The high proportion of crude derivates used in lubricants dictates the bottom line for this industry. As much as 66 per cent of raw material costs for lubricant manufacturers are derived from crude.
The Indian lubricant industry is a $4.8-5.1 billion market (ICICI Securities estimates), with volumes of around 2,350 million litres. The largest single user of lubricants is automotives, which consume close to half of total sales. Pre-liberalisation, PSUs dominated the automotive lubricant market with over 90 per cent market share. Today, with open market competition, their share is down to a third. Automotive slowdown seen in recent years not only hurt original equipment manufacturers but also lubricant manufacturers, who saw volume growth at 2-3 per cent during the slowdown. Here are two lubricant manufacturers set to gain from the decline in crude prices.
In an industry dominated by PSUs, Castrol has held its own with a market share of 22 per cent (in value terms). Castrol's most recognisable brand is CRB Plus, the largest selling diesel engine oil in the country. The automotive segment brings in close to 90 per cent of the company's revenues.
Buoyed by an improving economy, Castrol could report annual revenue growth of 5.5 per cent in the next two years, says a report of ICICI Securities. It pegs the auto industry to grow at 13.5 per cent during the same period. The biggest driver for automotive lubricants, commercial vehicles, look set to do better than overall industry growth, at 18 per cent CAGR in the following two years.
The fall in crude price and stable realisations are expected to kick EBITDA margins up from 21 per cent (CY14E) to 33 per cent in the current calendar. Higher profitability is in turn likely to improve ROCE from 117.6 per cent (CY14E) to 168.2 per cent (CY15E). EPS could jump as much as 68 per cent (ICICI). However, valuations have run up. At the current market price, Castrol trades at 51x its TTM earnings. Existing investors should hold on.
Gulf Oil Lubricants India
If you are looking for a lubricant stock that is not as expensive as Castrol but promises to deliver as much, Gulf Oil is the one you should bet on. Product positioning and brand building over the years has helped Gulf increase its retail market share from 4.4 per cent in FY07 to 6.9 per cent in FY14. Gulf chases volume growth and its top priority is capturing market share. That strategy does have its own price. Margins for Gulf stood at 12 per cent levels in the last four years compared to Castrol's upwards of 20 per cent levels in the same period. However, that does not mean Gulf is not attractive. Gulf's management is confident of growing 2x that of industry growth rate with a volume growth of nine per cent (FY14-17E). Besides, Gulf has a more balanced portfolio, with 55 per cent of its revenues coming from the automotive sector, which is looking up, and 25 per cent from the industrial lubricant sector, which seems set to turnaround. If you want more convincing, here's why Gulf Oil is attractive: high return ratios, market share gains, stated dividend payout of 40 per cent, and with a FY15E P/E of 26x, Gulf is available at half of Castrol's valuation.