GAIL (India) Limited

Industry

Natural gas has emerged as the most preferred fuel due to its inherent environmentally benign nature, greater efficiency and cost effectiveness. The demand for natural gas has sharply increased in the last two decades at the global level. In India too, the natural gas sector has gained importance, particularly over the last decade, and is being termed as the Fuel of the 21st Century.

Production of natural gas, which was almost negligible at the time of independence, is at present at the level of around 87 million standard cubic meters per day (MMSCMD). Under the Production Sharing Contracts, private parties from some of the fields are also producing gas. Government have also offered blocks under New Exploration Licensing Policy (NELP) to private and public sector companies with the right to market gas at market determined prices. Out of the total production of around 87 MMSCMD, after internal consumption, extraction of LPG and unavoidable flaring, around 74 MMSCMD is available for sale to various consumers.

Most of the production of gas comes from the Western offshore area. The on-shore fields in Assam, Andhra Pradesh and Gujarat States are other major producers of gas. Smaller quantities of gas are also produced in Tripura, Tamil Nadu and Rajasthan States. OIL is operating in Assam and Rajasthan States, whereas ONGC is operating in the Western offshore fields and in other states. The gas produced by ONGC and a part of gas produced by the JV consortiums is marketed by the GAIL (India) Ltd. The gas produced by OIL is marketed by OIL itself except in Rajasthan where GAIL is marketing its gas. Gas produced by Cairn Energy from Lakshmi fields and Gujarat State Petroleum Corporation Ltd. (GSPCL) from Hazira fields is being sold directly by them at market-determined prices.

Natural gas has been utilised in Assam and Gujarat since the sixties. There was a major increase in the production & utilisation of natural gas in the late seventies with the development of the Bombay High fields and again in the late eighties when the South Basin field in the Western Offshore was brought to production.

The gas produced in the western offshore fields is brought to Uran in Maharashtra and partly in Gujarat. The gas brought to Uran is utilised in and around Mumbai. The gas brought to Hazira is sour gas that has to be sweetened by removing the sulphur present in the gas. After sweetening, the gas is partly utilised at Hazira and the rest is fed into the Hazira-Bijaipur-Jagdhishpur (HBJ) pipeline that passes through Gujarat, Madhya Pradesh, Rajasthan, U.P., Delhi and Haryana. The gas produced in Gujarat, Assam, etc; is utilised within the respective states.

Natural Gas is currently the source of half of the LPG produced in the country. LPG is now being extracted from gas at Duliajan in Assam, Bijaipur in M.P., Hazira and Vaghodia in Gujarat, Uran in Maharashtra, Pata in UP and Nagapattinam in Tamil Nadu. Two new plants have also been set up at Lakwa in Assam and at Ussar in Maharastra in 1998-99. One more plant is being set up at Gandhar in Gujarat. Natural gas containing C2/C3, which is a feedstock for the Petrochemical industry, is currently being used at Uran for Maharashtra Gas Cracker Complex at Nagothane. GAIL has also set up a 3 lakh TPA of Ethylene gas based petrochemical complex at Auraiya in 1998-99.

The LNG trade started in mid 60's and has increased rapidly. In 1992 it was around 80 Billion Cubic Metres (BCM) per annum and crossed the 100 BCM mark in 1996. World trade in LNG is currently in the range of 150 BCM. The major exporting countries of LNG are Algeria, Qatar, Indonesia, Malaysia, Australia, whereas, the major importers are Japan, South Korea, Taiwan and Western Europe.

Geographically, India is very strategically located and is flanked by large gas reserves on both the east and west. India is relatively close to four of the worlds top five countries in terms of proven gas reserves, viz. Iran, Qatar, Saudi Arabia and Abu Dhabi. The large natural gas market of India is a major attraction to the LNG exporting countries. In order to encourage gas imports, the Government of India has kept import of LNG under Open General License (OGL) category and has permitted 100% FDI.

The Ministry of Petroleum & Natural Gas (MOP&NG) has been regulating the allocation and pricing of gas produced by ONGC and OIL by issuing administrative orders from time to time. The gas produced by the JVs and by NELP operators is governed by the respective production sharing contracts (PSC) between the Government and the producers. The setting up of a Petroleum & Natural Gas Regulatory Board is under the consideration of the Government and the bill is being drafted.

Under the existing policy, 100% Foreign Direct Investment (FDI) is allowed through the FIPB route for both LNG projects and natural gas pipeline projects. Import of LNG and natural gas is on OGL. If an entity requires the acquisition of Right of User (ROU) in land, it approaches MOP&NG for the acquisition under the Petroleum & Mineral Pipelines (Acquisition of Right of User in Land) Act, 1962 (P&MP Act, 1962). The draft natural gas pipeline policy covering transmission pipelines and local or city gas distribution networks is under formulation, with proposed provision in line with those under the draft regulatory board bill.

Company Background

GAIL produces liquefied petroleum gas (LPG), distributes natural gas and process petrochemicals. The company also provides telecom services. Its operating facilities are located at Pata in Uttar Pradesh, Usar in Maharashtra, Vijaipur in Madhya Pradesh, Vaghodia and Gandhar in Gujarat and Lakwa in Assam.

Financials

GAIL registered net profit of Rs 572.54 crore for the quarter ended September 2007 versus Rs 448.40 crore in the same quarter previous year. During the corresponding quarters, its total income was up at Rs 4,710 crore versus Rs 3,870 crore, YoY.

Valuation

GAIL has caught up with ONGC in its valuations. Circa 2004, a government report classified Gail merely as a courier company and needs a positive charge. Circa 2007, the company has got more than a positive charge. In the last one year it has done splendidly. From a valuation of 9 earlier, it currently has a valuation of 16. On the other hand ONGC had a valuation of 9 in the same year of comparison but now has a valuation of 13.6. Gail has not only caught up with ONGC in terms of valuation, it has also out performed ONGC in terms of performance. This re-rating has happened mostly in the last few months.

Gail has had a PAT increase of almost 28% and net sales of 22% compared to ONGC’s 22% and 11%. Both these companies are seeing reduction in subsidies that has a positive effect on the performance of the stocks. Importantly Gail seems to have major expansion plans, getting its act together correctly.

GAIL will be one of the key beneficiaries of several large-scale gas finds in India in recent years. GAIL’s transmission volumes are expected to grow by 66% to 136mmscmd by FY10 from 82mmscmd currently (CAGR of 29%), as compared to 5% CAGR growth over last 5 years. FY09E PAT estimates for GAIL has been increased by 9%, due to improved volume outlook. EPS estimates for FY09E are Rs35.3 and for FY10E, Rs 37.9 from the current price.

Outlook

GAIL’s has a leadership position in natural gas transmission business; the level of business risks is very low. Its robust financial position and strengths is derived from the significant sovereign ownership. While the profitability outlook for its petrochemicals and LPG businesses is moderate, the company core operations are characterized by stable and profitable margins and also benefits from the favorable demand outlook for natural gas.

GAIL’s has a large capital expenditure programme and associated project implementation risks as well as concerns on the gas availability for some of the new pipeline projects. The company is also exposed to price risk associated with the take or pay liabilities associated with Petronet LNG Ltd’s R-LNG, though this risk is partially mitigated by the currently favourable demand position for natural gas. Also, the company’s profitability will continue to remain vulnerable to Govt. policies on sharing of under-recovery suffered by oil marketing companies.