Macquarie Research: GAIL India -Higher subsidy offsets volume growth

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GAIL India
Higher subsidy offsets volume growth
Event
 GAIL India announced EBITDA of Rs13.3bn (up 4% YoY), in line with
expectations. While the top line was higher than estimates due to
improvement in transmission volumes by 4% QoQ, higher-than-expected
subsidy burden restricted bottom-line growth to 5% QoQ. We reiterate our
Outperform rating, with a new target price of Rs572 (vs Rs574 previously).

Impact
 Transmission volumes increased 4% QoQ: With the decline in KG D6
production to 52–53 mmscmd in the latter half of the quarter being offset by
additional spot LNG imports, and the PMT fields returning to production, gas
transmission volumes grew to 120 mmscmd. LPG transmission volumes grew
12% QoQ to 893 KT.
 Subsidy burden at Rs4.18; lower dry-well write-offs: GAIL shared a
higher-than-expected subsidy burden of Rs4.18bn, compared to Rs3.46bn in
2Q FY11. Moreover, dry-well expense was lower at Rs0.32bn (vs Rs0.49bn in
2Q FY11).
 EBIT margins – Gas Transmission declined 6% QoQ, but LPG/Liquid
hydrocarbons expanded 7.2%: LPG EBIT margins (adjusted for subsidy)
expanded 7.2% QoQ on the back of improving realizations of products due to
higher crude prices to which they are linked. However, petrochemical margins
declined 3.5% due to the increased price of gas (from US$4.75 to
5.25/mmBtu), more than offsetting the improvement in product prices.
 Capacity to rise to 260 mmscmd by December 2011 from 180 mmscmd
currently: GAIL’s capacity expansion through five new pipelines is well under
way, and media statements by management indicate an additional 80
mmscmd capacity by end-CY11. The DVPL/GREP upgradation (DVPL II and
Vijapur Dadri expansion) project is expected to provide additional capacity of
40 mmscmd.
Earnings and target price revision
 Cutting FY11E and FY12E PAT by 5% and 3%, respectively, due to higher
subsidy estimates and mildly lowered gas transmission EBIT margins. We
slightly lowered our target price to Rs572 from Rs574.
Price catalyst
 12-month price target: Rs572.00 based on a Sum of Parts methodology.
 Catalyst: Clarity on ramp-up of KG D6 volumes.
Action and recommendation
 Volumes to grow rapidly, subsidy the only concern: GAIL’s earnings are
considerably derisked from declines/shutdowns from indigenous fields, as all
of India’s LNG terminals (which supply the balance between demand and
domestic supplies) are linked to GAIL pipelines. GAIL is an oligopolistic highgrowth utility trading at 2.6x FY12E P/BV, and we expect it to double its
volumes in the next three to four years at tariffs that are much higher than
current levels.