Gujarat Gas- Cogent strategy to meet challenges; Upgrade to OW ::JPMorgan

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Gujarat Gas Ltd
▲ Overweight
Previous: Neutral
GGAS.BO, GGAS IN
Cogent strategy to meet challenges; Upgrade to OW


We recently hosted GGAS management for an investor roadshow. The
stock has consolidated over the last 9 months, reflecting supply, margin
challenges. We believe the company has a cogent strategy to meet these
challenges and the stock valuations now offer an attractive entry level. We
are upgrading the stock to OW and see regulatory authorization, success in
new bids as catalysts. Gujarat Gas remains our preferred pick in the CGD
space; we project robust 15% earnings CAGR for the company based on
c.13% volume growth and increased focus on margin protection
 LNG will increase in supply mix: With limited visibility of domestic
gas supply ramp-up, Gujarat Gas is looking to secure additional LNG to
meet growth requirement in its existing geographies. Strong parent
linkage (BG owns 65% of GGAS) would be an advantage to secure
additional LNG given BG's global LNG portfolio (20mtpa by 2015). We
project LNG will rise to ~50% of supply mix over next 3 years and note
this would require additional 1.6mmscmd LNG by 2013.
 Focus will be on spread preservation. With higher cost LNG pushing
up input costs, GGAS will target industrial segments which use gas to
replace more expensive liquid fuels and in Combined Heat and Power
applications. These segments form 79% of GGAS’s industrial customer
base and provide headroom for price hikes to preserve gas spreads.
 Existing geographies, new bid provide growth visibility, catalysts.
Regulatory authorization (due in a few months) for Surat and Bharuch
district (currently operations are only in the towns) provide visibility for
sustained 8-10% volume growth. GGAS is hopeful of winning its bid for
Bhavnagar district, which should provide an inorganic growth
opportunity. Authorization and winning of new geography will be
catalysts for GGAS, in our view.
 Upgrade to OW; June 2012 PT of Rs460. Our PT basis is June 2012
(Sept 2011 earlier). Our fair value for the company is based on a 3 stage
DCF (WACC – 12.5%) with 5 years of explicit forecasts, intermediate
growth of 8% and 3% terminal growth. Lower volumes are key risk.