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GAIL: From darkness unto light!

Aug 30, 2004

GAIL India is a near monopoly in the natural gas business with more than 90% market share. The company also has a petrochemicals plant at one of its complexes along with seven LPG (liquefied petroleum gas) plants. It is one of the largest manufacturers of LPG in the country and is expanding capacity of the petrochemicals plant from the current 300,000 tonnes per annum (TPA) to 440,000 TPA by FY06. Let us now analyse the recent developments for the company and how these proposals, if passed by the petroleum ministry, are likely to impact GAIL.

  • Revision of transmission charges:  Recently, Reliance offered to supply natural gas to NTPC at a transmission charge of US$ 0.48 per MMBTU, much lower than GAIL's offer of US$ 0.71 per MMBTU. The user industry (power and fertilizer) has been pressurizing the government to reduce the transmission charges. If the proposal to review this charge and bring it in line with Reliance's offer is passed, GAIL could lose out nearly 23% of its profits.

  • Gas pricing:  The government has proposed a differential gas pricing method so as to meet the demand on a priority basis for the core sectors such as power and fertilizer, which account for nearly 70% of the gas demand in the country. As a result, subsidies shall be directed towards these sectors while other user industries such as steel, petrochemicals and glass would have to pay market-determined prices. GAIL has been using natural gas for its petrochemicals and LPG business and any such proposal, if passed, is likely to increase its costs.

  • Monopoly ends:  The government has allowed Reliance Industries to set up its pipeline and is now considering entry of multiple players in the business. With the demand potential in the country and also deep-pocketed global players, GAIL is likely to witness stiff competition going forward along with price cuts.

FY04 GAIL Guj. Gas
Net sales (Rs m) 124,090 5,135
Operating margins (%) 27.2 20.1
Net profit margins (%) 15.1 12.5

At Rs 181, GAIL is trading at a P/E multiple of 8.2x FY04 earnings. Given that the company is setting up a national gas grid, which would help capture the hitherto untapped southern markets, GAIL should be trading at a premium to Gujarat Gas (trading at 8.4x P/E multiple), since Gujarat Gas is a regional player. Further, the government's decision to eliminate subsidies on LPG shall result in positive developments for GAIL going forward, as it would then be able to sell products at market-determined prices. All in all, we believe the positives far outrun the negatives for the company in the long-term.

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