initiating coverage€¦ · key investment rationale . strong earnings visibility: ggcl’s...

MARCH 8, 2019

Initiating Coverage

Kotak Securities Limited has two independent equity research groups: Institutional Equities and Private Client Group. This report has been prepared by the Private Client Group.

GUJARAT GAS COMPANY LTD (GGCL) PRICE RS.135 TARGET RS.157 BUY Gujarat Gas Company Limited (GGCL) is one of the largest gas distribution companies in India, with operations in Gujarat. We expect GGCL to report strong earnings growth in medium to long term led by strong volume growth which includes expansion in existing & new areas (Amritsar, Bathinda, and Ahmedabad), ramp up in retail gas consumption and rebound in industrial gas demand. Additionally, rebound in the industrial segment coupled with retail business expansion should help in margin improvement.

We estimate Revenue, EBITDA and EPS to grow at a CAGR of 17%, 12% and 23%, respectively over FY18-21E. We initiate coverage on GGCL with a BUY rating and a multiple based price target of Rs.157/share. Margin improvement and strong revenue visibility makes us positive on its growth prospects. Additionally, strong free cash flow and healthy return ratios also provide high comfort. We value GGCL at 20x PE based on EPS of Rs.7.9 for FY21E.

Key Investment Rationale Strong earnings visibility: GGCL’s earnings growth will be supported by strong gas sales volume

growth and steady margin improvement in the medium to long term. Higher gas volumes will be led by 1). Expansion in new markets such as

Dahej, Silvassa, Thane extension and Panchmahal, 2). Commencement of operations in newer areas, 3). Pick-up in industrial demand, 4). Retail expansion and 5). Regulatory support. This will support ~9.4% CAGR volume growth through FY18-FY21E, we opine.

Some of the geographical areas have already started contributing, but majority of the volume growth would be back-ended in nature and any meaningful volume addition would require 2-3 years’ time frame.

Except incremental volume potential of 5-6 mmscmd during the next 4-5 years.

Strong volume growth outlook and pricing power will expand margins: A rebound in the industrial segment along with retail business expansion

should help in per unit margin improvement. Conservatively, we expect EBITDA margin per unit to improve to Rs. 4.1/scm by FY2020E and Rs. 4.23/scm by FY2021E. Improvement in EBITDA/scm indicates pricing power and proactive pricing. GGCL is targeting to achieve an operating margin of Rs.4.5/scm.

Environmental issues - Regulatory support: Morbi-Wankaner cluster getting highly polluted due to usage of coal

gasifiers. Recently, the National Green Tribunal has ordered a shutdown of all ceramic units at Morbi and Wankaner (India’s largest ceramic cluster) that run on type B coal gasifier.

We expect ceramic players to switch to natural gas as a fuel instead of closing down the unit or shifting to a new location.

Stock Details Market cap (Rs mn) : 93415 52-wk Hi/Lo (Rs) : 183 / 115 Face Value (Rs) : 2 3M Avg. daily vol (Nos) : 422,073 Shares o/s (m) : 688

Source: Bloomberg

Financial Summary

Y/E Mar (Rs mn) FY19E FY20E FY21E

Revenue 79,398 87,811 99,386 Growth (%) 28.6 10.6 13.2 EBITDA 9,753 10,819 12,573 EBITDA margin (%) 12.3 12.3 12.7

PAT 3,976 4,390 5,404 EPS 5.8 6.4 7.9 EPS Growth (%) 36.5 10.4 23.1

BV (Rs/share) 32 37 44 Dividend/share (Rs) 0.8 0.9 1.1 ROE (%) 16.7 18.6 19.5 ROCE (%) 14.3 14.2 15.7

P/E (x) 23.4 21.2 17.2 EV/EBITDA (x) 11.5 10.0 8.3 P/BV (x) 4.3 3.7 3.1

Source: Company, Kotak Securities - PCG

Shareholding Pattern (%)

(%) Dec-18 Jun-18 Mar-18

Promoters 60.9 60.9 60.9 FII 13.9 14.0 13.4 DII 3.4 3.4 3.3 Others 21.8 21.6 22.4

Source: Bloomberg, BSE

Price Performance (%)

(%) 1M 3M 6M

Gujarat Gas Ltd 9.3 5.8 (4.6) Nifty 0.8 3.2 (4.8)

Source: Bloomberg

Price chart (Rs)

Source: Bloomberg

Sumit Pokharna [email protected] +91 22 6218 6438

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Kotak Securities – Private Client Research Please see the Disclosure/Disclaimer on the last page For Private Circulation 2

MARCH 8, 2019

We would like to highlight, GGCL is the sole supplier of gas in that region. Currently, the ceramic manufacturing units at Morbi consume 2.5-2.6 mmscmd of gas (~50% of total units operate on gas). Earlier, Morbi units use to consume ~4 mmscmd, but this was reduced as companies switched to low-cost coal gasifiers.

We expect Morbi to have a potential of 5-6 mmscmd gas demand as against current gas sales of ~2.5 mmscmd, suggesting the high growth prospects.

CNG/PNG versus alternative fuels- Competitive economics The economics of CNG is quite favorable as compared to alternative liquid

fuels such as diesel and gasoline, primarily due to (1) allocation of cheaper domestic produced gas and (2) favorable taxation structure by central government as well as the state governments.

CNG is 44% cheaper than Petrol and 34% cheaper than Diesel. The payback period for CNG kit is fairly attractive for vehicles across segments. The pay-back period for a Diesel run vehicle converting to CNG run vehicle by investing in conversion kit is 18 months and 11 months for a Petrol run vehicle converting to CNG run vehicle.

Low penetration in PNG-D and CNG offers strong growth opportunity: GGCL’s long-term growth opportunity looks attractive with just ~18%

penetration in the PNG-domestic and ~15% penetration in the CNG segment, coupled with possible regulatory push.

A moderate uptick in GGCL's total gas volume on account of entry into new districts and favourable government policies for expansion of CGD services.

Healthy Financials: GGCL is likely to witness a meaningful improvement in its financial

performance over FY19-21E driven by higher sales volume from both PNG and CNG segment.

We estimated Revenue, EBIDTA and EPS to grow at a CAGR of 17%, 12% and 23%, respectively over FY18-21E.

The company is expected to take sharp increases in realization to offset higher RLNG, domestic gas price increase and rupee depreciation, in our view.

Higher CNG volume can quickly improve margins. With the addition of 46 CNG stations in FY18, the total number CNG dispensing stations stood at 294. CNG is a strong profitable segment given uninterrupted supply of cheap domestic gas as a result the management plans to add 60 CNG stations in FY19.

The company has guided for annual capex run rate of Rs.5 bn (excluding acquisition) and the same will be funded internally. If any acquisition done then it may raise debt for the same.

ROE is expected to improve with better capacity utilization, higher volumes, margin improvement, etc. In FY19E, we expect ROE of 16.7%, 18.6% for FY20E, and 19.5% for FY21E as against 16.7% for FY18.


MARCH 8, 2019

BUSINESS BACKGROUND Gujarat Gas Company Limited (GGCL), a 54.17% subsidiary of Gujarat State

Petronet Limited (GSPL), is one of the largest natural gas distribution companies in India, with operations in Gujarat. Additionally, Gujarat government holds 6.53% stake and Gujarat State Energy Generation Limited holds 0.19% stake as other promoters of the company. Gujarat State Petroleum Corporation Limited (Gujarat Government-promoter of GSPCL) is direct promoter of GSPL and indirect promoter of GGCL. (Source: BSE)

GGCL (formerly known as GSPC Distribution Networks Limited) is a gas transmission and distribution company operating in the industrial hub of south Gujarat. It distributes natural gas to domestic, commercial (Hotels, Restaurants, etc.) & industrial retail consumers (spanning across industries like textiles, chemicals, dyes & intermediate, pesticides, pharmaceuticals), and compressed natural gas (CNG) as automobile fuel.

Its sales volume mix is skewed towards cyclical industrial and commercial segment (70% of its volumes), while the steadier high margin domestic segment (CNG and residential) contributes the remaining volumes.

Mega merger: It was born with the amalgamation of GSPC Gas Company Ltd, Gujarat Gas Company Ltd, Gujarat Gas Financial Services Ltd, and Gujarat Gas Trading Company Ltd with GSPC Distribution Networks Ltd.

Gujarat Gas Ltd. is a summation of multiple companies

Source: Company

It has presence spread across 24 districts of Gujarat including the newly awarded Geographical Area (GA) of Narmada (Rajpipla) district, Union Territory of Dadra Nagar Haveli and Thane GA which includes Palghar district of Maharashtra.

