Oil Marketing Companies Rating Introduction The downstream oil and gas sector comprise refiners, Bulk Distribution Companies (BDCs), Oil Trading Companies (OTC), Oil Marketing Companies (OMCs) and private fuel retailers. The industry is inherently cyclical, following patterns of
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Beacon Ratings Corporate Sector
Oil Marketing Companies Rating Introduction The downstream oil and gas sector comprise refiners, Bulk Distribution Companies (BDCs), Oil Trading Companies (OTC), Oil Marketing Companies (OMCs) and private fuel retailers. The industry is inherently cyclical, following patterns of economic growth and product demand as well as industry patterns of investment, surplus and shortage. As part of the deregulatory measures to contain the subsidy burden for the government, OMCs revise retail prices of pro
Oil Marketing Companies Rating
Introduction
The downstream oil and gas sector comprise refiners, Bulk Distribution Companies (BDCs), Oil Trading Companies (OTC), Oil Marketing Companies (OMCs) and private fuel retailers. The industry is inherently cyclical, following patterns of economic growth and product demand as well as industry patterns of investment, surplus and shortage. As part of the deregulatory measures to contain the subsidy burden for the government, OMCs revise retail prices of products periodically - mainly fortnightly. This lowers regulatory risk for OMCs. Important processes in OMCs business include storage, distribution and sale of petroleum products. The OMCs perform marketing activities through their vast network of terminals/depots, retail outlets, and LPG distributorships.
Rating Criteria
Beacon Ratings approach to rating OMCs involves quantitative and qualitative risk assessment of factors that affect credit risks of OMCs. Beacon Ratings’ risk analysis framework for OMCs can be broadly categorized into the following factors:
Business performance
Financial performance
Corporate governance and management quality
Parent entity support
Business performance
Retail configuration:Product branding is important as price differentiation is negligible. Consumers discriminate between different brands on the basis of quality for increased mileage, low maintenance costs and quality of service at the pumps. The mix of products at retail outlets is also considered for this purpose.
Marketing infrastructure:Creation of marketing infrastructure is capital intensive and constitute a key entry barrier for new entrants. Cost of land to duplicate the infrastructure in key cities for terminals, depots, retail outlets, aircraft fueling facilities and tankages are capital intensive. OMCs with adequate transportation infrastructure are likely to have competitive advantage.
Geographical diversification:Geographical diversification for OMCs may decrease cost efficiencies. However, differences in economic activities in geographical areas may impact on demand. Presence in geographically diverse area guards against both supply and demand shocks as re-location entails problems of developing new supplier relationships and generating customer loyalty from scratch.
Automation of retail outlets:Retail automation involves automation of all the operations and business processes of a retail outlet with the objective of efficient operations, monitoring and control of business processes. This is achieved by capturing, collating and analyzing all the transactions electronically. Other objectives include customer relationship management and speed of transaction resulting in quick fill experience. Automated OMCs are efficient and cost effectively operated.
Tamper proof locking system and GPS tracking of tank trucks:OMCs have introduced tamper proof tank truck locking systems to prevent transit adulteration by transporters. In order to prevent adulteration during transportation, OMCs install GPS for complete monitoring of the movement of all owned / dealer owned / contractor owned tank trucks.
Stock management: Stocks management is most critical to OMCs’ operations for two reasons. (i) the carrying cost of stocks tends to be substantial high due to the nature of the asset, and (ii) the price risk to the OMCs in periods of decreasing prices. Thus, proximity to suppliers and customers is important to reduce stocks volume through periodic supply or just-in-time rather than bulk storage. On the other hand, transportation costs can become high in case of periodic supply depending upon location of retail outlet and mode of transportation.
Customer mix:Retail sale of petroleum products is a low volume and high margin business on a per unit and per customer basis. On the contrary, institutional sales to airlines and manufacturing companies - is a high volume and low margin business on a per unit basis. A high share of institutional sales could translate into high client concentration risk, and could also leave the OMC vulnerable to customer poaching by competitors. On the other hand, retail sales could be more stable because of the diversified customer base.
Branding: OMCs with good unique brands - such as branded auto fuels and fuel credit cards – are more likely to retain their customer base. Branded fuels achieve higher marketing margins vis-à-vis traditional fuels.
Financial performance
Financial performance assessment of OMCs focuses on profitability, cash generating capability, financial strength and sources of financial flexibility, all in relation to various committed costs and contingent obligations. In determining financial performance,projections are drawn up to include expected movement in revenues and operating margins, working capital changes, the upcoming debt obligations, as well as capital expenditure and investment requirements of OMCs. The extent of gross under-recovery (GUR) and timeliness of payment for subsidies have a bearing on the cash flow position.
