Will Gail India stock continue to outperform?

Gail India’s petrochemicals business is expected to incrementally benefit from better capacity utilization of the new plant in Uttar Pradesh


Graphic: Subrata Jana/Mint
Graphic: Subrata Jana/Mint

Gail (India) Ltd’s shares have done well this year, outperforming the benchmark Sensex by a reasonable margin. The good news is that certain factors are likely to keep up the momentum. For one, its petrochemicals business is expected to incrementally benefit from better capacity utilization of the new plant at Pata in Uttar Pradesh. Moreover, lower gas prices and higher realisations are also expected to offer support to the petrochemicals segment. Its gas transmission business too is anticipated to remain steady.

Overall, analysts from Spark Capital Advisors (India) Pvt. Ltd in a report on 16 November said they expect a ~35% compound annual growth rate earnings over FY16-18E (albeit from a low base). With substantial free cash flow generation of about Rs2,500 crore, the brokerage sees further scope for debt reduction.

As far as financial performance goes, Gail has had a decent year so far. For the half year ended September, its operating profit increased by about two-third to Rs3,128 crore compared to the year-ago period. That is despite the fact that revenues declined by 15%. Performance was helped by a sharper fall in raw material costs.

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Gail’s petrochemicals business saw earnings before interest and tax (Ebit) of Rs248 crore, against an Ebit loss of Rs534 crore last year over the same period. Lower feedstock costs have facilitated the turnaround in the petrochemicals business. Further, volumes had increased substantially during the September quarter.

On the flip side, worries about potential losses from Gail’s US LNG (liquefied natural gas) contracts persist—a major risk for the stock. The company has tied up for 5.8 million tonne per annum LNG from the US and there are challenges regarding marketing of these volumes. These volumes are expected to start from the last quarter of financial year 2018.

“Prices of LNG coming from Qatar (linked to crude prices) have corrected sharply,” wrote analysts from HDFC Securities Institutional Equities on 14 December. This makes LNG coming from USA (linked to Henry-hub prices) unviable in India owing to higher freight cost, added the brokerage.

“GAIL has swapped 2-mtpa volumes and has further raised tender for 2-mtpa. Every $1 per million British thermal units loss on 1-mtpa volumes will lead to a profit before tax loss of ~$50 million,” says HDFC Securities. Investors would do well to watch developments on this front. One Gail share currently trades at 14 times estimated earnings for FY2017.

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