Strong network and client base: It has ~22,000 kms of gas pipeline network, 294 CNG stations and supplies more than 6.6 mmscmd of natural gas to over 13 lakh households, ~6 lakh vehicles and to 3400 industrial customers.

Raw material sourcing: It procures natural gas from multiple sources such as PMT (Panna, Mukta and Tapti), RLNG (Long term and Spot), etc. It has easy access to RLNG (PLNG and Shell’s RLNG terminal based in Gujarat).

Gujarat Gas Ltd.

Gujarat Gas Financial Services

+ Gujarat Gas Trading Co.+GSPC

Distribution Networks

Gujarat Gas

Company Ltd

GSPC Gas

Company Ltd

One of the largest natural gas distribution companies in India.

Operating in the industrial hub of south Gujarat.

Retail-aggregator model.

Presence in multiple districts of Gujarat

UT of Dadra Nagar Haveli

Thane GA – Palghar.


MARCH 8, 2019

Key driving force – Management details

Name Designation Details

Dr. J. N. Singh, IAS Chairman M.A. (International Studies, JNU), MDM (AIM, Manila), Ph.D. from MS University. key positions held like Principal Secretary, Science and Technology Department, Textile Commissioner, Mumbai, Member (Fin), NHAI, Delhi, MD, Sardar Sarovar Narmada Nigam Ltd. He has served largely in Infrastructure and Finance sector having handled Industrial Infrastructure, Power, Telecom, Highways and water. Currently, Chief Secretary, Government of Gujarat. He is also appointed as Chairman of GSPCL.

Dr. T. Natarajan, IAS Director B.E. (Mining Engineering) and an MBA (Finance & Marketing). He also holds Doctorate in Management and served as Joint MD of Gujarat Narmada Valley Fertilizers & Chemicals Ltd. Held positions in the Government of Gujarat including Commissioner, Technical Education, Commissioner, Geology & Mining as well as Secretary, Economic Affairs, Finance Department. He has served as a Director of GMDCL, GIDCL, Gujarat Urban Development Company Ltd., Gujarat State Electricity Corporation Ltd. and Bhavnagar Energy Co. Ltd.

Shri Milind Torawane, IAS Director Engineering (Electronic & Telecommunication). He has held various important positions in Government of Gujarat (GoG) like Municipal Commissioner-Surat Municipal Corporation, Secretary-Housing & Nirmal Gujarat, Additional Chief Executive-Gujarat Urban Development Mission, Director-Diamond Research & Mercantile City Ltd, etc. Lastly, he was Managing Director-Gujarat Urban Development Company Ltd.

Shri Jal Patel Independent Director CA and CS with an experience of more than 45 years. Shri K.D. Chatterjee Independent Director ICWAI. Shri Chatterjee was awarded the V. Srinivasan Memorial Gold Medal.

Worked with Dunlop India Limited and Gujarat State Fertilizers & Chemicals Ltd. Executive Director (Finance) of Gujarat Narmada Valley Fertilizers Company Ltd. He has rich experience in the field of Finance, Human Resources Development, Marketing, Information Systems and Administration functions.

Smt. Manjula Pooja Shroff Independent women Director She is a postgraduate from York University and executive alumni from London School of Economics. Holding a post-graduate degree from Utkal University and is a Graduate of Management Education Programme IIM, Ahmedabad.

Prof. Piyush Kumar Sinha Independent Director Faculty in the area of marketing and retailing. Prior to joining IIMA, he was the Dean at MICA. Chairperson of the centre for retailing at IIMA.

Prof. Vishal Gupta Independent Director An associate professor in the organizational behavior area at the Indian Institute of Management, Ahmedabad. He obtained his doctorate in Human Resource Management from the IIM Lucknow. He holds Bachelor’s degree in Electrical and Electronics Engineering from BITS-Pilani. Prior to joining IIMA, he worked as an Assistant Professor in the HRM group at the Indian Institute of Management Calcutta. Prof. Gupta has also worked as a Hardware Design Engineer with ST Microlectronics Pvt. Ltd. and with Infineon Technologies AG, Munich, Germany where he was involved in the design of high-performance Application-Specific Integrated Circuits (ASICs).

Source: Company


MARCH 8, 2019

INVESTMENT ARGUMENTS India’s city gas distribution (CGD) network is poised to grow with an increasing adoption of natural gas as a fuel due to better cost economics and favorable government policies. This makes us bullish on natural gas volume growth trajectory of CGD entities.

GGCL, India’s biggest gas distribution company, is a key beneficiary of the Goods and service tax (GST) and demonetization-led shift of industries (unorganized to organized theme) towards natural gas. Further, ban on petcoke usage could potentially ramp-up natural gas consumption.

We expect GGCL to report strong earnings growth in medium to long term led by strong volume growth which includes expansion in existing & new areas (Amritsar, Bathinda, and Ahmedabad), ramp up in retail gas consumption and rebound in industrial gas demand.

Strong earnings visibility We believe GGCL’s earnings growth will be supported mainly by strong gas

sales volume growth and slow and steady margin improvement in the medium to long term.

Higher gas volumes will be led by 1). Expansion in a slew of new markets like Amritsar, Bhatinda, etc, 2). With commencement of operations in newer areas - Amreli, Ahmedabad rural, Dahej, Dahod, Panchmahal and Anand, 3). Pick-up in industrial demand (currently, Morbi alone consumes 2.5-2.6 mmscmd v/s potential of 5-6 mmscmd) due to better cost-economics (FO v/s industrial gas prices & regulatory push), 4). Retail expansion and aggressive marketing efforts on sticky CNG and PNG domestic PNG segment, and 5). Regulatory support (like petcoke ban can potentially add incremental 0.4-0.5 mmscmd). The company is scaling up operations in Bhavnagar, Jamnagar and Dadra & Nagar Haveli which can cumulatively support 0.2-0.5 mmscmd at peak potential. CNG is expected to show strong growth with the domestic segment too showing steady growth.

Higher volume growth coupled with modest margin improvement can led to decent earnings growth.

Gujarat gas’s gas sales volume growth will boost earnings (MMSCMD)

Source: Company and Kotak Securities - Private Client Research. Year ending March.

5.5 5.4

6.2 6.57

7.23

8.15

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

2016 2017 2018 2019E 2020E 2021E

Earning growthdrivers

Volume growth

from existing

arae

Industrial expansion

-Regulatory

push

Retail focusCNG + PNG

Expnasion in new

georaphies

Morbi (mainly to ceramic manufacturers) gas sales volume

is 2.5-2.6 mmsmcd as against a potential of 5-6 mmscmd.

Continued volume growth is primarily led by PNG industrial &

commercial segments.

Total CNG outlets are expected to reach to 350, post

commissioning of 60 new CNG stations.


MARCH 8, 2019

Gas consumption mix (mmsmcd)

March ending 2015 2016 2017 2018 2019E 2020E 2021E

Gas volume (mmscmd) 6.53 5.55 5.41 6.22 6.57 7.23 8.15 CNG 1.01 1.00 1.18 1.29 1.43 1.58 1.72 PNG Domestic 0.42 0.50 0.46 0.51 0.53 0.59 0.67 Industrial 5.04 3.95 3.68 4.32 4.50 4.94 5.63 Commercial 0.07 0.10 0.10 0.104 0.11 0.12 0.13

Source: Kotak Securities - Private Client Research

CNG/PNG versus alternative fuels- Competitive economics One of the most compelling reasons for any vehicle owner to switch from

Diesel/Petrol vehicle to CNG vehicle is better cost-economics, we opine. Hence, we have tried to work out cost-benefit analysis of gas over alternative liquid fuels for transportation.

The economics of CNG is quite favorable as compared to alternative liquid fuels such as diesel and gasoline, primarily due to (1) allocation of cheaper domestic produced gas and (2) favorable taxation structure by central government as well as the state governments.

Cost-benefit analysis of natural gas over alternative fuels

Fuel CNG Diesel Petrol

Maruti Ertiga Unit Kg liters liters Fuel Cost -Gujarat Rs/unit 54.7 70.7 69.6 Mileage Kms/unit 21.0 18.0 15.0 Fuel Operating Cost Rs/Km 2.60 3.93 4.64

% compared to petrol 44% 18% - % compared to Diesel 34% - -

Average Vehicle running per day Kms/day 50 50 50 Operating cost Rs/day 130 196 232 Savings per day v/s CNG Rs/day 66 102 No. of days in a year Days/year 360 360 Annual Savings Rs. 23,774 36,634 Cost of kit- one-time cost Rs 35,000 35,000

Pay-back period Months 18 11 Break-even Kms 26,499 17,197

Source: Kotak Securities - Private Client Research, BPCL and Company. Note: Diesel is 0.05% sulphur.

