RESUMING COVERAGE 29 JUN 2018

GAIL
BUY
INDUSTRY OIL & GAS A long term bet
CMP (as on 28 Jun 2018) Rs 319 The Indian gas sector looks attractive based on several  Higher domestic gas and RLNG prices may impact the
possibilities like (1) Inclusion of Natural Gas (NG) under Petrochemicals and Liquified Petroleum Gas
Target Price Rs 360 the GST, (2) ‘Unified tariff’ method for computing gas (LPG)/Liquid Hydrocarbon (LHC) business, but this will
Nifty 10,589 transmission tariffs, (3) Increase in penetration of City be largely manageable in a strong crude oil
Sensex 35,038 Gas Distribution (CGD). environment along with increase in production
KEY STOCK DATA Availability of Input Tax Credit (ITC) under the GST reign volumes.
(unlike Value Added Tax) will likely reduce end user cost  We adopt EV/EBITDA as our valuation methodology,
Bloomberg GAIL IN
of NG by 5-19%. NG will become 12-18% cheaper than arriving at a target price of Rs 360/share. We ascribe
No. of Shares (mn) 2,255
Fuel Oil (FO) vis-à-vis being 6-13% cheaper now. a higher 7.5x EV/EBITDA multiple for the more stable
MCap (Rs bn) / ($ mn) 721/10,477 Gas and LPG transmission businesses and 5.0x
The establishment of Unified Tariff can push NG
6m avg traded value (Rs mn) 1,520 EV/EBITDA multiple to more volatile gas marketing
availability in remote areas at affordable transmission
STOCK PERFORMANCE (%) business. We value the cyclical petrochemicals and
tariffs. This will not only enable higher utilisations (of
52 Week high / low Rs 390/266 LPG/LHC businesses at 6.5x EV/EBITDA. After
new and existing pipelines) but also ensure 18% pre-tax
3M 6M 12M subtracting net debt, we arrive at a core value per
return on GAIL’s investments. This will likely mitigate
share of Rs 272/share. To this, we add Rs 71/share as
Absolute (%) (2.7) (16.7) 19.7 risks to GAIL’s capex visibility.
value of GAIL’s investments in various listed and
 Given GAIL’s dominant position in India’s gas pipeline
Relative (%) (9.0) (20.2) 6.0 unlisted companies. We add Rs 18/share towards the
network and high share of volume in the upcoming
SHAREHOLDING PATTERN (%) company’s CWIP. Reinitiate coverage with BUY.
eastern corridor gas pipeline, its gas transmission
Promoters 53.96 business is likely to be in a sweet spot. Financial Summary (Standalone)
FIs & Local MFs 16.24  GAIL has managed to sell 90/60/45% of the total 5.8 Rs bn FY17 FY18P FY19E FY20E FY21E
FPIs 17.41 mmtpa of US LNG volumes for FY19/20/21 through Net Sales 481.24 536.62 650.33 714.02 807.46
Public & Others 12.39 destination swaps. This makes it less susceptible to Growth (%) (6.7) 11.5 21.2 9.8 13.1
Source : BSE US LNG contracts. The difference between Henry Hub EBIDTA 63.65 76.34 86.70 93.63 102.52
(HH) and National Balancing Point (NBP) gas prices
EBITDA Growth (%) 59.3 19.9 13.6 8.0 9.5
has widened to USD 4.5/mmbtu in the last six months
EBIDTA Margin (%) 13.23 14.23 13.33 13.11 12.70
from USD 2.5/mmbtu over CY05-17 enabling GAIL to
sing more destination swap deals and place more APAT 40.31 46.00 52.30 55.53 60.84
volumes in FY20 and FY21. EPS (Rs.) 17.9 20.4 23.2 24.6 27.0
 Based on the current amount of uncontracted P/E (x) 19.2 16.8 14.8 13.9 12.7
Nilesh Ghuge
volumes, the maximum adverse impact on EV/EBITDA 10.9 8.6 7.8 7.5 7.0
nilesh.ghuge@hdfcsec.com
+91-22-6171-7342 FY19/20/21 PAT would be 0.6/3.4/7%. Source: Company, HDFC sec Inst Research
HDFC securities Institutional Research is also available on Bloomberg HSLB <GO>& Thomson Reuters
 GAIL: RESUMING COVERAGE

