While the stock has fallen by a fourth, the company’s dominant position in gas supply security provides comfort.
Gujarat Gas’ stock has lost close to 23 per cent since the start of September, mainly driven by news of British Gas (BG) of the UK planning to sell its 65 per cent holding. The Street’s reaction stems from worries over the impact of BG’s exit and the likely hit on profitability and growth. The sharp rupee depreciation has added to the woes. However, analysts say, the concerns seem unwarranted, as the company enjoys good pricing power. Analysts at BRICS Securities believe the impact of rupee depreciation on margins will be temporary, as this will be passed on to customers.
On the impact on gas supplies, analysts say the company has 65 per cent of its gas sourcing tied up till 2018. Secondl, the prospective buyer of BG’s stake is likely to have some supply arrangements in place. Given that many companies such as GAIL, GSPC, Adani, etc, have lined up to pick up BG’s stake in the company, analysts are also expecting the bidding to be aggressive. Dikshit Mittal, oil and gas analyst at SBI Cap Securities, says, “Considering the huge investments and long gestation period of the pipeline network, along with the attractiveness of Gujarat Gas’ current markets, we expect aggressive bidding for the BG stake.” This could act as a catalyst for the stock, which at Rs 372 is trading below its six-month average price of Rs 409. Most analysts are bullish on the stock, with an average target price of Rs 451.
| MARGIN PRESSURE | |||
| In Rs crore | CY10 | CY11E | CY12E |
| Sales | 1,849.0 | 2,472.0 | 2,908.0 |
| % change y-o-y | 30.3 | 33.7 | 17.7 |
| Operating Margin (%) | 22.5 | 19.3 | 18.6 |
| Change y-o-y (in bps) | 280.0 | -320.0 | -70.0 |
| Net profit | 258.0 | 319.0 | 359.0 |
| % change y-o-y | 48.0 | 23.9 | 12.4 |
| P/E (x) | 22.1 | 17.8 | 15.9 |
| P/BV (x) | 6.7 | 5.6 | 4.7 |
| ROCE (%) | 33.8 | 34.2 | 33.6 |
| ROE (%) | 32.0 | 34.4 | 32.1 |
| Source: Angel Broking; Roce: Return on Capital Employed; ROE: Return on Equity; E : Estimated | |||
ON A STRONG WICKET
Close to 65 per cent of Gujarat Gas’ current volumes (of 3.4 mscmd) are tied up till 2018 providing some visibility. Of the remaining, it has a tie-up to source one million standard cubic metres (mscmd) of gas from BG till December. Analysts say even if there is a temporary blip in some of the supplies, the company can source it from the market, and higher costs (if any) can be passed to consumers.
Their confidence stems from the company’s strong position. It is India’s largest natural gas transmission and distribution player in the private sector. It supplies natural gas to the industrial, commercial, domestic and automobile sectors in Gujarat, India’s second most industrialised state, where it enjoys a dominant position. Further, Gujarat Gas should gain from the Delhi-Mumbai Industrial Corridor (DMIC) project, which will boost fuel as well as power demand in Gujarat (38 per cent of DMIC passes through Gujarat).
On the other hand, GAIL has been facing higher competition in this state from GSPL and the entry of the RIL-BP alliance into gas sourcing and marketing business will only heat up competitive intensity in this region. In this context, Gujarat Gas will provide its new owner with ample growth opportunities and competitive edge.
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On the flip side, the company is exposed to currency risks. However, contrary to its peers (who mostly procure and sell gas at administered price mechanism), Gujarat Gas has higher pricing power and can offset the currency impact via price increases without impacting volumes. About 80 per cent of its revenues are from industrial sector. Due to this differentiator, the company has been able to maintain higher marketing margin than its peers.
HEALTHY OUTLOOK
Valuations for the stock appear attractive, which is trading at 13.7 times CY12 estimated earnings and 12.3 times CY13 estimated earnings. Analysts at Brics Securities have lowered their volume estimated for CY11 by five per cent, owing to higher winter LNG prices and a seasonally weak December quarter. However, they expect volume growth to bounce back to historical levels of 10-12 per cent in the longer run, driven by higher LNG availability, rise in domestic gas output and rising demand in Gujarat. Growing preference for natural gas over other fuels should also boost volumes.
Bhavesh Chauhan of Angel Broking says, “Besides volume growth, to maintain margins, the company plans to price its gas as per the pricing of alternative fuels. Through this strategy, the company will be able to maintain its volume growth and margins.” Going ahead, it plans to expand beyond South Gujarat and given the capital-intensive nature of the business, its debt-free status is a strong point. On the flip side, while analysts believe the company will be able to clock return on equity (ROEs) of 32 per cent for CY11, the same may come under some pressure after it gets authorisation from the Petroleum and Natural Gas Regulatory Board for its areas of operations. The exact impact, however, may only be known once full details are out. Some analysts like Mittal, though, believe there will be no major impact on returns after authorisation. This is because while the company’s transmission rates will be capped, it will also be free to fix trading margins. With authorisation, the company will get five years exclusivity (in a particular region), which will add to its competitive edge.