Analysts divided on GAIL's prospects; limited fresh gains in the offing

While most analysts are expecting poor results from oil marketing companies (OMCs) in the first quarter of 2024-25 (Q1FY25) and even in the first half (H1) of FY25, GAIL (India) could be an outlier.

Upstream producers, Oil and Natural Gas Corporation (ONGC) and Oil India (OIL) could do well due to strong crude and gas prices, but refiners are likely to see weak margins and the impact of frozen prices during the election period will also be negative.

GAIL has delivered a return of over 25 per cent since January. It has an improving volume growth outlook with 7 per cent volume CAGR estimated during FY24-26. There is also the potential for significant tariff hikes in the transmission business in the second half (H2) of FY25 and the completion of Rs 30,000 crore worth of projects in transmission and petrochemicals, which will boost its return on equity (RoE) and return on capital employed (RoCE). The end of the investment cycle will mean far better free cash flow for GAIL in FY26.

Analysts believe that there could be tariff hikes of 10-12 per cent starting in H2FY25 and continuing through FY26 and this could boost FY26 net profit as well.

The sector regulator, Petroleum and Natural Gas Regulatory Board (PNGRB) has considered a gas price of $12.46 per mmbtu (million British thermal units). Strong offtake in the refining, power, and city gas distribution (CGD) sectors are expected to drive up transmission volumes by around 20 mmscmd (million metric standard cubic meters per day).

Delays in completion of the integrated Jagdishpur-Haldia-Bokaro-Dharma pipeline and Dharma-Haldia pipeline are unlikely to adversely impact volume guidance. In the fourth quarter (Q4) FY24 earnings call, the management guided for a 10-12mmscmd increase in volumes to 130-132mmscmd in FY25 and up to 140-142mmscmd in FY26.

On the capex front, Rs 16,300 crore worth of transmission projects and Rs 13,100 crore of petchem projects are scheduled for completion in these two fiscals. The end of the capex cycle means no major mega projects on the table at the medium-term. The company may invest in small-scale LNG and CBG projects but these will not be that significant for capex. As a result, FCF (free cash flow) should climb significantly.

GAIL’s recent long-term LNG contracts, with Vitol and Adnoc, have been at small discounts to the previous gas contracts. Weakness in spot LNG prices, coupled to the strong outlook for growth in volumes, creates more opportunities to improve the competitiveness of GAIL’s portfolio.

During FY24-26, PAT could see a 8.2 per cent CAGR driven by a rise in natural gas transmission volumes to at least 137mmscmd in FY26 from 120 mmscmd in FY24 alongside substantial improvement in petrochemical segment’s profitability, as new petrochemical capacity becomes operational and low global inventories drives re-stocking demand, improving spreads.

The company’s RoE could rise to mid-teens in FY26 from 9.5 per cent in FY23, with FCF of Rs 4,000 crore in FY26 versus negative FCF of Rs 4,530 crore in FY23.

However, there’s also been a trend for big gas consumers to book contracts directly especially from the KGD Basin, which will reduce trading opportunities for GAIL.

There’s also the possibility that margins could reduce in the petchem segment even as volumes rise. These are monitorables for all investors. The slowdown in transmission pipelines could also mean that GAIL cannot adequately service demand. There are conflicting opinions on the above factors though analysts broadly agree on the volume CAGR.

As a result, target valuations and recommendations are mixed with some analysts having sell ratings while others have ‘Buy’ and 12-month price targets varying from around Rs 170 to Rs 260.