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Valuation Support May Erode on BG Divestment
Gujarat Gas Company (GGCL) enjoyed higher valuation on the back of being a
subsidiary of global gas major British Gas (BG) but with BG showing its
intention to exit, the premium on valuation is likely to erode. With earnings
growth momentum declining following slower volume growth and limited pricing
power, we assign a Sell rating to the stock with a target price of Rs358.
Subdued volume growth to continue: We have assumed volume of 3.5/3.6/3.7
mmscmd for CY12E/13E/14E, respectively, compared to 3.45mmscmd in CY11. In the
past 15 quarters, volume stood in the range of 232-328mmscm as demand potential in
the three cities where the company operates was 6.0-6.5mmscmd, implying that its
current supply already meets ~57% of potential demand and thereon incremental
volume will be dependent on infrastructure expansion beyond urban areas.
Limited pricing power going ahead: We expect the EBITDA margin to remain at
Rs3.0/2.9/2.8/scm for CY12E/13E/14E, respectively, with limited ability to pass on the
cost increase to industrial consumers, who accounted for ~83% of total gas volume in
CY11. GGCL had hiked prices for industrial customers with effect from 1 January
2012, but narrowing differential with competing liquid fuels on cost economics is likely
to limit future price hikes.
Incremental volume to be led by RLNG; blended costs to stay elevated: We have
assumed RLNG proportion to total gas supply to increase 36%/37.8%/39.4% in
CY12E/13E/14E, respectively, compared to 25% in CY10. We have assumed blended
gas costs at Rs18.7/18.9 per scm for CY12E/13E, respectively, while considering
rupee-US dollar rate of Rs54.5/$ for both years.
BG’s exit to erode premium valuation: BG is slated to divest its 65% stake in GGCL,
which, according to us, is due to two reasons: (1) Despite BG’s reputation as a global
gas behemoth, its distribution reach is stunted at 3.54mmscmd in the absence of major
volume growth triggers, and (2) BG is being driven by its global portfolio consideration
and faces the prospects of increased leverage on account of capex incurred in pre-salt
Brazil and QC LNG in Australia. Sale of its non-core assets can help it to reduce debt
to an acceptable level. Being a subsidiary of a global MNC, GGCL enjoyed a valuation
premium despite having moderate volume growth; we believe post BG’s exit, the
company’s stock will trade at a normal level compared with other CGD companies on
the basis of volume and pricing power.
Outlook and valuation: We have valued GGCL on the basis of DCF methodology and
arrived at a target price of Rs358 (implying one-year forward 15.1x P/E and 3.9x
P/BV). We believe the days of premium valuation (30-35%) compared to the sector are
over owing to BG’s exit and fading pricing power. Our TP is based on company
fundamentals and we have not considered any upside/downside from bidding process
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Valuation Support May Erode on BG Divestment
Gujarat Gas Company (GGCL) enjoyed higher valuation on the back of being a
subsidiary of global gas major British Gas (BG) but with BG showing its
intention to exit, the premium on valuation is likely to erode. With earnings
growth momentum declining following slower volume growth and limited pricing
power, we assign a Sell rating to the stock with a target price of Rs358.
Subdued volume growth to continue: We have assumed volume of 3.5/3.6/3.7
mmscmd for CY12E/13E/14E, respectively, compared to 3.45mmscmd in CY11. In the
past 15 quarters, volume stood in the range of 232-328mmscm as demand potential in
the three cities where the company operates was 6.0-6.5mmscmd, implying that its
current supply already meets ~57% of potential demand and thereon incremental
volume will be dependent on infrastructure expansion beyond urban areas.
Limited pricing power going ahead: We expect the EBITDA margin to remain at
Rs3.0/2.9/2.8/scm for CY12E/13E/14E, respectively, with limited ability to pass on the
cost increase to industrial consumers, who accounted for ~83% of total gas volume in
CY11. GGCL had hiked prices for industrial customers with effect from 1 January
2012, but narrowing differential with competing liquid fuels on cost economics is likely
to limit future price hikes.
Incremental volume to be led by RLNG; blended costs to stay elevated: We have
assumed RLNG proportion to total gas supply to increase 36%/37.8%/39.4% in
CY12E/13E/14E, respectively, compared to 25% in CY10. We have assumed blended
gas costs at Rs18.7/18.9 per scm for CY12E/13E, respectively, while considering
rupee-US dollar rate of Rs54.5/$ for both years.
BG’s exit to erode premium valuation: BG is slated to divest its 65% stake in GGCL,
which, according to us, is due to two reasons: (1) Despite BG’s reputation as a global
gas behemoth, its distribution reach is stunted at 3.54mmscmd in the absence of major
volume growth triggers, and (2) BG is being driven by its global portfolio consideration
and faces the prospects of increased leverage on account of capex incurred in pre-salt
Brazil and QC LNG in Australia. Sale of its non-core assets can help it to reduce debt
to an acceptable level. Being a subsidiary of a global MNC, GGCL enjoyed a valuation
premium despite having moderate volume growth; we believe post BG’s exit, the
company’s stock will trade at a normal level compared with other CGD companies on
the basis of volume and pricing power.
Outlook and valuation: We have valued GGCL on the basis of DCF methodology and
arrived at a target price of Rs358 (implying one-year forward 15.1x P/E and 3.9x
P/BV). We believe the days of premium valuation (30-35%) compared to the sector are
over owing to BG’s exit and fading pricing power. Our TP is based on company
fundamentals and we have not considered any upside/downside from bidding process
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