TEXT-Fitch Street View: Ban on Iranian Oil - Negative for Korean Consumers

(The following was released by the rating agency) SEOUL/SINGAPORE, June 11 (Fitch) Fitch Ratings says South Korea's consumers are likely to be negatively impacted by US and European sanctions on Iranian oil exports, as the government's ability to both obtain exemptions and restrain the consequent increase in gasoline prices at the retail level appears limited. At the same time Fitch expects that South Korea's refiners will emerge largely unscathed given their ability to pass on increased costs to the consumer.

South Korea's oil imports from Iran could come to a complete halt from early July as the nation is under heavy pressure to comply with both US and EU sanctions on Iran over the latter's alleged nuclear weapons development programme. In 2011 Iranian oil accounted for around 10% of South Korea's total oil imports of approximately 930 million barrels.

The absence of a substantial portion of Iranian oil from the global market is likely to contribute upward pressure on the price of oil, not just from a supply perspective, but also given the slightly lower price Korea pays for Iranian oil compared with most other sources. Accordingly, all other things being equal, gasoline prices are likely to rise and weaken consumer sentiment.

South Korea's oil imports from Iran during the four months to April 2012 were already 10% lower compared with the same period in 2011, despite a substantial increase in April. The Ministry of Knowledge Economy said that imports decreased further in May, and this may help South Korea's bid to obtain a number of exemptions from the US-imposed sanctions. However, even importing lower quantities from Iran will prove difficult given that the EU's ban on insurance cover for exports from Iran will kick in from July 2012. Finding alternate insurers to provide comprehensive cover for tanker shipments is likely to be difficult and costly.

In the case of South Korea's refiners Fitch expects only a marginal impact. Refiners in South Korea have historically been able to pass on their incremental raw material costs to the consumer, and attempts by the Korean government to restrict retail price increases have not been successful. Also, refiners' production levels are unlikely to be affected - for example SK Innovation (SKI, 'BBB'/Stable) already has arrangements in place to import a greater portion from countries like Saudi Arabia and the United Arab Emirates. Procuring oil from the Singapore spot market is also another possibility, depending on pricing dynamics.

Nevertheless, higher input costs will still result in some negative implications for South Korean refiners. This will include some margin compression for SKI and Hyundai Oilbank - the two main refiners sourcing oil from Iran - from having to replace cheaper Iranian crude with more expensive sources, and higher working capital for all South Korean refiners should the price of crude increase. Recent media reports note that the price of North Sea oil is being boosted by a substantial increase in South Korean demand in May and June, which Fitch believes to be evidence of South Korean refiners' need to replace Iranian crude with other preferred sources.

Fitch expects that most of the burden from higher oil prices will be borne by the public, notwithstanding the government's need to obtain public support ahead of South Korea's presidential elections in November. The government's current effort to obtain sanction relief with the US so that minimum levels of Iranian oil can still be imported will prove ineffective so long as the EU ban on insuring Iranian exports remains and South Korean refiners are unable to arrange an alternative form of insurance. Other options available to the government include releasing stock-piled oil and perhaps lowering oil taxes.