GAIL: Near term prospects under cloud

Softer petchem and natural gas business prospects add to the concerns, though analysts feel rate revision and subsidy exemption will drive growth in the medium term

GAIL’s performance suffered in the December quarter, impacted by lower margins in the petrochemicals, liquefied petroleum gas (LPG) and liquid hydrocarbon segments, beside inventory losses due to the decline in crude oil prices.

There were also the APM gas price increases and Rs 500 crore subsidy payment (on account of the September quarter), which increased costs.

However, there are positives to accrue in the coming days. First, transmission volumes are improving. Also, the subsidy burden is likely to fall or might become nil over a period of time. The rate revision hopes are also rising.

In the near term, though, the petchem and LPG margins might remain subdued. Marketing of the higher priced Ras Gas shipments is also a concern, as spot prices are lower. In this backdrop, analysts, while tweaking their target prices, believe the fall in GAIL’s share price offers a good opportunity for investors to accumulate the stock.

In the petrochemicals segment, GAIL suffered due to over-dependence on high cost LNG. Feedstock prices also remained high, whereas product realisations declined both sequentially and year-on-year. Higher APM prices impacted margins further. Thus, even as petchem volumes increased marginally on a sequential basis and were flat year-on-year, Ebitda (earnings before interest, taxes, depreciation and amortisation) at Rs 47.7 crore was significantly lower than the Rs 335.6 crore in the previous quarter and Rs 155.2 crore in the year-ago quarter.

LPG & other liquid hydrocarbon sales volumes increased marginally but realisations dropped 45.5 per cent over a year. Hence, the earnings before interest and taxes (Ebit) at Rs 242 crore was down 68 per cent over a year.

With a decline in crude oil prices, marketing margins are estimated to be $0.04/mBtu, 89 per cent lower than the year-ago quarter’s $0.32/mBtu. Analysts at Citi observe that though gas trading disappointed, with Ebitda at only Rs 50 crore compared to the Rs 300 crore average over the past few quarters, this was impacted by a Rs 95 crore inventory loss (primarily on spot LNG, where prices dipped sharply in the quarter) and lower trading margins.

Natural gas transmission, however, saw a much lower fall of 14.6 per cent. Transmission volumes were  94.1 mscmd versus 96 mscmd in the year-ago quarter and 91 mscmd in the September quarter.

Outlook
On Ras Gas, the management says it is confident of blending it with spot LNG and selling within the customer base, and expects all contracts to be honoured.

The company’s Dabhol power plant is also likely to be operational by February-end, with an LNG requirement of about one million tonnes per annum. GAIL is also likely to see more petchem capacity commissioned by the end of FY15, which will add to volumes.

Adjusting for the negative impact of lower LPG and petchem earnings, as well as factoring in the decline in crude that has resulted in correction in spot LNG prices (making marketing of higher-priced Ras Gas cargo difficult and hurting trading margins), Nitin Tiwari at Religare has changed his target price for GAIL to Rs 565 from the earlier Rs 615.

He, however, expects improvement in natural gas transmission/trading volumes and transmission rates, as well as exemption from subsidy burden, to offset the earnings headwinds. An upward revision in pipeline transmission rates is anticipated as gas transmission companies are allowed a fixed 12 per cent post-tax return on capital employed, given the recent regulatory rulings in favour of GSPL; GAIL’s transmission matter is pending in the appellate body.

Analysts at Kotak Securities, too, while seeing near-term headwinds for GAIL, believe the medium-term prospects for the company’s utility natural gas business remains intact. They note the possibility of a rise in transmission rates and rising availability of volumes in India, led by an increase in LNG imports.

The consensus target price for the stock, trading at Rs 410, is Rs 423 from analysts polled on Bloomberg after the results.