Natural Gas Under GST

 Currently, consumers of gas are not allowed to get compared to 6-13% now with the inclusion of natural
Input Tax Credit (ITC) on the VAT paid. This has gas under GST.
resulted in increase in cost.  Economic benefits of using clean fuel will drive the
 Gas consumers will get ITC with the inclusion of natural demand for natural gas from industrial and commercial
gas under GST. This would result in 5-19% reduction in customers.
cost.  GAIL is not allowed to get ITC on the GST it paid.
 Natural gas will become more competitive against fuel Inclusion of gas under GST will result in reduction in
oil. Gas would be 12-18% cheaper than fuel oil cost by Rs 2500mn to the company.
Assumptions
Particulars Unit
Exchange rate Rs/USD 68.0
Gas consumers will get ITC
Price of LNG USD/mmbtu 10.0
with the inclusion of natural
Customs duty on LNG @2.5% USD/mmbtu 0.3
gas under GST. This would
result in 5-19% reduction in Regasification charges USD/mmbtu 0.7
cost to end consumer. Landed price of LNG USD/mmbtu 10.9
Landed price of LNG Rs/mmbtu 744.6
Road transportation cost Rs/tonne/km 6.7
Conversion tonne to mmbtu for Fuel Oil 41
Source: Company, HDFC sec Inst Research
Inclusion Of Natural Gas Under GST: Benefit To Existing Gas Users
Gujarat Maharashtra Uttar Pradesh
Particulars Gas under Gas under Gas under
Unit VAT regime VAT regime VAT regime
GST GST GST
VAT % 6.0 - 13.5 - 26.0 -
VAT Rs/mmbtu 44.7 - 100.5 - 193.6 -
GST % - 5.0 - 5.0 - 5.0
GST Rs/mmbtu - 37.2 - 37.2 - 37.2
Transmission cost Rs/mmbtu 35.5 35.5 35.5 35.5 98.5 98.5
GST on transmission
Rs/mmbtu
service at 18% 6.4 6.4 6.4 6.4 17.7 17.7
Cost to customer Rs/mmbtu 831.1 823.7 887.0 823.7 1,054.4 898.0
GST credit to consumer Rs/mmbtu 6.4 43.6 6.4 43.6 17.7 55.0
Net cost of NG to customer Rs/mmbtu 824.7 780.1 880.6 780.1 1,036.6 843.1
Reduction in cost Rs/mmbtu 44.7 100.5 193.6
Reduction in cost % 5.4 11.4 18.7
Source: Company, HDFC sec Inst Research
Page | 2
 GAIL: RESUMING COVERAGE

Inclusion Of Natural Gas Under GST: Benefit Over Fuel Oil

Particulars Unit Gujarat Maharashtra Uttar Pradesh
Selling price of Fuel Oil* Rs/tonne 37,100 36,620 37,330
Natural gas will become more GST on Fuel Oil % 18 18 18
competitive against fuel oil. GST on Fuel Oil Rs/tonne 6,678 6,592 6,719
Gas would be 12-18% cheaper Transportation cost for 300km Rs/tonne 2,000 2,000 2,000
GST on Transportation service % 18 18 18
than fuel oil compared to 6-
GST on Transportation service Rs/tonne 360 360 360
13% now with the inclusion of
Cost of Fuel Oil to customer Rs/tonne 46,138 45,572 46,409
natural gas under GST.
GST credit to consumer Rs/tonne 7,038 6,952 7,079
Cost of Fuel Oil net of GST Rs/tonne 39,100 38,620 39,330
Benefit will be more to the
Cost of Fuel Oil net of GST Rs/mmbtu 953.7 942.0 959.3
customers in far-flung area as
Under VAT regime
NG transmission cost is higher
Cost of Gas Rs/mmbtu 824.7 880.6 1,036.6
for them.
Gain/(Loss) on use of NG over Fuel Oil Rs/mmbtu 128.9 61.4 (77.4)
Economic benefit of using NG % 13.5 6.5 (8.1)
Under GST regime
Cost of Gas Rs/mmbtu 780.1 780.1 843.1
Gain/(Loss) on use of NG over Fuel Oil Rs/mmbtu 173.6 161.9 116.2
Economic benefit of using NG % 18.2 17.2 12.1
Source: Industry, HDFC sec Inst Research, *BPCL fuel oil prices