CNG is 44% cheaper than Petrol and 34% cheaper than Diesel. The payback period for CNG conversion kit is fairly attractive for vehicles across segments. The pay-back period for a Diesel run vehicle converting to CNG run vehicle by investing in conversion kit is 18 months and 11 months for a Petrol run vehicle converting to CNG run vehicle.

We would like to highlight that CNG vehicles are also economically attractive as compared to diesel vehicles given higher fuel efficiencies and lower upfront cost. Further, they are also competitive with gasoline/petrol vehicles due to lifecycle savings on running costs, which offsets higher upfront cost.

We expect ~10% CNG volume growth in FY19E/20E.

CNG retains its price competitiveness vs. other

fuels.

Currently, GGCL is focusing on tapping robust CNG vehicle conversion rates (~50k per

annum)


MARCH 8, 2019

Saving on PNG and CNG

Source: Company

Cost of ownership of CNG vehicles is lower compared to liquid fuel vehicles

Cost of ownership calculations for four wheeler

Petrol CNG Diesel

Purchase price (Rs) Maruti Ertiga Vxi (Ex-show room price) 780,000 840,000 975,000 Running & Maintenance Cost Cost of Fuel (Rs./ltr)/ CNG (Rs/Kg) 69.6 54.70 70.7 Mileage (in Km/unit) 15.0 21.0 18.0 Cost per Km (Rs./Km) 4.64 2.60 3.93 Life of the vehicle (years) 10 10 10 Average distance travelled per year (Kms) 15,000 15,000 15,000

Running cost (Rs.) 696,000 390,714 588,833

Maintenance Cost per annum (Rs.) 10,000 15,000 15,000 Salvage Value after 10 years (Rs.) (50,000) (35,000) (50,000) Cost of vehicle over useful life 1,426,000 1,210,714 1,528,833

CNG lower by, as against petrol 18% CNG lower by, as against diesel 26%

Source: Kotak Securities - Private Client Research and Maruti.

Comparison of domestic PNG versus LPG for cooking Currently, GGCL is selling around 0.5 mmsmcd of gas to domestic PNG

consumer and the same is sourced from domestic upstream companies which is priced attractively. We expect GGCL’s PNG-domestic CAGR volume growth of 10% during 2018-2021E.

Domestic PNG (Piped natural gas) is meaningfully attractive as compared to non-subsidized LPG cylinders in the current pricing environment, although the cost of cooking fuel indeed forms a relatively small share of consumers’ wallet.

There is adequate impetus (such as convenience, safety factors - prevents hassles of ordering and changing cylinders, no waiting period and does not require any storage space) for the end-consumers to switch from LPG cylinders to PNG.

Going forward, GGCL thrust is on CNG and domestic PNG segment.


MARCH 8, 2019

Fuel competitiveness of PNG vs. subsidized LPG with changing gas price

Energy cost of LPG cylinders versus PNG

Details Unit LPG PNG

Price Rs/kg (Rs/Scm) 50.4 28.5 Calorific Value Kcal/Kg (Kcal/SCM) 11,500 8,300 Price of per mn calories Rs/mn& K calorie 4,385 3,434 PNG is attractive over LPG (%) 22%

Source: Kotak Securities - Private Client Research. LPG price is Ahmedabad.

PNG versus alternative fuels for commercial and industrial use GGCL is currently supplying 4.6 mmsmcd of gas to industrial users and 0.6

mmsmcd of gas to commercial users. We expect I-PNG to grow at a CAGR of ~9.2% and C-PNG to grow at a CAGR of ~7.7% during 2018-2021E.

The industrial segment constitutes 70% of GGCL’s total sales volume and out of that Morbi accounts for almost 50% of its industrial volumes.

PNG offers a low-cost convenient alternative to commercial establishments such as hotels, hospitals and restaurants, as subsidized LPG is not available to these consumers.

PNG is also used in smaller industries as a heating fuel instead of fuel oil, LSHS, commercial LPG and LDO.

Natural gas continues to offer better economics vs alternatives like fuel oil due to high fuel prices and gives an opportunity of higher off-take from ceramic segment.

Expanding profitable and sticky CNG/PNG segment: The government thrust and easy access to cheaper domestically priced gas makes CNG and PNG business highly profitable in India.

Government domestic gas allocation policy Domestic supply agreement - MoPNG allocates gas for entire requirement

of CNG and domestic PNG under Administered Price Mechanism (APM), PMT and Non-APM Agreements.

Allocation of 110% of consumption in previous 6 months to be compulsorily supplied by GAIL and to be only used for the domestic PNG & CNG segments.

Price to be fixed on 6 monthly basis (market linked – US$ 3.36 / MMBTU on GCV basis (Applicable from October 01, 2018 to March 31, 2019).

In order to grab this opportunity, GGCL is aggressively focusing on penetrating in PNG (domestic), PNG (commercial) and CNG (transport) sector which is comparatively less volatile. In this regard, it is conducting ‘Car Mela’ for promoting and creating awareness about the benefits of CNG.

In FY18, it has commissioned 46 new CNG stations which has helped the company to sustain the growth volumes of around 7% in the residential sector and around 10% in CNG (transport) sector.

It plans to commission 60 new CNG stations along with tie-up with OMCs for CNG stations at their retail outlets, taking the total outlets to 350 by FY19 end.

Currently, GGCL is focusing on tapping robust CNG vehicle conversion rates (~50k per annum).

PNG provides savings with respect to subsidized LPG.

I-PNG competes with fuel oil, Coal/Petcoke and other dirty fuels like

rice husk, etc. Hence, consumers are driven only by economics and switch

pretty quickly from one fuel to another.

Low penetration and favourable economics versus liquid

alternatives will encourage conversions.

With higher no. of CNG outlets the utilization of CNG facilities is

expected to improve.


MARCH 8, 2019

Currently, the mix of outlets are 45% OMCs owned, 25%-30% Franchise and balance is company owned.

GGCL is promoting CNG consumption in SURAT through CNG CAR MELA

Source: Company

Source: Company

CGD sector to grow at a faster pace post 2018 as natural gas becomes a preferred fuel

Source: April 2017, Bureau of Economic Geology (BEG) / Center for Energy Economics (CEE) China/India Gas Demand, PPAC Consumption Data for FY17-18.

On the domestic PNG segment, with the policy support from the state government the incentive to switch to gas from liquid fuel has improved a lot for end-consumers.

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Increasing CNG volumes is positive, as it would reduce

volatility in volumes and margins for GGCL.

Surat is one of the largest CNG market for Gujarat Gas.

GGCL is getting good support from OEMs also.

CGD to grow at a faster pace as gas becomes a preferred fuel

with increased government focus

1). Environmental Initiatives

2). PNG and CNG Corridor

3). CGD expansion in new cities.

PNG connections growth is also dependent on network

expansion.


MARCH 8, 2019

PNG / LPG Sahay Yojana – Subsidized gas to BPL Families in Gujarat On 1st May’18, Gujarat govt. has launched PNG / LPG Sahay Yojana to

provide subsidized piped natural gas to below poverty line (bpl) families.

This new scheme will cover the left-out urban Antyodaya Anna Yojana (AAY)/ BPL households of Ujjwala yojana and will provide a cleaner fuel for domestic purposes. To begin with, it has launched this scheme in the Bharuch District to replace kerosene.

Key features of this scheme are as follows: Under this scheme, the state govt. will pay Rs. 1,600 as one-time subsidy

per connection. Govt. will also provide Rs. 1,725 as loan to customers to opt for a new PNG connection.

Beneficiaries will now have to pay only Rs. 118 for a new PNG/LPG connection. People will also have to deposit a refundable security deposit of Rs. 50 p.m. for a period of 100 months.

In the next phase of this pilot project, scheme will also be expanded to other municipal corporations and districts.

New PNG / LPG Sahay Scheme 2018 is basically for BPL families in urban areas where the gas distribution network is already present.

Environmental issues - Regulatory support Morbi-Wankaner cluster getting highly polluted due to usage of coal

gasifiers. Recently, the National Green Tribunal has ordered a shutdown of all ceramic units at Morbi and Wankaner (India’s largest ceramic cluster) that run on type B coal gasifier. We expect ceramic players to switch to natural gas as a fuel instead of closing down the unit or shifting to a new location.

We would like to highlight, GGCL is the sole supplier of gas in that region. Currently, the ceramic manufacturing units at Morbi consume ~ 2.5 mmscmd of gas (~50% of total units operate on gas). Earlier, Morbi units use to consume ~4 mmscmd, but this was reduced as companies switched to low-cost coal gasifiers.

We expect Morbi to have a 5-6 mmscmd gas demand potential as against current gas sales of ~2.5 mmscmd, suggesting the high growth prospects.

