Hike In Domestic Natural Gas Prices A Dampener For City Gas Distributors, Say Analysts

Analysts expect a rise in domestic natural gas prices to benefit upstream companies such as Oil & Natural Gas Corp., Oil India Ltd. and Reliance Industries Ltd., but city gas distributors to be key losers.

The Ministry of Petroleum and Natural Gas on Friday hiked the domestic administered natural gas price for H2 FY23 to $8.57 per million metric British thermal unit from $6.1 an mmBtu over the previous six months period. The deepwater and high-pressure-high-temperature ceiling was hiked to $12.46/mmBtu from 9.92/mmBtu in H1 FY23.

The hike came as a surprise as a few analysts expected a status quo amid high inflationary pressures, windfall taxes on crude oil production and cost challenges faced by CNG firms.

“The APM hike was also sizably below our estimate of $9.3, thus giving rise to doubt about the actual formula being used, though Russian local gas price is unknown,” Emkay Global Financial Services said in a report. “This may be transitory with the Kirit Parikh panel developing a new formula.”

According to Jefferies, the rise in APM gas cost roughly offsets the benefit of higher allocation of domestic APM gas announced in August for CGDs. “Following the hike, Indraprastha Gas will need to raise the compressed natural gas price by around Rs 8 a kg and Mahanagar Gas needs to raise price by around Rs 9 a kg to pass on the impact of the rise in feedstock cost.”

Systematix said CGDs need to increase CNG and PNG prices by Rs 10.2 a kg and Rs 7.2 an scm, respectively, to “remain neutral at the gross profit level”.

Here’s what analysts have to say about an increase in domestic natural gas prices.

Emkay Global Financial Services

• The increase came as a surprise, as it was expected that pending the Kirit Parikh panel’s recommendations, there could have been a status quo amid sustained inflationary pressures, windfall taxes on upstream and CNG players highlighting cost challenges.

• The APM hike was also sizably below our estimate of $9.3 (ceiling was in line), thus giving rise to doubt about the actual formula being used, though Russian local gas price is unknown. This may be transitory, with the Parikh panel developing a new formula.

• The gas price rise is a major positive for ONGC and Oil India, albeit a dampener on CNG economics for Indraprastha Gas Ltd. (amid weaker oil prices). Keeps estimates and target price unchanged, though upstream has significant upside risk.

• Our estimates for ONGC and Oil India are maintained, as we build-in [price estimates] $6.1/mmBtu for FY24 and $5/mmBtu for FY25 and beyond.

• Our estimates cover any downside risks associated with the Parikh panel’s formula. If the $8.57 price upholds till end-FY23, the FY23 EPS would revise upwards by 10% for standalone and 11% for consolidated to Rs 33.6/65.1.

• Based on the current run-rate, H1FY24 prices could cross $11/mmBtu.

Motilal Oswal Securities

• A further hike in domestic gas price is expected in the next revision in April 2023.

• The beneficiaries of the gas price hike include ONGC, Oil India, and to a much lesser extent, RIL.

• The hike has already been factored into our financial projections.

• CNG the most adversely impacted: The CNG segment of city gas distribution companies will be negatively impacted.

• A hike of $1/mmBtu calls for around Rs 4/kg hike in CNG prices (excluding taxes).

• Although the savings potential of CNG against petrol and diesel would still remain high even after the hike, it is difficult to gauge till what extent the companies would be able to pass on the hikes as well as the upcoming cost pressures.

Jefferies

• The government’s decision to raise the domestic APM gas price will negate the benefit of increased APM gas allocation to CNG players since August due to limited room to increase prices given worsening economics.

• GAIL’s LPG profitability will fall sharply with rise in feedstock cost.

• Allocation of HPHT gas from RIL’s KG field by end-CY22 and new pricing formula from Kirit Parikh-led panel could provide some respite.

• Reliance Industries will be marginal beneficiary, GAIL, IGL, and Mahanagar Gas Ltd. will be key losers.

• Following the hike, IGL will need to raise the compressed natural gas price by around Rs 8/kg and Mahanagar Gas needs to raise price by around Rs 9/kg to pass on the impact of the rise in feedstock cost.

• This would reduce CNG’s discount to petrol/diesel from around 45%/30% at present to around 40%/20%, respectively, for IGL.

• Similarly, the discount for Mahanagar Gas would reduce from around 45%/30% at present to around 40%/20%, respectively.

• The rise in APM gas cost roughly offsets the benefit of higher allocation (94% from 85% earlier) announced in August for the CGDs.

• GAIL’s feedstock cost for LPG business increases even as LPG prices are falling further hurting profitability.

• Respite possible from KG basin gas and Kirit Parikh committee’s recommendation: RIL expects to start production of 12 mmscmd by end-CY22. With the wide differential between spot LNG prices (trending at $40-45/mmBtu) and current ceiling price of $12.5/mmBtu for RIL’s gas, any allocation of HPHT gas will lower gas costs for the CGDs. Kirit Parekh Committee could recommend a formula that lowers price of domestic gas aiding CGDs.

• Earnings Revision: RIL’s FY23E Ebitda increases around 1% with price target revised to Rs 3,100 versus Rs 3,080.

• We lower GAIL’s FY23E Ebitda 14% due to lower LPG prices and higher feedstock cost and lower price target to Rs 80.

• In IGL and Mahanagar Gas, the benefit of higher allocation of domestic APM gas is negated by the rise in APM gas cost.

• As a result of these changes, we revise our IGL price target to Rs 455 from Rs 450, and Mahanagar Gas price target to Rs 870 from Rs 900.

Systematix

•  Higher price brings cheers to upstream companies like ONGC, Oil India and RIL, while it is significantly negative for city gas distribution companies like IGL, MGL, Gujarat Gas and other players as well like Adani Total, GAIL Gas, etc.

• Further, it would be a dampener for GAIL as well, given the higher input cost for liquid hydrocarbon (LHC).

•  A 40% price hike to $8.57/mmBtu is slightly short of our calculated price as per the current formula provided. However, If the Kirit Parikh Panel retains this formula, then APM gas price could increase further in April 2023 by 29% to $11.1/mmBtu from the current level.

•  Upstream companies like ONGC, Oil India and RIL are set to benefit from the higher gas price. Prior to the formation of Kirit Parikh panel, we expected more than 50% price hike, which softened once the panel was formed.

• The EPS of ONGC and Oil India are likely to be positively impacted by 21.7% and 28.8%, respectively, on annualised consensus FY23 estimates.

• The impact on RIL’s EPS would be limited to 3.3%, on consensus numbers. Any revision in gas prices post panels recommendation could have a bearing on earnings.

• CGDs need to increase CNG and PNG prices by Rs 10.2/kg and Rs 7.2/scm, respectively, to remain neutral at the gross profit level. However, this could be a tough task for CGDs, as the differential between CNG and petrol/diesel prices is already around 35% on calorific value.

• A price hike could negatively impact volume growth. Though Adani Total Gas has already announced price hike of Rs 3/kg, we expect CGDs to take a hit on margins in near to medium term.

• IGL (not rated) and MGL (not rated) may take a larger hit, where priority sector contributes nearly 81% and 87% of volumes, respectively. Gujarat Gas’ near term margins may contract sharply, as the fall in propane prices has increased the gap between industrial PNG and propane to more than Rs 13/scm.

• APM gas is input for GAIL’s LPG business, and with the 40% hike in APM gas price, the company may see a 4% downward revision in its annual earnings.

• ONGC and OIL could rerate sharply in near term, and CGDs’ valuation multiples may contract on margin and volume growth overhang. Currently, we don’t have any rating on the stocks