We initiate research coverage on GAIL India Ltd (Gail), India’s largest gas transmission utility.
The Petroleum and Natural Gas Regulatory Board (PNGRB) proposes to use the depreciated asset value of Gail’s existing pipelines to determine tariffs.
Starting FY10, we model tariffs of Gail’s existing pipelines as per PNGRB’s proposals. Had we used the prevailing tariffs, our FY10 and FY11 EBITDA estimates would have been higher by 14.6% and 11.5% respectively.
Gail will benefit from a significant increase in new gas supplies from Reliance Industries’ gas fields, contracted LNG supplies from Petronet LNG and spot LNG supplies.
We expect Gail’s gas transmission volumes to increase 18.9% in FY08-11 driving segment revenue growth of 23.4% and EBITDA growth of 25.0% in the same period.
However, RIL’s ongoing legal dispute over the supply and pricing of gas could delay the onset of gas supplies beyond our estimate of 1 April 2009.
We use a sum-of-the-parts (SoTP) approach to arrive at our target price of Rs176/share. We value the petrochemicals and LPG/LHC business segments at 10-year trough EV/EBITDA multiple of 2.6x.
Gail’s gas transmission business has been valued at 10-year global peer group trough EV/EBITDA multiple of 4.0x. We value Gail’s unlisted investments at book value and its investments in listed securities at 30% discount to current market prices. Earnings are expected to decline by 8.2% from FY08-10.
We initiate coverage with REDUCE rating, and a target price of Rs176/share.