GGCL’s volumes are poised to revive as cost economics and regulations push to shift to cleaner natural gas. Cost competitiveness and stricter regulations will drive the shift to gas from alternates, we opine.

Low penetration in both D-PNG and CNG offers strong growth opportunity: GGCL’s long-term growth opportunity looks attractive with just ~18%

penetration in the PNG-domestic and ~15% penetration in the CNG segment (calculated based on capacity to dispense and no. of vehicles), coupled with possible regulatory push.

A moderate uptick in GGCL's total gas volume on account of entry into new districts and favourable government policies for expansion of CGD services.

Medium to long term gas volume growth will be supported by network expansion in new areas: We believe medium to long term gas volume growth will be supported by

network expansion in new geographical areas (GAs).

State government support has made PNG’s growth potentially

strong.

The regulatory push to ban petcoke can incrementally add

another 0.4-0.5 mmscmd of gas volume in medium to long term.

Low penetration and convenience will drive

residential PNG usage.

Recently commissioned areas like Jamnagar and Bhavnagar can

potentially generate 3-3.5 mmscmd over three-five years.


MARCH 8, 2019

There exists a strong gas demand potential for the GAs of Dahej, Silvassa, Thane extension and Panchmahal. In FY18, the company has commissioned gas supply in these areas and the full benefit will be reflected in FY19 and onwards.

Apart from the above GAs, it is also developing CGD networks in new GAs, including Dadra and Nagar Haveli, Hazira, Outer Ahmedabad, Dahod, Bhavnagar/Botad, Amreli, Kutch West, Jamnagar and Anand.

Some of the GAs has already started contributing to the overall gas sales volumes but majority of the volume growth would be back-ended in nature and any meaningful volume addition would require 2-3 years’ time frame.

We expect significant incremental volume potential of 5-6 mmscmd over the next 4-5 years.

Geographical Areas of operation The company operates in 20 districts of the state of Gujarat, 2 districts of the state of Maharashtra and in the Union Territory of Dadra & Nagar Haveli.

GGCL sells ~6.3 mmscmd of gas. Morbi is the company’s biggest market (2.5-2.6 mmscmd), followed by Bharuch/Ankleshwar/Surat/Vapi (~ 2.3 mmscmd), Rajkot (~0.3 mmscmd), Bhavnagar/Jamnagar (~0.1 mmscmd) and other Geographical Areas (GAs).

Gujarat Gas’s areas of operation

Domestic Industrial Commercial

Saurashtra Central South Saurashtra Central South Saurashtra South Central Gujarat Gujarat Gujarat Gujarat Gujarat Gujarat

Rajkot Gandhinagar Surat Rajkot Gandhinagar Surat Rajkot Gandhinagar Surat Jamnagar Chandkheda Ankleshwar Jamnagar Karjan Ankleshwar Jamnagar Chandkheda Ankleshwar Bhavnagar Halol Bharuch Bhavnagar Halol Bharuch Bhavnagar Halol Bharuch Botad Nadiad Tapi Botad Nadiad Tapi Botad Nadiad Tapi Surendranagar Khambhat Vapi Surendranagar Palej Vapi Surendranagar Khambhat Vapi Morbi Petlad Umargam Wadhwan Khambhat Umargam Morbi Petlad Umargam Thangadh Kheda Bhilad Morbi Dahej Sarigam Thangadh Kheda Sarigam Limbdi Mahemdabad Sarigam Thangadh Bilimora Limbdi Mahemdabad Bilimora Bilimora Valsad Valsad Valsad Navsari Dharampur Dharampur Hazira Navsari Navsari Gundlav Hazira Hazira Morai

Source: Company

New district won in 2018: Recently, PNGRB has granted authorization to GGCL to lay, build, operate, or expand city or local natural gas distribution network (CGD network) for the geographical area of Narmada (Rajpipla) district in the state of Gujarat.

As per the provisions of the PNGRB Regulation, 2008, it has been granted 300 months of infrastructure exclusivity i.e. valid up to September 05, 2043 and 96 months of marketing exclusivity valid up to September 05, 2026 for the CGD network. Further, the authorized area for laying, building, operating or expanding the proposed CGD network shall cover a geographical area of 2,817 sq. kms. This not only ensures long term gas demand growth for GGCL but the size and scale of the combined entity gives GGCL the ability to achieve efficiencies and execute effectively.

GGCL’s key industrial consumer includes Ceramic manufacturer,

pharmaceuticals, glass manufacturer, textile units, etc.

License for Narmada (Rajpipla) District awarded to GGCL in the

9th CGD bidding Round.


MARCH 8, 2019

Tariffs: GGCL will charge a network tariff of Rs.30/mmbtu and compression charge of Rs.2/kg.

Work program: GGCL will be providing minimum 1750 PNG connections and will commission 4 CNG stations.

Regulatory Environment Creating Strong Barriers to Entry and Incumbent Advantage We believe regulatory tailwinds are driving sector growth, given the policies laid out by the MoPNG and PNGRB.

Regulatory Framework

Particulars Description

Authorization Authorization to lay, build, operate or expand a CGD network Exclusivity Infrastructure exclusivity in certain areas of Gujarat Gas Allocation 110% allocation for CNG and domestic PNG requirements Price Determination Pricing benchmarked to market price of alternative fuels - Ability to

manage margins and pass on cost increases to customers Accelerated Bidding NITI Aayog agenda to expand CGD in 326 cities by 2022 from existing 92

authorized Geographical Area - Opportunities to expand for GGCL.

Source: Industry

GGCL is the largest CGD in India – Volume growth story On a comparative basis, GGCL is the largest city gas distribution company in India in terms of gas volume supplied. Hence, it’s a volume growth story.

Peer comparison – GGCL is India’s largest CGD

Source: Company

GGCL market share in India’s CGD market

Source: Company

5.41

6.22

4.59 5.18

2.73 2.70

-

1.00

2.00

3.00

4.00

5.00

6.00

7.00

FY17 FY18

Gas sales volume (mmsmcd)

GGCL IGL MGL

32%

53%

23%

47%

68%

47%

77%

53%

0% 20% 40% 60% 80% 100%

Domestic Connections

CommercialConnections

CNG Stations

Industrial Connections

Others GGCL

Given GGCL size and infrastructure, it enjoys a quasi-monopoly in India's largest city

gas market.

As against IGL and MGL, GGCL’s maximum sales volume are to

the industrial customers.

GGCL is a gas volume growth story as compare to MGL which

is more a margin story, on a relative basis.


MARCH 8, 2019

GGCL has total 18 CGD licenses spread across 24 districts amounting ~20% of total CGD licenses issued by PNGRB in India and 1 pipeline license.

It has ~96,000 square kilometers of licensed area and catering to more than 13 lakh residential consumers, over 13,440 commercial customers, dispensing CNG from 294 CNG stations for vehicular consumers and providing clean energy solutions to over 3,421 industrial units through its wide spread operations with ~22,200 kilometers of natural gas pipeline network.

It has added ~250 new industrial units and around 690 new commercial establishments in FY18.

Strong volume growth outlook and pricing power will expand margins: Unit margins is expected to increase to Rs. 4.10/scm by FY20E and to

Rs.4.23/scm by FY21E supported by higher retail business contribution, better raw material mix and efficiency improvement.

A rebound in the industrial segment along with retail business expansion, expansion in a slew of new markets and a pickup in industrial should help in margin improvement.

Given robust growth potential from existing and new areas, ecosystem development in the surrounding areas, relatively FO expensive over RLNG can provide fillip to industrial volumes and strong parental support from GSPC.

The company has time and again taken sharp increase in realization to offset higher RLNG and rupee depreciation.

Improvement in EBITDA/scm on a sequential basis clearly indicated pricing power and proactive pricing policy of GGCL. We expect EBITDA margin per unit to improve to Rs. 4.10/scm by FY2020E and to Rs. 4.23/scm by FY2020E vs Rs.4.0/scm in FY18. The company is targeting to achieve operating margin of Rs.4.5/scm.

Chart showing gross margin and operating margin (Rs/Scm)

Source: Company and Kotak Securities - Private Client Research

5.87 6.35 6.59 6.89 6.93 7.03

2.25 2.54 2.61 2.83 2.83 2.81

3.6 3.8 4.0 4.07 4.10 4.23

-

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

2016 2017 2018 2019E 2020E 2021E

Gross margin (Rs/scm) Opex (Rs./scm) EBIDTA (Rs./SCM)

Balancing volume growth and margins.


