GSPL: Buy

Investors with a long-term perspective can consider accumulating the stock of Gujarat State Petronet Limited (GSPL), which operates an extensive gas transmission network in Gujarat and has ambitious expansion plans, both within and outside the State. Expected increase in transmission volumes, widening of geographic footprint, limited downside on transmission tariff from current levels, and a steep fall in the stock price support our recommendation.

The GSPL stock has fallen sharply (down 24 per cent) since last October, primarily due to concerns on transmission volumes, flowing from the supply trouble in one of its major sources — the KG-D6 fields of Reliance Industries. These concerns have been vindicated to some extent, with transmission volumes in the past two quarters remaining either flat or declining marginally. At the current price of Rs 95.6, the stock trades at around 11 times its trailing 12-month earnings, a discount to bigger gas transmission and marketing major GAIL (around 14 times). The stock is also at a discount to its historic valuation levels (around 13 to 15 times).

WIDENING FOOTPRINT

Current concerns on volumes notwithstanding, GSPL, by virtue of its extensive network in Gujarat (India's most developed gas market) and expansion plans, is well-positioned to capitalise on the favourable gas demand dynamics in the country. Given the cost advantage of natural gas over other alternative modes of fuel for end-users, it is likely that gas, if not available in adequate quantity from domestic sources, will be imported in the form of regassified liquefied natural gas (R - LNG).

Imported gas, though costlier than gas produced domestically, still works out cheaper for end-users than other feedstock such as naphtha. Ramp-up in capacity of existing LNG facilities and setting up new ones such as those in Kochi should translate into increased availability of gas in the years ahead. There are also expectations of increased domestic gas availability in the future when the ONGC and GSPC fields in the KG basin commence production, and Reliance Industries resumes ramp-up. This should translate into increased volumes for GSPL.

Meanwhile, GSPL is itself in expansion mode. It is in the process of increasing its network in Gujarat from around 1,900 km currently to around 2,500 km. The GSPL-led consortium (in which the company has 52 per cent stake) has also received authorisation from PNGRB (the energy regulator) for construction of three cross-country gas pipelines. The Mallavaram-Bhilwara, Mehsana-Bhatinda and Bhatinda-Srinagar pipelines entail laying of around 4,000 km of pipeline at a cost of around Rs 12,500 crore.

These pipelines expected to be operational in around three years, and with a capacity of around 125 mmscmd should translate into significant volume growth for GSPL from current levels of around 36 mmscmd. While increased depreciation and interest cost due to these expansion initiatives could pressure margins in the near-term, they are expected to be value-accretive in the long-term. Expansion outside Gujarat will also help de-risk the company's business to some extent.

FINANCIAL STRENGTH

Besides, there have been concerns about PNGRB restrictions on transmission tariff, which had contributed to a decline in rates last fiscal. While GSPL has submitted its request for tariff fixation, it does not expect tariffs to be lower than Rs 0.75 per standard cubic meter (scm) (around Rs 0.80 per scm currently).

GSPL's revenues in the recent March quarter declined marginally (around 1 per cent) over the previous year to Rs 255 crore, mainly due to fall in volumes. Despite this, its profits grew around 40 per cent to Rs 151 crore, thanks mainly to lowering the applicable rate of depreciation from 8.33 per cent to 3.17 per cent over the last two quarters, along with retrospective effect for the same. The company's operating margins (in excess of 90 per cent) and net margins (around 50 per cent) are quite healthy. Return on equity is also robust at close to 25 per cent. Debt-to-equity at around 0.7 provides room for further leverage.

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