Why GAIL’s Shares Are Having Their Worst Run In 11 Years
The shares fell on the back of concerns around splitting of its gas marketing and transmission businesses and global oil prices.
Shares of India’s largest gas distributor fell the most in over a decade on the back of concerns around the splitting of its gas marketing and transmission businesses, weaker global gas and crude oil prices and lower-than-expected tariff hikes.
GAIL (India) Ltd. has declined by nearly a third so far in 2019—its biggest since 2008—despite rising consumption of the cleaner fuel in industries, higher offtake from city gas distributors and the country’s focus on increasing the share of natural gas in its energy basket over the past few years.
A supply glut and high inventory in the Asian market has kept the benchmark Singapore Liquified Natural Gas Prices at a six-year low. Generally, lower prices should boost demand, but in the case of GAIL, they make it difficult for the gas utility to sell the fuel at a profit.
GAIL sells and transmits gas, liquefied petroleum gas and petrochemical products. The gas selling and transmitting businesses complement each other and splitting them could impact the performance of both the segments. The government is looking to hive off the pipeline transmission business into a separate entity and sell a majority stake in it, PTI reported.
Currently GAIL looks to transmit its own long-term purchase-contracted gas through these pipelines and users have often complained about not getting access to transport their fuel.
Unbundling of GAIL would be tedious and pipeline privatisation even tougher, according to Sabri Hazarika, analyst at Emkay Global Financial Services Ltd. Apart from legacy issues such as trade union opposition, leadership and strategic developmental considerations, commercially, too, pipeline is a high capex-low return business, Hazarika said.
Hiving the pipeline business to a strategic partner will give access to these assets to third parties on a non-discriminatory basis. However, it isn’t an easy task given the stage of infrastructure and market development in natural gas markets in India, according to Nitin Tiwari, vice president at Antique Stock Broking Ltd. “China and Japan, who are much ahead of India in terms of consumption of natural gas and infrastructure development, are experimenting with the same in piecemeal manner gradually.”
GAIL buys LNG at contracted prices in the international market and sells it at prevailing rates in both domestic and international markets—which generates 70-75 percent of its revenue. While selling prices have tumbled, the fall in buying prices has been lower. GAIL has three active long-term LNG contracts to buy gas—two with the U.S. and one with Russia. The landed cost of U.S. LNG, which contributes over 69 percent of its import volumes, is at a 76 percent premium to the Singapore spot price, according to data compiled by BloombergQuint.
Nearly three months ago, the Petroleum & Natural Gas Regulatory Board approved an integrated tariff for two key pipelines managed by GAIL. While the new rate is 18 percent higher, it’s nearly 58 percent lower than what the gas producer had asked for. The reason behind the lower rate may be deviations in GAIL’s tariff submission, including lower operating cost, gas loss, higher volume divisors, number of working days and life of asset. Most brokerages viewed the development negatively.
Although Brent crude prices are 13 percent higher from the start of the year, they are trading nearly 18.5 percent lower from the year’s peak of $74.6 per barrel.
That coupled with low capacity utilisation has impacted margins of GAIL’s petrochemical and liquified petroleum gas businesses. The petrochemical business suffered losses owing to plant shutdowns in the past two quarters.
Despite these concerns, GAIL continues to be the highest rated ‘Buy’ stock in the S&P BSE Oil & Gas Index. At least 34 of the 39 analysts tracking the company have a ‘Buy’ rating on the stock. This is mainly on the back of cheaper valuations, commendable risk management on U.S. LNG portfolio and core gas transmission business outlook which would result into steady earnings growth.
Despite lower spot gas prices in 2019 against higher long-term contracted prices, GAIL has been able to generate profits. It has also been able to sign forward contracts to sell all its U.S. LNG volumes till 2020.
Along with this, the core gas transmission business outlook remains firm on the back of completion of three fertiliser plants and on government’s focus on reducing air pollution. The completion of three urea plants by Hindustan Urvarak & Rasayan Ltd. in addition to Ramagundam Fertilizers and Chemicals Ltd. is expected to add 9.4 mmscmd (million metric standard cubic meter per day) of volumes for over the next three-four years, Motilal Oswal said in a recent note.
The National Green Tribunal recently passed an order banning all coal gasifiers in Morbi, Gujarat—India’s largest hub for ceramic manufacturing—resulting in doubling of gas consumption in the region. Similar orders for other industrial clusters may result in a significant jump in gas volumes.
These factors are expected to aid company’s earnings growth till 2020-21. According to Bloomberg consensus, GAIL’s earnings-per-share is expected to grow at an annualised rate of nine percent over FY19-21. This coupled with its lower valuations makes GAIL the second cheapest stock among the S&P BSE Oil & Gas index on the basis of PEG ratio—stock’s price-to-earnings multiple divided by the earnings growth rate over a specified period.