MARCH 8, 2019

Gujarat Gas has regular dividend payment track record GGCL has decent dividend payout history. In the last four years, the

Company has paid out dividend in the range of 21% - 40% of PAT. At current levels, the stock offers a dividend yield of ~1.4 % (FY20E). We model dividend per share of Rs.10.8 for FY19E and Rs.11.9 for FY20E with better cash flows.

Dividend policy: The dividend pay-out ratio shall be maintained in between the range of 10% to 30% of the consolidated PAT.

Historically, higher profits resulted in higher dividend payout

Particulars 2,015 2,016 2017 2018 2019E 2020E 2021E

Dividend paid (Rs. mn) 688 344 413 551 553 588 756 Dividend paid (Rs/Share) 1.00 0.50 0.6 0.80 0.80 0.85 1.10 Dividend paid/PAT (%) 15.5% 22.5% 18.8% 18.9% 13.9% 13.4% 14.0%

Source: Company, Kotak Securities - Private Client Research

In the last four years, the Company has consistently paid

out dividend.


MARCH 8, 2019

Quarterly result update

(Rs.mn) Q3FY19 Q3FY18 YoY (%) QoQ (%) 9MFY19 9MFY18 YoY (%)

Sales volume- (mmscmd) 6.57 6.29 4 (1.4) 6.55 6.05 8 a). PNG (mmscmd) 5.1 5 2.8 (2.4) 5.1 5 8 PNG - Industrial 4.48 4.370 3 (3.0) 4.5 4.20 8 PNG - Commercial 0.11 0.11 3 (6.7) 0.1 0.10 10 PNG - Domestic 0.55 0.52 5 3.4 0.5 0.47 6 b). CNG (mmscmd) 1.42 1.29 10 2.4 1.4 1.27 11 Average realization (Rs./scm) 36.0 27.9 29 9.4 33.3 27.4 21

Source: Company

Profit & Loss Account – 9MFY19

Q3FY19 Q3FY18 YoY (%) QoQ (%) 9MFY19 9MFY18 YoY (%)

Net Revenue 21,174 15,713 35 7.8 58,469 44,407 32 Rs./SCM 35.1 27.14 29 9.3 32.4 26.70 21 Incr/(Decr) in stock 3 5 17 20 Less: RM consumption 16,267 12,217 33 (1.0) 46,208 33,249 39 RM to net revenue (%) 76.8 77.7 79.0 74.9 Gross Margin 4,910 3,502 40 52.5 12,277 11,179 10 Gross Margin (%) 23.2 22.3 1 6.8 21.0 25.2 (4) Rs/scm 8.1 6.0 34 54.6 6.8 6.7 1 Opex + Staff cost 1,698 1,502 13 5.3 4,972 4,454 12 EBIDTA 3,212 1,999 61 99.8 7,305 6,724 9 Operating margin (%) 15.17 12.72 2 7.0 12.49 15.14 (3) Rs/scm 5.3 3.5 54 103 4.1 4.0 0 Less: Depreciation 728 688 6 1 2,158 2,037 6 EBIT 2,484 1,311 89 181.1 5,147 4,688 10 Rs/scm 4.1 2.3 82 185 2.9 2.8 1 Other income 154 91 70 (18) 437 258 70 Interest-net 485 487 (0) (2) 1,465 1,482 (1) PBT 2,154 915 135 4,120 3,463 19 Rs/scm 3.6 1.6 2.3 2.1 Extra ordinary Exp/(Inc) 179 - (310) - Tax 595 315 89 256 1,425 1,209 18 Tax rate (%) 28 34 (7) (4) 35 35 (0) PAT 1,380 600 130 236 3,005 2,254 33 Rs/scm 2.28 1.04 120 241 1.67 1.36 23 Net profit margin (%) 6.5 3.8 71 212 5.1 5.1 1 EPS (Rs) 2.01 0.87 130 236 4.37 3.27 33

Source: Company

GGCL’s gas unit economics

Unit income statement Q3FY19 Q3FY18 YoY (%) QoQ (%) 9MFY19 9MFY18 YoY (%)

Net Revenue 35.1 27.1 29 9 32.4 26.7 21 Cost of goods sold (26.9) (21.1) 28 0 (25.6) (20.0) 28 Gross margin 8.1 6.0 34 55 6.8 6.7 1 Opex 2.8 2.6 8 7 2.8 2.7 3 Ebitda 5.3 3.5 54 103 4.1 4.0 0 Depreciation 1.2 1.2 1 2 1.2 1.2 (2) Ebit 4.1 2.3 82 185 2.9 2.8 1 Other income 0.3 0.2 63 (17) 0.2 0.2 57 Interest (0.8) (0.8) (5) (0) (0.8) (0.9) (9) PBT 3.6 1.6 126 278 2.3 2.1 10 Extra ordinary Exp/(Inc) 0.3 0.0 (0.2) 0.0 Taxes 1.0 0.5 81 261 0.8 0.7 9 PAT 2.3 1.0 120 241 1.7 1.4 23

Source: Company


MARCH 8, 2019

Sales mix (%)

Q3FY19 Q3FY18 YoY (%) QoQ (%) 9MFY19 9MFY18 YoY (%)

Sales volume (mmscm/quarter) 6.57 6.29 4 (1) 6.55 6.05 8 a). PNG (mmscmd) 78.3 79.4 (1.1) (0.81) 78.5 79.0 (0.5) PNG - Industrial 68.3 69.4 (1.2) (1.10) 69.2 69.5 (0.3) PNG - Commercial 1.7 1.7 (0.0) (0.10) 1.7 1.7 0.0 PNG - Domestic 8.3 8.3 0.1 0.39 7.6 7.8 (0.2) b). CNG (mmscmd) 21.7 20.6 1.1 0.81 21.5 21.0 0.5

Source: Company

Quarterly result analysis YoY strong revenue growth: In Q3FY19, the company reported a net revenue

growth of 35% yoy to Rs 21.7 bn (8% qoq) supported by 4% yoy growth in volumes to 6.57 mmscmd (-1.4% qoq) and 29% yoy growth in net realization to Rs. 35 /scm (9.3% qoq).

Sales volume mix: The industrial segment volume (~70% of total volume) grew by 3% yoy to 4.48 mmscmd (-3% qoq) and the CNG segment volume (22% of total volume) grew by 10% yoy to 1.42 mmscmd (2.4% qoq). In FY18, the company had added 46 CNG stations, taking the total tally 294. CNG is a strong profitable segment given uninterrupted supply of cheap domestic gas.

Quarterly gas sales volumes (mmscmd)

Source: Company

GGCL’s gas sales volume growth yoy (%)

Source: Company

5.32

6.04 6.12

5.73

6.29

6.8 6.43

6.66 6.57

4.00

4.50

5.00

5.50

6.00

6.50

7.00

Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19

(12.1)(7.8)

(1.6)

11.9

19.0

10.9

18.4

11.7

5.1

16.3

4.3

(15.0)

(10.0)

(5.0)

-

5.0

10.0

15.0

20.0

25.0


MARCH 8, 2019

GGCL’s quarterly sales mix (%)

Source: Company

Average gross realization: GGCL’s average gross gas realization increased by 29% yoy and 9.4% qoq to Rs. 36/scm led by price hike undertaken by the company.

Raw material cost: Raw material as a % of net revenue went down by 91 bps yoy to 76.82% (-680 bps qoq). In absolute terms, raw material cost has increased by 33% yoy to Rs. 16 bn (-1% qoq).

Higher raw material directly impacts gross margin

Source: Kotak Securities - Private Client Research and Company

Raw material break-up (%)

Source: Company

67.3 68.8 70.6 68.5 69.4 69.2 70.0 69.4 68.3

1.8 1.7 1.6 1.7 1.7 1.6 1.6 1.8 1.7 9.0 9.2 7.2 8.0 8.3 9.1 6.5 8.0 8.3

21.9 20.4 20.6 21.8 20.6 20.1 21.9 20.9 21.7

-

25.0

50.0

75.0

100.0

Q3FY17 Q4FY17 Q1FY18 Q2FY18 Q3FY18 Q4FY18 Q1FY19 Q2FY19 Q3FY19

PNG - Industrial PNG - Commercial PNG - Domestic CNG (%)

65.0

70.0

75.0

80.0

85.0

6.5

11.5

16.5

21.5

26.5

31.5

Gross Margin (%) -LHS RM to net sales (%)-RHS

28 31 30 31 31 30 28 30 29 29 28 29 30

72 69 70 69 69 70 72 70 71 71 72 71 70

0

20

40

60

80

100Domestic gasLNG

Higher exposure to the industrial segment and competition from

cheaper alternatives result in high volatility in both volumes

and EBITDA/scm. However, growth potential is high in Morbi

alone, where the company sells ~2.6 mmscmd. (presents an

opportunity for ~6mmscmd).

