Refining Capacity Expansion Will Collide With Decarbonization Trends

Key Takeaways

• Heavy investment in hydrocarbons amid energy transition risks asset underutilization, with limited progress on renewables increasing vulnerability to declining fuel demand.
  
• Mounting regulatory pressures and continued dependence on subsidies threaten profitability, while overcapacity may suppress petrochemical segment returns.
  
• Diversified growth through capacity expansion, efficiency improvements, and renewable investments positions the company for sustained revenue, margin, and shareholder return resilience.

Catalysts

Indian Oil Corporation Limited, together with its subsidiaries, refines, pipeline transports, and markets petroleum products in India and internationally.

• The company is substantially increasing refining capacity and committing large capital expenditures into its core hydrocarbon business at a time when global decarbonization and the rapid adoption of electric vehicles threaten to structurally reduce long-term demand for fossil fuels, risking lower utilization rates and potentially stranding assets, with major negative consequences for future revenues and returns on investment.
  
• Intensifying regulatory focus on carbon emissions and sustainability standards is expected to raise compliance costs and expose Indian Oil to higher taxes or mandated capex for emissions controls, putting pressure on net margins and overall profitability over the next decade as regulatory headwinds mount.
  
• Despite rhetoric and listed projects around renewables and green hydrogen, the pace and scale of diversification remain limited relative to the core hydrocarbon business, leaving Indian Oil highly vulnerable to a structural decline in legacy fuel margins and volumes, constraining long-term earnings growth.
  
• The company remains reliant on government subsidies and price controls, particularly for LPG and other regulated products, creating material uncertainty around the timing and realization of crucial receivables, thereby introducing unpredictable fluctuations in net earnings and cash flows.
  
• Persistent weak petrochemical spreads and significant capacity additions in this segment may result in prolonged sub-par returns from these investments, as global overcapacity and demand headwinds limit pricing power, which could further depress segment profitability and drag on overall company margins.

Indian Oil Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Indian Oil compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Indian Oil's revenue will decrease by 5.4% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 1.8% today to 2.9% in 3 years time.
• The bearish analysts expect earnings to reach ₹185.1 billion (and earnings per share of ₹13.08) by about July 2028, up from ₹136.0 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 11.3x on those 2028 earnings, down from 15.4x today. This future PE is lower than the current PE for the IN Oil and Gas industry at 19.6x.
• Analysts expect the number of shares outstanding to decline by 0.1% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 13.91%, as per the Simply Wall St company report.

Indian Oil Future Earnings Per Share Growth

Risks

• Robust long-term energy demand in India, supported by population growth and urbanisation, suggests Indian Oil could see sustained volume growth, positively impacting revenues and earnings.
  
• Significant ongoing and planned capacity expansions in refining, pipelines, and petrochemicals position Indian Oil to benefit from higher processing volumes and diversified product offerings, potentially boosting revenue and net profit margins over time.
  
• Strategic investments in renewables, green hydrogen, EV charging, and biofuels through subsidiaries indicate growing diversification, which can cushion revenue and profitability as energy consumption patterns evolve.
  
• Operational efficiency improvements and large-scale pipeline additions are likely to reduce logistics costs and improve working capital efficiency, thereby helping maintain or enhance net margins.
  
• Continued government engagement over LPG under-recovery and a track record of dividend payments imply some stability in cash flows and shareholder returns, supporting positive long-term earnings prospects.

Valuation

• The assumed bearish price target for Indian Oil is ₹103.38, which represents two standard deviations below the consensus price target of ₹156.07. This valuation is based on what can be assumed as the expectations of Indian Oil's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of ₹200.0, and the most bearish reporting a price target of just ₹85.0.
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be ₹6425.8 billion, earnings will come to ₹185.1 billion, and it would be trading on a PE ratio of 11.3x, assuming you use a discount rate of 13.9%.
• Given the current share price of ₹152.35, the bearish analyst price target of ₹103.38 is 47.4% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.