Page | 3
 GAIL: RESUMING COVERAGE

Unified Tariff Will Be The Next Trigger

GAIL earns a blended tariff of
Rs 34.4/mmbtu (Rs  The proposal by Petroleum and Natural Gas Regulatory  Under the existing tariff plans a customer in Nangal,
1,295/’000scm) in FY18. Pre Board (PNGRB) to implement ‘Unified Method’ for Punjab has to pay Rs 98.03/mmbtu for transmitting gas
tax return on capital computing gas transmission tariffs could boost the from Dabhol, Maharashtra. If unified tariff apply then
employed (RoCE) by earnings of GAIL. tariff reduce by Rs 41/mmbtu, 42% reduction in the
transmission segment was cost of gas.
6.7-13.4% over FY14-18.  Under the Unified Method for tariff calculation, the
overall capital expenditure and operating expenditure NG Transmission Segment
for the pipeline network will be pool and distributed RoCE Trans. vol (mmscmd)(RHS)
As per our estimates 20% over the pooled volumes. 17.0 % mmscmd 145.0
increase in transmission tariff 15.0 14.9
to Rs 44/mmbtu will generate
 This will enables reach of gas in far-flung areas at an 15.0 13.8 135.0
13.4 13.6
affordable transmission tariff and thus increase
18% pre-tax return in FY20. 13.0 125.0
utilisation of existing and new pipelines. 11.5
11.0 115.0
 Based on the assumptions which are in line with the 9.4 9.2
recent approvals of final tariffs by PNGRB, the GAIL has 9.0 Much below 105.0
calculated the unified tariff of Rs 57/mmbtu (Rs 6.7 the CCEA
7.0 guidelines of 95.0
We have not factored in 2,149/’000scm) for its major pipelines (HVJ, DVPL, 18%
unified tariffs in our VAPPL, DBNPL, CJPL, JHBDPL, DUPL, DPPL, DBPL). 5.0 85.0

FY14

FY15

FY16

FY17

FY18

FY19E

FY20E

FY21E

FY22E
assumptions. However, we
Tariff Charges Under Existing And Proposed Plan For
have assumed CAGR of 3.3%
Transmitting Gas From Dabhol To Nangal Source: Company, HDFC sec Inst Research
in transmission tariff over Distance Tariff Tariff
FY19-22E. Particulars Zone  GAIL earns a blended tariff of Rs 34.4/mmbtu (Rs
(kms) (Rs/mmbtu) (Rs/tscm)
1,295/’000scm) in FY18.
Under Existing
Tariff Structure
 Pre tax return on capital employed (RoCE) by
transmission segment was 6.7-13.4% over FY14-18. It is
Dabhol- Hazira 550 II 24.65 929
below the Cabinet Committee on Economic Affairs
Hazira- Dadri 1,200 IV 59.32 2,236
(CCEA) guidelines of to ensure 18% pre-tax return on
Dadri- Nangal 380 II 14.06 530
the investments.
Total 2,130 98.03 3,696
Under Unified
 As per our estimates 20% increase in transmission tariff
57.00 to Rs 44/mmbtu will generate 18% pre-tax return in
Tariff Structure
Benefit to FY20.
customer 41.03  We have not factored in unified tariffs in our
(Rs/mmbtu) assumptions. We have assumed moderate increase of
Benefit to 3% every year in transmission tariff over FY19-21E. 20%
41.9
customer (%) increase in transmission tariff will increase FY20 EPS by
Source: PNGRB, HDFC sec Inst Research 14.4% to Rs 27.8/share.

Page | 4
 GAIL: RESUMING COVERAGE

Focus Is On Transmission Business

Carrier first, Commodity later Length of Pipelines
Length of Pipeline(kms)
 The company has shifted its focus towards pipeline kms
infrastructure development. 18,000 CAGR of 9.5 over
16,000 CAGR of 0.85 over FY18-FY22E
GAIL will add ~4,900kms to its
 It will add ~4,900kms (44% of its existing network) of 14,000
FY13-FY18
pipeline over FY19-22.
existing pipeline network of 12,000
11,167kms over FY19-22 with Build Up Of GAIL’s New Pipelines 10,000
8,000
a CAGR of 9.5% compared to FY18 JHBDPL KKMBPL VAPPL Barauni Guwahati PL
6,000
0.85% over FY13-18. kms
17,000 16,062 4,000
16,000 15,341 2,000
15,000 14,339 -
14,000

FY13

FY14

FY15

FY16

FY17

FY18

FY19E

FY20E

FY21E

FY22E
13,099
13,000
12,000 11,167
Source: Company, HDFC sec Inst Research
11,000
10,000  Focus on gas infrastructure development has resulted
9,000 in polarisation of GAIL’s capex towards the
The company will spend Rs 8,000 development of pipelines.
118.26 bn over FY19-20 of
FY18