Higher crude oil price results in higher FO, LSHS prices which

makes LNG much more attractive, this is positive for GGCL.


MARCH 8, 2019

Gross margin: Gross margin increased by 40% yoy and 52% qoq to Rs.4.9 bn. Gross margin per unit increased by 34% yoy and 55% qoq to Rs. 8.1/scm. In 9MFY19, Gross margin rose 10% yoy to Rs. 12.3 bn but Gross margin (in % terms) declined 418 bps to 21%. Gross margin per unit increased marginally to Rs. 6.8/scm.

Expenses (staff cost and opex): GGCL’s expenses increased by 13% yoy to Rs.1.7 bn (5% qoq) in Q3FY19.

EBIDTA: Operating profit increased 61% yoy to Rs. 3.2 bn (100% qoq) in Q3FY19, with operating profit margin expanding by 245 bps yoy to 15.2%. EBIDTA margin improvement was mainly on account of price hike undertaken.

GGCL is focusing on connecting new industrial consumers and retaining them on network rather than just maximizing margins. We believe this is a long term sustainable rather than vice-a-versa.

Margin improving amid volatility but is still far from previous highs. Higher industrial volume mix results in lower per unit margin. However, with higher CNG gas volume with opening of new cng stations we expect margins to improve.

Per unit EBIDTA margin (Rs. /scm)

Source: Company

Depreciation charge: Depreciation has increased 6% yoy and 1% qoq to Rs. 728 mn.

Other income: In Q3FY19, other income increased by 70% yoy to Rs. 154 mn (-18% qoq). Other income consists of interest, forex gain and dividend income.

Profit before tax (PBT): GGCL’s PBT increased by 135% yoy (partly due to base effect) to Rs.2.2 bn in Q3FY19.

PAT: GGCL reported a PAT growth of 130% yoy to Rs 1.4 bn supported by higher realization, better sales mix and base effect.

Due to higher operating profit margin, NPM increased by 270 bps yoy to 6.5% (+440 bps qoq).

2.9

4.6 4.5 4.4

3.5

2.7

4.8

3.8 3.5 3.7

4.2

2.6

5.3

-

1.0

2.0

3.0

4.0

5.0

6.0

EBITDA/scm increased to Rs. 5.3 led by a price hikes taken and

better sales mix


MARCH 8, 2019

Overall summary of our key assumptions We are bullish on GGCL and have a strong view that it is likely to witness a meaningful improvement in its financial performance over FY19-21E driven by higher sales volume from both PNG and CNG segment.

We base our estimates on a detailed analysis as reflected in the following sections:

Steady revenue growth: GGCL is focusing on connecting new consumers, geographical expansion, focus on CNG segment, retaining existing & new users and maximizing margins. The strategy of volume growth led earnings increase will support long-term growth earnings of the company. We believe this is prudent strategy considering GGCL has take-or-pay contract with long-term LNG supplier. Further, it blends cheap spot and long term LNG volumes to make average lower.

In FY19E, we expect the company’s net revenue to be Rs. 79 bn (29% yoy), in FY20E revenue to be Rs. 88 bn (11% yoy) and Rs. 99 bn (13% yoy) in FY21E as against Rs.62 bn in FY18. In FY18, the company arrested the declining gas volumes and is now well placed to register strong volume growth in the medium to long term.

GGCL’s gas sales volume to grow in double digit

Source: Kotak Securities - Private Client Research. Year ending March.

Realization – The company takes sharp increases in realization to offset higher RLNG, domestic gas price increase and rupee depreciation. We expect the average realization to increase to ~Rs.33.1/scm in FY19E, Rs.33.3/scm in FY20E, and Rs.33.4/scm in FY21E.

GGCL’s average gas price realization trend and future expectation (Rs/scm)


5.5 5.4

6.2 6.57

7.23

8.15

5.0

5.5

6.0

6.5

7.0

7.5

8.0

8.5

2016 2017 2018 2019E 2020E 2021E

30.07

25.8

27.2

33.1 33.3 33.4

22.00

24.00

26.00

28.00

30.00

32.00

34.00

2016 2017 2018 2019E 2020E 2021E

Industrial sales accounts for ~70% of the total

sales volume.


MARCH 8, 2019

Raw material cost: The company procures gas from multiple sources with different cost. The sourcing basket comprises of 3.5 mmscmd term RLNG, 1.4 mmscmd of spot and 1.85 mmscmd of domestic gas. Among all, PNG (domestic) and CNG gas procured from domestic sources is the cheapest due to favorable government policy. With CNG and domestic PNG volume picking up we have assumed higher APM and PMT gas allocation so as to meet 100% demand.

Average raw material cost (Rs/scm)

Source: Kotak Securities - Private Client Research. Year ending March.

Government domestic gas allocation policy Domestic supply agreement - MoPNG allocates gas for entire requirement

of CNG and domestic PNG under Administered Price Mechanism (APM), PMT and Non-APM Agreements.

Allocation of 110% of consumption in previous 6 months to be compulsorily supplied by GAIL and to be only used for the domestic PNG & CNG segments.

Price to be fixed on 6 monthly basis (market linked – US$ 3.36 / MMBTU on GCV basis (Applicable from October 01, 2018 to March 31, 2019).

Gas sourcing mix: APM gas – for Domestic CNG and PNG

PMT gas – for Domestic CNG and PNG

Long term LNG- BG contract (valid till 2025) - Long-term contract till CY25 for 2 mmcmd volumes at ~14% linkage to the Brent crude price

Long term LNG- Rasgas contract (valid till 2028) - Long-term contract till CY28 for 1 mmcmd volume at ~13% linkage to the JCC crude price

Spot LNG - LNG from spot market to meet balance demand

29.7 30.9

23.8

19.1 20.3

26.1 26.0 26.0

0.00

5.00

10.00

15.00

20.00

25.00

30.00

35.00

2014 2015 2016 2017 2018 2019E 2020E 2021E

GGCL’s dependence on LNG is the highest. Lot of new LNG

terminals are expected to commission which will boost

LNG supply in India.

Industrial consumers require price stability, hence GGCL has signed long-term LNG agreements, with

take-or-pay clause.


MARCH 8, 2019

Strong inverse co-relation between raw material and gross margin


The continuous momentum of the Brent crude has also led to a significant spike in the natural gas prices as a result of a strong correlation between the two. GGCL sources ~35% of their natural gas quota from the spot market. These systematic price hikes will have to be taken to pass on the input costs.

Employee cost: We expect FY19E employee cost to be Rs.1.6 bn (+13% yoy), FY20E employee cost to be Rs. 1.8 bn (+16% yoy) and FY21E to be Rs. 2.1 bn as against Rs. 1.4 bn in FY18.

Employee cost to sales (%)


EBIDTA Outlook: We expect FY19E EBIDTA to be Rs.9.8 bn (higher by 8% yoy), FY20E EBIDTA to be Rs. 11 bn (higher by 11% yoy), FY21E EBIDTA to be Rs.13 bn (higher by 16% yoy) and as against Rs. 9.0 bn in FY18 driven by higher gas sales volume, better sales mix and improved margins. Higher CNG volume can quickly improve margins. With the addition of 46 CNG stations in FY18, the total number CNG dispensing stations stood at 294. CNG is a strong profitable segment given uninterrupted supply of cheap domestic gas as a result the management plans to add 60 CNG stations in FY19.

80.5

75.4 75.8

79.2 79.2

79.0

12.0

14.8 14.6

12.3 12.3 12.7

-

2.0

4.0

6.0

8.0

10.0

12.0

14.0

16.0

70.0

75.0

80.0

85.0

2016 2017 2018 2019E 2020E 2021E

RM cost to sales (%) EBIDTA to Sales (%)

1,152

1,317 1,282 1,390

1,576

1,826

2,087

0.00%

0.50%

1.00%

1.50%

2.00%

2.50%

3.00%

800

1,000

1,200

1,400

1,600

1,800

2,000

2,200

2015 2016 2017 2018 2019E 2020E 2021E

Personnel Expenses (Rs. Mn) Employee cost to sales (%)

EBITDA is estimated to grow at a CAGR of 12% and EPS at a CAGR

of 23% over FY18-21E.


MARCH 8, 2019

Operating profit and margin outlook


Per unit trend of Gross margin, opex and operating margin We expect margin improvement amid volatility. With new CNG station

adding we expect overall margins to improve.

We expect Opex to be Rs 2.83/scm in FY19E, Rs.2.83/scm in FY20E, Rs.2.81/scm in FY21E and Rs.2.61/scm in FY18.

