GAIL with virtual monopoly in Indian gas utilities is in a sweet spot owing to (i) Unprecedented policy thrust to raise share of natural gas in total energy mix from 7% now to 15% by 2022, (ii) Global LNG glut and rising domestic gas production and (iii) Low per capita plastics consumption.In this context, recent staffing of PNGRB is a positive development, as many decisions on pipeline tariffs are pending. While the stock has run up 10% since this event (and up 60% YTD), we believe, there is still reasonable upside on the back of our Base case estimate of 21% earnings CAGR over FY17-20E vs. 16% currently being priced in. Our Bull case points to even higher 27% CAGR earnings. On new estimates, our TP rises to Rs 530 (Rs 400 earlier) and we maintain Hold.
Revise our crude price estimate to $55/60/60 per barrel for FY18/FY19/FY20e (from flat Rs 50/bl earlier) and reflect this in higher realisations for Petrochemicals and LPG volumes produced. We also assume higher volumes and lower opex for Natural gas transmission segment, but our pipeline tariff hike assumptions vary across cases.
Base case: Assume 8% tariff hike for transmission pipelines in FY19e (in line with FY17 approvals) and 4% hike for other years on GAIL’s last-mile connectivity push. This results in 21% earnings CAGR over FY17-20e and 9% upside. The conservative hike partly addresses the demand of power and fertiliser companies to limit pipeline tariff hikes.
Bull case: Assume 30% tariff hikes for transmission pipelines in FY19e, mid-way between 8% hike approvals in FY17 and 60% hike requested by GAIL. We pencil in 4% hike for other years on last-mile connectivity push. This results in 27% earnings CAGR over FY17-20e and 21% upside. The case partly addresses low pipeline utilisation concerns. At CMP, GAIL trades at 7x our FY20e Ebitda (ex-investments; slightly above Asian peers average of 6x), but we believe it deserves higher multiple given its earnings visibility. We also take comfort from GAIL’s strong returns profile, good dividend yield visibility of 3-4% for FY19/20E and importance in India’s goal to reduce crude imports by 10%.
Multiple positive triggers
Jagdishpur-Haldia and Bokaro-Dhamra gas pipeline project completion: Around 15 mmscmd of incremental gas demand from
5 fertiliser plants in Ramagundam, Sindri, Barauni, Gorakhpur and Durgapur (first two to come online by end of 2018) and CGD opportunities in cities en-route – Kolkata, Varanasi, Patna, Ranchi, Jamshedpur, Bhubaneswar and Cuttack. Note: GAIL recently announced that Phase I of the project will be completed ahead of the scheduled December 2018.
PNGRB staffing: (i) Decisions on Unified gas tariff proposal and ‘volume divisor’ contention on the six pipeline tariff revisions in FY17 and (ii) Positive verdict on GAIL challenging PNGRB’s tariff calculation methodology in the Delhi High court.
Major negative trigger is US LNG placement
GAIL may find it difficult to switch users to US LNG volumes in CY19E and beyond if US LNG remains costlier vs. spot LNG. It may then be forced to use high-priced gas at its Petrochemical plant, posing slight downside risk to our margins for this segment.