Gail stock sees upward growth, owing to upcoming tariff hikes, new projects

The public sector gas utility GAIL (India) has seen re-rating and upgrades from some analysts who see rising transmission volumes and a likely turnaround in the petrochemicals business. Analysts are projecting a strong improvement in the return on equity (RoE) to around 15 per cent by FY26 from around 9.5 per cent in FY23. They are also assuming an Ebitda CAGR (compounded annual growth rate) of 32 per cent from FY23-FY26.

This is based on upcoming gas price-related tariff hikes and the onset of new projects. The capex will also rise but the Gail group of companies may generate a free cash flow of Rs 4,500-4,600 crore in FY26. Optionality from subsidiary GAIL gas could lead to value unlocking of up to Rs 14.3 per share for the parent GAIL.

GAIL distributes gas with 40 per cent going to fertilisers, 25 per cent to city gas distributors (CGD), 11 per cent to power, 9 per cent to overseas companies and the remaining 15 per cent to steel, refineries, sponge iron, and internal consumption. It has six Subsidiaries, nine joint ventures and 11 associate companies.

In H1 FY24, Ebitda declined by 3 per cent year-on-year (Y-o-Y) to Rs 6,240 crore due to a decline in LPG & liquid hydrocarbons and an operating loss of Rs 463 crore in petrochemicals. But in Q2FY24, on a quarter-on-quarter (Q-o-Q) basis, Ebitda saw strong growth due to better trading margins and higher transmission volumes.

Transmission volume projections are of 9 per cent CAGR, with volumes rising to 140 mmscmd by FY26 from 107 mmscmd in FY23.

This assumes a utilisation rate of around 65 per cent by FY26, up from 52 per cent in FY23.

The growth would be supported by higher domestic output. Reliance Industries (RIL) will ramp up production from KG-D6 to 30 mmscmd, while ONGC will increase gas production from KG-DWN-98/2 by 7-8 mmscmd in FY25.

Oil India expects gas production to jump 20 per cent YoY in FY26 after the completion of the Indradhanush Gas Grid. 

Consumption will be aided by a rise in LNG regasification capacity, given five new LNG terminals and also new liquefaction capacity coming online in the US and Qatar. This should keep a ceiling on spot LNG prices.

The petrochemical segment should become profitable at the EBIT level by FY26, driven by improvement in polyethylene (PE) and polypropylene (PP) prices. Petrochemical demand should start to pick up from H2FY25 (October 2024) given low global inventories. Korean petrochemical players in their Q3CY23 earnings commentaries have said demand growth should exceed capacity additions globally for PE/PP. Polyester demand should see support from low global textile inventories.

GAIL’s petchem base is set to diversify across products as new PP and PTA capacities come online, giving it exposure to more product segments. GAIL will use both natural gas and propane as feedstock and it could still maintain margins even if there’s a surge in price for one of these gases. 

Softer spot LNG prices will help it hit the $10 per mmBtu breakeven level in petchem segment. The new 500,000 tonnes per annum propane dehydrogenation plant to polypropylene at Usar will be running at full capacity by FY26, adding 9 per cent to the standalone estimated Ebitda and also by then, an additional 3,892 km of gas transmission pipelines will be fully operational.

Potential risks include volatile gas prices. Also as of now, petrochemicals spreads are still falling. But the stock, which hit a record high of Rs 164.25 in intra-day trade on Friday, is still moderately valued which is why analysts see significant upside, given the likely global commodity trends over the next two fiscals.