Margins profile improved over the years


Depreciation: We expect depreciation cost of Rs. 2.9 bn in FY19E, Rs. 3 bn in FY20E and Rs.3.5 bn in FY21E as against Rs.2.7 bn in FY18.

Capex plans: The company has guided for annual capex run rate of Rs.5 bn (excluding acquisition) and the same will be funded internally. If any acquisition is done then it may raise debt for the same.

Earnings Outlook: We expect GGCL to have an EPS of Rs. 5.8 in FY19E (37% yoy growth), Rs.6.4 in FY20E (10% yoy growth), and Rs.7.9 in FY21E as against Rs. 4.2 in FY18.

6.0%

8.0%

10.0%

12.0%

14.0%

16.0%

3,000

5,000

7,000

9,000

11,000

13,000

15,000

2016 2017 2018 2019E 2020E 2021E

EBIDTA (Rs. mn) Operating Margins (%)

5.87 6.35 6.59 6.89 6.93 7.03

2.25 2.54 2.61 2.83 2.83 2.81

3.6 3.8 4.0 4.07 4.10 4.23

-

1.00

2.00

3.00

4.00

5.00

6.00

7.00

8.00

2016 2017 2018 2019E 2020E 2021E

Gross margin (Rs/scm) Opex (Rs./scm) EBIDTA (Rs./SCM)


MARCH 8, 2019

PAT and PAT Margin (%)


PAT margins (%): We forecast PAT margin of 5% in FY19E, 5% in FY20E and 5.4% in FY21E as against 4.7% in FY18.

Return on Equity (ROE): In FY19E, we expect ROE of 16.7%, 18.6% for FY20E, and 19.5% for FY21E as against 16.7% for FY18.

Return ratios improvement


0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

-

1,000

2,000

3,000

4,000

5,000

6,000

2016 2017 2018 2019E 2020E 2021E

PAT (Rs.Mn)-LHS PAT Margin % - RHS

5.0

10.0

15.0

20.0

25.0

2016 2017 2018 2019E 2020E 2021E

ROE (%) ROCE (%)

ROE is expected to improve with better capacity utilization,

higher volumes, margin improvement, etc.


MARCH 8, 2019

INDUSTRY DETAILS The priorities of the government are energy access, energy efficiency, energy sustainability and security.

Low penetration of natural gas in India is set to change India is the fourth-largest consumer of energy in the world and its energy requirement continues to grow propelled by underlying economic development. India’s per-capita energy consumption is one-third of global average indicating higher potential of energy demand in the longer term. The share of natural gas in India’s energy mix also remains low at about ~6% as compared to nearly 24% in the global energy mix (as per BP Statistics 2018), which provides greater opportunity for natural gas, as the policy focus shifts towards (1) reducing crude oil imports and (2) encouraging environmentally cleaner fuels.

We expect shift from crude oil to natural gas in India’s energy mix

Energy mix in India (%) - 2016 vs 2020

Source: BP Statistics 2018

Sector wise projected gas demand (mmscmd)

Source: BP Statistical Review June 2018 & Vision 2030, Natural Gas Infrastructure in India

29.4%

6.2%

56.9%

2.3%5.1%

28.6%

6.4%

55.1%

4.6% 5.2%

0.0%

10.0%

20.0%

30.0%

40.0%

50.0%

60.0%

Oil Gas Coal Renewables other non-fossils

2016 2020

157

97

22 2747

8

202

106

36 3554

10

309

110

6852

103

120

50

100

150

200

250

300

350

Power Fertilizer City Gas Industrial Petchem/Refineries /

Internal Cons.

Sponge/ Iron/Steel

2016-17 2019-20 2026-27

Economy growing at CAGR of about 6-7% with similar growth

in Energy Consumption.

Low penetration, less regulation and government

offers good prospects.

Govt aims to significantly increase share of natural gas in

Indian Energy basket.

Share of natural gas is quite low in India’s energy mix.

India is 14th largest gas consumer in the world.


MARCH 8, 2019

Natural gas availability is expected to increase led by higher LNG imports Natural gas is primarily used in India as (1) feedstock for fertilizer, LPG and

petrochemicals plants, (2) fuel for power sector, industrial units and commercial establishments, (3) transportation fuel for vehicles and (4) cooking fuel for households.

The usage has been constrained due to (1) low supply of domestic gas, (2) constrained capacity of LNG import terminals, (3) lack of country-wide pipeline infrastructure and (4) lesser importance given to environmentally cleaner fuels until recently. However, this supply situation is expected to change led by an increase in LNG re-gasification capacity in India, which will meaningfully improve availability of natural gas over the next few years. We expect overall domestic natural gas supply to increase sharply to 172 mmscmd in FY2020 from 157 mmscmd in FY2017.

Current Gas Demand & Domestic Supply Scenario

Source: Vision 2030, Natural Gas Infrastructure in India

Policy initiatives to develop city gas distribution business India’s CGD business is still at its nascent stage. The government is

promoting the usages of clean and green fuel - PNG and CNG by expanding the coverage of city gas distribution (CGD) network in India.

In this regard, the government has undertaken several policy initiatives such as developing additional 15,000 km of gas pipeline network.

The Government has issued guidelines for making available domestic gas to the CGD entities for meeting the entire requirement of CNG for transport segments and PNG for Domestic.

Few of the initiatives implemented by Government are as follows: MoPNG has accorded priority to PNG (Domestic) and CNG (Transport)

segments of CGD sector in domestic gas allocation.

State Governments have been advised

a) To standardize the road restoration/ permission charges along with time bound permission for development of CGD networks.

b) To earmark land plot for development of CNG stations in their master Plan.

c) Relevant modification in building bye-laws for providing gas pipeline infrastructure in residential & commercial buildings at architectural design stage.

358

442

625

713

157 172212 231

0

200

400

600

800

2016-17 2019-20 2026-27 2029-30

Demand (mmsmcd) Domestic Supply (mmscmd)

India is the 4th largest LNG importer in the world.

India’s per capita energy consumption is one-third of the

global average, indicating potentially higher energy demand

in the long-term.


MARCH 8, 2019

CGD networks have been provided the status of “Public Utility” under the Industrial Dispute Act, 1947.

Efforts are underway to develop an online portal in consultation with state government to streamline the process of permissions to develop CGD network.

Government has envisaged to connect 10 mn households with PNG supplies for cooking purpose by 2020.

It also plans to expand the coverage of CGD networks in additional 174 districts in coming years.

Government of Gujarat has recently launched “PNG Sahay Yojna” to supplement Government of India’s “Ujjwala Yojna” and shall cover urban AAY (Antyodaya Anna Yojana) and BPL (below poverty line) category households.

Under the scheme, PNG shall be supplied to AAY and BPL households.


MARCH 8, 2019

OVERALL INVESTMENT SUMMARY Valuations & Recommendations: We initiate coverage on Gujarat Gas with a BUY rating and a multiple based

price target of Rs.157/share (upside of 16%). The company is focusing on volume growth and systematic price hikes to boost the overall growth, going ahead.

We expect the topline to grow at CAGR of 17% and EBITDA to grow at CAGR of 12% over FY18-FY21E on account of strong volume growth outlook. We expect volumes to continue growing in FY19E/20E/21E, primarily led by the PNG industrial/commercial segment. Increasing CNG volumes is a positive, as it would reduce volatility in volumes and margins for GGCL.

Strong volume growth is expected even beyond FY2020E given the expansion in new GAs and likely regulatory push to shut down coal gasifiers in Gujarat. Margin improvement and strong revenue visibility makes us positive on its growth prospects

Currently, the stock is valued at 8.0x EV/EBITDA and 16.6x P/E on FY21E basis. We have valued the stock at 20x PE multiple based on peer comparison. For FY19E/20E/21E, we model volumes of 6.57/7.23/8.15 mmscmd and EBITDA/scm of Rs. 4.07/4.10/4.23.

The recent correction in the stock price discounts most of the negatives (such as near term growth and margin headwinds).

We expect volumes to continue growing in FY19E/20E/21E, primarily led by the PNG industrial/commercial segment.

Higher exposure to the industrial segment and competition from cheaper alternatives results in high volatility in both volumes and EBITDA/scm. However, the potential is high – Morbi alone, where the company sells 2.5-2.6 mmscmd, presents an opportunity for ~6 mmscmd.

We have already seen judiciary-led activism against polluting fuels in the National Capital Region (NCR). Any focus on pollution in Gujarat would result in sharp volume growth.

Valuation

Particulars Unit (FY21E)

EPS (FY21E) 7.9 Target – P/E (x) 20 Target price (Rs/share) 157 CMP (Rs/share) 135 Potential upside/(downside) (%) 16.3


Multiple triggers not priced-in:

1). Favourable verdict in disputed areas

2). Regulatory push in Surat, Bharuch and Ankleshwar


MARCH 8, 2019

KEY RISK AND CONCERNS GGCL’s high-cost long-term LNG contract coupled with strength in spot LNG

prices will continue to challenge its business model.

