In-line with our views expressed of a likely price increase, the Ceylon Petroleum Corporation (CPC) increased all fuel prices last night (20th December) amidst declining reserves. Latest data available for October 2021 indicates that CPC import prices (CIF) reached USD 73.51/bbl compared with USD 41.77/bbl in October 2020 and the 2020 average of USD 44.39/bbl. With higher economic activity expected going forward, we anticipate overall demand to increase against elevated global oil prices (Global oil prices currently average USD 70.00/bbl, but down approx. 23.6% from this year’s high of USD 86.50/bbl). The key positive is that global analysts expect global prices to taper down in 2022, easing price pressure to some extent. However, with Sri Lanka’s reserves at USD 1.6bn by end November, combined with fiscal pressure stemming from lower revenue collections due to COVID-19, higher fuel prices is a positive, barring the inflationary impact added to already elevated price levels.
Lower global prices, demand amidst fixed prices supported CPC in 2020
A key positive in 2020 amidst lower global oil prices was that the historically loss-making CPC recorded an operational profit of LKR 34bn during the year (compared with a LKR 19bn loss in 2019) owing to the fixed retail price and lower international oil prices.
While both economic activity and global prices have been easing off from the record highs seen in 2020, we view the higher retail prices a necessity to support 1) the fiscal position through managing the State owned Enterprise (SoE) debt pressure originating from CPC and 2) the external balance through lower oil demand and 3) international reserves which were down to USD 1.6bn in November.
This will also support the trade balance, where historically the oil bill has accounted for approx. 20.0% of total imports. We note that for the 10M 2021 the fuel bill was up 40.1% YoY, despite no coal imports being recorded for 2-3 months of the year. However, Refined Petroleum imports were up 48.0% YoY YTD.
Step up inflationary impact to materialise following fuel price hike
With non-food inflation accounting for 71.8% of total inflation, we expect a 0.3pp impact on overall price levels, especially as economic activity picks up in 2022. We note that at this point, the fuel price increase will have a material impact on the cost of living given that food price pressure has continued to move upwards during the past months.
Given that the main fuel type used for transportation, auto diesel was increased by 9.0%, compared with a 12.5% increase in petrol prices, we expect food inflation to also record an increase in the coming months.
As such, we expect inflation (CCPI) to breach our 2021 forecast of 8.5% YoY. We note that our 2022 forecasts are currently under review.
Equities: LIOC key beneficiary; higher energy and transportation costs to be borne by corporates
We see LIOC SL as being the key beneficiary of the fuel price increase. In our view, the company will be profitable in its Autofuels segment once again with the price increase. We note that profitability over the last few quarters has been predominantly driven by the Lubricants and Bunkering segments.
On the other hand, given that the rest of the listed corporates source their bulk fuel requirements on global market prices, we do not expect to see a step up in COGS for corporates due to the fuel price hike. However, the fuel price hike will see to a pickup in companies’ Distribution and Administrative expenses due to higher transportation costs.
We see companies such as TKYO SL seeing a lower impact due to 100% reliance on its biomass plants for its energy requirements. We do not expect the margin impact to be material as we expect corporates to take measure such as cutting back on discounts to absorb the higher fuel costs. As such, we do not make any changes to estimates within our coverage at this point.