Petronet LNG - BUY

Investors with a long-term perspective can buy the stock of Petronet LNG, major importer and re-gasifier of liquefied natural gas (LNG) in India. Thanks to its cost advantage, natural gas has become a favoured fuel in the country with demand outstripping supply. The gap is expected to widen in the coming years.

This, coupled with a sharp fall in domestic gas output has translated into increased substitution by imported gas.

Petronet, thanks to its dominance (more than 70 per cent share currently) in the LNG market and expansion plans, is well-poised to benefit.

Despite the run-up in the stock price over the past few months, there seems room for upside. At the current price of Rs 168, the stock discounts its trailing 12-month earnings by around 11 times, levels lower than which it had traded in the past (13-15 times).

Petronet earns re-gasification charges on gas imported through back-to-back long-term contracts. It also earns marketing margins on spot contracts. The company currently operates a 10 mtpa LNG re-gasification terminal in Dahej, Gujarat and has entered into long-term gas sourcing contracts with RasGas of Qatar for around 7.5 mtpa. This accounts for the bulk of Petronet’s revenues.

It increases re-gasification charge on these contracts by 5 per cent each year. The company is negotiating with gas suppliers, including RasGas, to increase the quantum of long-term supplies.

Petronet has been able to make the most of strong demand for gas. Its volumes have been robust and the terminal in Dahej has been consistently operating above 100 per cent capacity — with healthy spot volumes complementing the long-term contracts.

In the early part of 2012, there were concerns that the high price of spot LNG (around $15-$16 per mmbtu) will crimp Petronet’s volumes.

This, along with worries about regulatory curbs on the company’s marketing margins and lower off-take by some customers due to maintenance-related shutdowns, saw the Petronet stock price tumble.

The regulatory concerns have since abated. Also, the price of spot LNG has softened in recent months, and is currently in the range of $10-$11 per mmbtu. These levels, if they sustain, will bode well for Petronet’s volumes and marketing margins in the near-term.

Expansion on anvil

Also, the expected commencement of operations in the new 5 mtpa Kochi terminal by January 2013 should help in the near-term.

The terminal is almost ready and the completion of Phase I in the next few months will enable Petronet to supply around 0.5-1 mtpa of gas to customers, such as Kochi refinery and fertiliser company FACT Travancore.

By end-2013, with the planned completion of Phase II and new pipelines of GAIL India in South India being commissioned, Petronet expects full capacity utilisation of the Kochi plant. The company has tied up long term gas of 1.4 mtpa with Gorgon, Australia for the Kochi plant. Till these supplies commence, the plant will be run using spot cargoes.

Petronet is also expanding the capacity of the Dahej terminal from 10 mtpa to 15 mtpa.

The second terminal at Dahej, which will increase capacity to 12.5 mtpa, is expected to be completed by end-2013, while the full expansion to 15 mtpa should be over by end-2015.

The company has already entered into long-term agreements with GAIL and GSPC for around half of the expanded capacity. This provides earnings visibility. The new Kochi terminal and the expanded Dahej terminal should translate into healthy volume growth over the next two-three years.

Petronet has also set the ball rolling on setting up a 5 mtpa LNG terminal in Gangavaram on the Andhra Pradesh coast. But this is a long-term project and the benefits may accrue only after five to six years.

Meanwhile, the company has said that it is examining the possibility of floating storage and re-gasification units (FSRU plants) to commence supplies by 2014.

Strong financial position

Petronet’s sales and profit grew by over 70 per cent in FY-12 on the back of healthy volumes. Its profit in the first half of the current fiscal has grown but at a relatively muted 13 per cent to Rs 586 crore.

This could be attributed in part to the company’s terminal operating at full capacity with limited scope to increase volumes until new capacities kick in. Petronet’s financial position is robust with cash balance of Rs 691 crore and debt-to-equity of 0.8 as on September 2012.

This provides sufficient headroom to fund expansion plans. In the near-term, high depreciation and interest cost may crimp margins until volumes start flowing.

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