Large capex plans over the medium term: GGL will undertake capex for network expansion in newly won geographies such as Dadra and Nagar Haveli, DahejVagra, Dahod, Amreli, and Panchmahal, as well as in Thane, Anand, and Ahmedabad (excluding areas authorised to other CGD companies), and in existing areas of operations.

Any material increase in debt will be a key rating sensitivity factor. GGL will not extend any support to its parent or group company, in line with the past track record.

Exposure to regulatory risks and volatility in RLNG price

Sharp uptick in LNG price or correction in oil prices will lower competitiveness of gas versus alternatives, which will impact volumes.

Change in allocation or increase in price of domestic gas will impact steady CNG and residential PNG business.

Entry of new players post the end of its marketing exclusivity will impair its quasi-monopoly in the state.

Frequent regulatory interferences by PNGRB can impact the sector.


MARCH 8, 2019

Financials: Standalone Profit and Loss Statement (Rs mn)

(Year-end March) FY18 FY19E FY20E FY21E

Revenues 61,743 79,398 87,811 99,386 % change YoY 21.2 28.6 10.6 13.2 EBITDA 9,029 9,753 10,819 12,573 % change YoY 19.9 8.0 10.9 16.2 Other Income 279 914 300 300 Depreciation 2,718 2,880 2,996 3,506 EBIT 6,589 7,787 8,123 9,367 % change YoY 28.6 18.2 4.3 15.3 Net interest 1,961 1,921 1,571 1,265 Profit before tax 4,628 5,866 6,552 8,102 % change YoY 52.6 26.7 11.7 23.7 Tax 1,715 1,890 2,162 2,698 as % of PBT 37.0 32.2 33.0 33.3 Profit after tax 2,914 3,976 4,390 5,404 Net income 2,914 3,976 4,390 5,404 % change YoY 32.7 36.5 10.4 23.1 Shares outstanding (m) 688 688 688 688 EPS (reported) (Rs) 4.2 5.8 6.4 7.9 CEPS (Rs) 8.9 10.0 10.7 12.9 DPS (Rs) 0.8 0.8 0.9 1.1

Source: Company, Kotak Securities – Private Client Research Cash Flow Statement (Rs mn)


EBIT 6,589 7,787 8,123 9,367 Add: Depreciation 2,718 2,880 2,996 3,506 Change in working capital (698) (1,360) (1,550) (1,774) Chgs in other net current assets 0 0 0 0 Operating cash flow 10,006 12,027 12,669 14,646 Less: Interest (1,961) (1,921) (1,571) (1,265) Less: Tax (1,715) (1,890) (2,162) (2,698) Cash flow from operations 6,330 8,215 8,936 10,684 Less: Capex (4,354) (5,580) (4,986) (5,496) (Inc)/dec in investments 522 - - - Cash flow from investments (3,833) (5,580) (4,986) (5,496) Others (234) 0 - - Increase/(decrease) in debt (844) (2,102) (3,111) (4,103) Proceeds from share premium - - - - Dividends (664) (666) (709) (911) Cash flow from financing (1,743) (2,768) (3,821) (5,015) Opening cash 608 1,363 1,230 1,360 Closing cash 1,363 1,230 1,360 1,533

Source: Company, Kotak Securities – Private Client Research

Balance sheet (Rs mn)


Cash and cash equivalents 1,363 1,230 1,360 1,533 Accounts receivable 3,917 4,786 5,293 5,990 Inventories 568 640 741 844 Loans and Adv & Others 4,601 4,601 4,601 4,601 Current assets 10,449 11,257 11,995 12,969 Misc exp. 0 0 0 0 LT investments 174 174 174 174 Net fixed assets 55,710 58,410 60,400 62,390 Total assets 66,333 69,841 72,569 75,533 Payables 2,931 3,637 4,325 4,875 Others 11,957 13,528 14,962 16,934 Current liabilities 14,888 17,166 19,286 21,808 Provisions 383 406 444 496 LT debt 22,143 20,040 16,929 12,826 Others 10,455 10,455 10,455 10,455 Equity 1,377 1,377 1,377 1,377 Reserves 17,087 20,397 24,078 28,571 Total liabilities 66,333 69,841 72,569 75,533 BVPS (Rs) 27 32 37 44

Source: Company, Kotak Securities – Private Client Research Ratio Analysis


EBITDA margin (%) 14.6 12.3 12.3 12.7 EBIT margin (%) 10.7 9.8 9.3 9.4 Net profit margin (%) 4.7 5.0 5.0 5.4 Receivables (days) 23.2 22.0 22.0 22.0 Inventory (days) 3.4 2.9 3.1 3.1 Sales/gross assets(x) 1.5 1.9 2.1 2.3 Interest coverage (x) 3.2 3.6 5.0 7.2 Debt/equity ratio(x) 1.2 0.9 0.7 0.4 ROE (%) 16.7 16.7 18.6 19.5 ROCE (%) 12.2 14.3 14.2 15.7 EV/ Sales 1.8 1.4 1.2 1.0 EV/EBITDA 12.6 11.5 10.0 8.3 Price to earnings (P/E) 31.9 23.4 21.2 17.2 Price to book value (P/B) 5.0 4.3 3.7 3.1

Source: Company, Kotak Securities – Private Client Research


MARCH 8, 2019

RATING SCALE Definitions of ratings

BUY – We expect the stock to deliver more than 15% returns over the next 12 months

ADD – We expect the stock to deliver 5% - 15% returns over the next 12 months

REDUCE – We expect the stock to deliver -5% - +5% returns over the next 12 months

SELL – We expect the stock to deliver < -5% returns over the next 12 months

NR – Not Rated. Kotak Securities is not assigning any rating or price target to the stock.

The report has been prepared for information purposes only.

SUBSCRIBE – We advise investor to subscribe to the IPO.

RS – Rating Suspended. Kotak Securities has suspended the investment rating and price target for this stock, either because there is not a sufficient fundamental basis for determining, or there are legal, regulatory or policy constraints around publishing, an investment rating or target. The previous investment rating and price target, if any, are no longer in effect for this stock and should not be relied upon.

NA – Not Available or Not Applicable. The information is not available for display or is not applicable

NM – Not Meaningful. The information is not meaningful and is therefore excluded.

NOTE – Our target prices are with a 12-month perspective. Returns stated in the rating scale are our internal benchmark.

FUNDAMENTAL RESEARCH TEAM Rusmik Oza Arun Agarwal Amit Agarwal Nipun Gupta Deval Shah Head of Research Auto & Auto Ancillary Transportation, Paints, FMCG Information Tech, Midcap Research Associate [email protected] [email protected] [email protected] [email protected] [email protected] +91 22 6218 6441 +91 22 6218 6443 +91 22 6218 6439 +91 22 6218 6433 +91 22 6218 6423

Sanjeev Zarbade Ruchir Khare Jatin Damania Cyndrella Carvalho Ledo Padinjarathala, CFA Cap. Goods & Cons. Durables Cap. Goods & Cons. Durables Metals & Mining, Midcap Pharmaceuticals Research Associate [email protected] [email protected] [email protected] [email protected] [email protected] +91 22 6218 6424 +91 22 6218 6431 +91 22 6218 6440 +91 22 6218 6426 +91 22 6218 7021

Teena Virmani Sumit Pokharna Pankaj Kumar Krishna Nain K. Kathirvelu Construction, Cement, Buildg Mat Oil and Gas, Information Tech Midcap M&A, Corporate actions Support Executive [email protected] [email protected] [email protected] [email protected] [email protected] +91 22 6218 6432 +91 22 6218 6438 +91 22 6218 6434 +91 22 6218 7907 +91 22 6218 6427

TECHNICAL RESEARCH TEAM Shrikant Chouhan Amol Athawale Faisal Shaikh, FRM, CFTe Siddhesh Jain [email protected] [email protected] Research Associate Research Associate +91 22 6218 5408 +91 20 6620 3350 [email protected] [email protected] +91 22 62185499 +91 22 62185498

DERIVATIVES RESEARCH TEAM Sahaj Agrawal Malay Gandhi Prashanth Lalu Prasenjit Biswas, CMT, CFTe [email protected] [email protected] [email protected] [email protected] +91 79 6607 2231 +91 22 6218 6420 +91 22 6218 5497 +91 33 6625 9810

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MARCH 8, 2019

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MARCH 8, 2019

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initiating coverage€¦ · key investment rationale . strong earnings visibility: ggcl’s...

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