Profitability:The trend in OMC’s operating profitability indicators, return on assets, and return on shareholders’ funds in comparison to industry average are assessed. The following financial indicators are assessed:
Operating profit
Return on assets
Return on equity
Gearing and debt coverage:The OMCs level of debt in relation to its own funds and associated business risks are assessed. Low financial leverage is expected to offset the high business risk. Thus, the following financial indicators are assessed:
Financial leverage
Debt service coverage or interest coverage
Total debt/OPBDITA
Net cash/total debt
Working capital strength:The OMCs core working capital including debtors, stocks and creditors are assessed in relation to industry averages. Working capital strength, as measured by working capital/operating profit, is low in OMCs, because of large cash sales in retailing, low stock holding period (days) and moderate creditors’ payment period (days). OMCs that hold relatively higher stocks locked-up working capital and thus, significantly affects profitability. The following financial indicators are assessed:
Working capital/operating profit
Stock holding period
Debtors collection period
Creditors payment period
Liquidity:Liquidity ratios measure the cash and cash equivalents buffer OMCs has in relation to financial obligations that can be utilized in case of temporary cash flow mismatch. The existence of adequate buffers of liquid assets/bank lines to meet short-term obligations are assessed. Liquidity indicators assessed include:
Current ratio
Quick ratio
Cash ratio
Unutilized bank/credit limits
Repayment history: Repayment history is assessed by historical record and timely servicing of financial obligations by the OMC. Any delay or default history of repayment of principal or payment of interest reduce is an indication of future debt servicing willingness. Appropriately, an analysis of reasons for past delays or defaults is undertaken to determine the underlying factors.
Number days delayed payment
Number of past defaults
Foreign currency risks: Foreign currency risk arises when an OMCs major costs and revenues are denominated in different currencies. With the depreciation of the Ghana cedi against the US dollar, there will be under-recovery burden for OMCs unless full deregulatory pricing is achieved. An assessment of how hedging practices and other risk mitigation practices are conducted.
Accounting quality and disclosures:The accounting policies and other notes to financial statements, and auditor’s commentary are reviewed. Contingent liabilities and other off-balance sheet exposures and their implications on financial position are assessed.
Corporate governance and management quality
Corporate governance: The governance structure in terms of competence and track record in relation to OMC governance are assessed. Key factors assessed include:
Board independence
Board composition
Board committees
Strategy execution track records
Board oversight responsibilities
Board practices and support for management
Management quality:The quality of management in terms of competence and track records of OMC business are assessed. Beacon Ratings assesses management quality using the following key factors:
Management stability
Key management pro-activeness
Key management’s credibility and track record
Depth, breadth and succession plans
Capability of the second layer of management
Key management’s appetite for risk and risk management
Parent entity support
Extraordinary support from the parent company to the entity is assessed by the capability and willingness of the parent to extend support. Factors assessed include:
Experience of the promoter/ management in the line of business concerned
Commitment of the promoter/ management to the line of business concerned
Policy of the promoter/ management to risk taking and containment
Policies on leveraging, interest risks and currency risks
Plans on new projects, acquisitions, expansion
Rating scale and definitions
Imported table
Medium to Long-Term
Rating Scale
Interpretation of Rating Scale
AAA
Highest credit quality; the risk factors are negligible, being only slightly more than for risk-free Government of Ghana’s debt instrument.
AA
High credit quality; Protection factors are strong. Risk is modest but may vary slightly from time to time because of economic conditions.
A
Good credit quality; Protection factors are adequate. Risk factors may vary with possible changes in the economy.
BBB
Adequate credit quality; Protection factors are reasonable and sufficient. Risk factors are considered variable if changes occur in the economy
BB
Obligations deemed likely to be met. Protection factors are capable of weakening if changes occur in the economy. Overall quality may move up or down frequently within this category.
B
Obligations deemed less likely to be met. Protection factors are capable of fluctuating widely if changes occur in the economy. Overall quality may move up or down frequently within this category or into higher or lower rating grade.
CCC
Considerable uncertainty exists towards meeting the obligations. Protection factors are scarce and risk may be substantial.
CC
A high default risk
C
A very high default risk
D
Defaulted obligations
Imported table
Short-Term
A-1+
Highest certainty of timely payment; Short-term liquidity, including internal operating factors and /or access to alternative sources of funds, is outstanding and safety is just below risk-free Government of Pakistan’s short-term obligations.
A-1
High certainty of timely payment; Liquidity factors are excellent and supported by good fundamental protection factors. Risk factors are minor
A-2
Good certainty of timely payment. Liquidity factors and company fundamentals are sound. Access to capital markets is good. Risk factors are small.
A-3
Satisfactory liquidity and other protection factors qualify entities / issues as to investment grade. Risk factors are larger and subject to more variation. Nevertheless, timely payment is expected.
B
Speculative investment characteristics; Liquidity may not be sufficient to ensure timely payment of obligations
C
Capacity for timely payment of obligations is doubtful
Rating outlook
Imported table
Positive
Indicates a rating may be raised
Negative
Indicates a rating may be lowered
Stable
Indicates a rating is likely to remain unchanged
Developing
Indicates a rating may be raised, lowered or remain unchanged
Rating outlook assesses the potential direction of an OMCs’ credit rating over the intermediate term - typically over a one year. Ratings from AA to B may be modified by a positive (+) or negative (-) suffix to show its relative standing within the major rating categories.