as opposed to last year on YoY basis. EPS for NRL stood at 16.87 Rs as opposed to 8.17 last year in the same period. This shows that while the company's earnings have improved over the period, the market has not responded and investors remained doubtful, as the share price did not increase that drastically.
Future outlook
NRL, in order to sustain economical operations, made strong representations to the Government jointly with other refineries for a review of the Pricing Formula and held several meetings and negotiations during the year. The Government though acknowledging the refineries' difficulties remains under public and other pressure, and has not taken a concrete decision as yet. The Refineries have emphasized on the Government that a revision in the pricing formula is extremely essential in order that the refineries are able to maintain their normal operations to continue supplying petroleum products to the domestic market.
On continuous persuasion by all refineries of the country, it is encouraging to note that the government is revisiting the issue to rationalize the Pricing Formula. The company is hoping that the revision of pricing formula would provide a Gross Refining Margin that allows reasonable returns to the stakeholders. Also the issue of circular issue is likely to be resolved in this financial year due to continuous pressure from IMF. All this is reflecting a positive outlook for the oil industry and NRL.
COURTESY: Economics and Finance Department, Institute of Business Administration, Karachi, prepared this analytical report for Business Recorder.
DISCLAIMER: No reliance should be placed on the [above information] by any one for making any financial, investment and business decision. The [above information] is general in nature and has not been prepared for any specific decision making process. [The newspaper] has not independently verified all of the [above information] and has relied on sources that have been deemed reliable in the past. Accordingly, the newspaper or any its staff or sources of information do not bear any liability or responsibility of any consequences for decisions or actions based on the [above information].
Copyright Business Recorder, 2011