FY19E

FY20E

FY21E

FY22E
Capex Skewed Towards Pipeline Development
which Rs 92.26 bn (~78%) will Pipeline Petchem
be spend on pipeline capex. Source: Company, HDFC sec Inst Research
E&P CGD
Others Share of pipeline (RHS)
Rs bn %
 Over last six years (FY13-18), pipeline network grew 80 100.0
83.8
from 10,702kms to 11,167kms (CAGR of 0.85%).
70.3 80.0
However, in next four (FY19-22) years pipeline 60
56.7 73.9
infrastructure will increase to 16,060kms (CAGR of 52.5 60.0
9.5%). 40
40.0
21.7
20
20.0

0 -

FY15

FY16

FY17

FY18

FY19

FY20
Source: Company, HDFC sec Inst Research

Page | 5
 GAIL: RESUMING COVERAGE

Petchem And LPG/LHC Business EBITDA*/Vol vs Increasing Share Of Trans. And Mkt. Business EBITDA
Crude Oil Prices
EBITDA/vol (Rs/kg) Oil prices (RHS)(USD/bbl) - RHS Trans. And Mkt. (Rs bn)
Petchem and LPG/LHC Petchem and LPG/LHC (Rs bn)
50.00 120.0
business segment earnings 150.0
Trans. And Mkt. Share (RHS)(%)
100.0%
vary with crude oil prices. This 40.00 100.0

gives volatility to the 30.00 80.0 80.0%

company’s earnings. Earnings 100.0

20.00 60.0 60.0%
from transmission business
10.00 40.0 40.0%
are stable. 50.0
- 20.0
20.0%
-10.00 -
- 0.0%

1QFY14

3QFY14

1QFY15

3QFY15

1QFY16

3QFY16

1QFY17

3QFY17

1QFY18

3QFY18
Focus on non-commodity

FY15

FY16

FY17

FY18

FY19E

FY20E

FY21E

segments will give earning
stability and visibility
EBITDA from transmission and
trading business is expected
to increase steadily from Rs
52.10bn in FY18 to Rs 73.60bn
in FY22. This will arrest
volatility in GAIL’s earnings
FY22E
Source: Company, HDFC sec Inst Research; *Including subsidy Source: Company, HDFC sec Inst Research
 Petchem and LPG/LHC business segment earnings vary
with crude oil prices. This gives volatility to the  Petchem and LPG/LHC EBITDA vary from Rs 3.7bn to Rs
company’s earnings. 32 bn in last four years. EBITDA from transmission and
marketing segments whose earnings are independent
 Unlike petchem and LPG/LHC business earnings from of crude oil prices increases from Rs 31.20bn in FY15 to
transmission business are stable and largely depend on
Rs 52.10bn in FY18 with increase in gas volumes from
transmission volumes. 92mmscmd in FY15 to 105mmscmd in FY18.
NG Trans. And Mkt Segment EBITDA vs Trans. Vol  Since last two years, GAIL’s focus has shifted away
NG Trans. EBITDA (Rs bn) Trans. vol (RHS) (mmscmd) - RHS
from Petchem, E&P and other segments towards
11.0 115.0 transmission segment. Focus on non-commodity
10.0 110.0 segments will give earning stability and visibility.
9.0 105.0  EBITDA from transmission and trading business is likely
8.0 100.0 to increase steadily from Rs 52.10bn in FY18 to Rs
7.0 95.0 73.60bn in FY22. This will arrest volatility in GAIL’s
6.0 90.0 earnings
5.0 85.0
4.0 80.0
1QFY14

3QFY14

1QFY15

3QFY15

1QFY16

3QFY16

1QFY17

3QFY17

1QFY18

3QFY18

Source: Company, HDFC sec Inst Research

Page | 6
 GAIL: RESUMING COVERAGE

Policies To Boost Gas Consumption

Government has not only set  Globally, the share of natural gas in the energy mix is  Gail’s is connecting eastern and southern India through
the target to increase NG in 23.4%, as compared to 6.2% for India in CY17. Ministry Vijaipur–Auraiya–Phulpur pipeline (VAPPL), Jagdishpur-
the energy mix but is also Of Petroleum And Natural Gas (MoPNG) has set a Haldia-Bokaro-Dhamra pipeline (JHBDPL) and Kochi-
empowering its ambition with target of increasing the share of gas in the energy mix Koottanad-Mangalore pipeline (KKMPL).
structural reforms. to 20% by 2025.
 Development of these pipeline projects will not only
Fuel Wise Primary Energy Consumption of India and cater to existing demand, but also spur strong multi-
These majors ranging from World in CY17 year demand from industries as well as city gas
Natural Gas Oil Coal segment.
connecting in Eastern and
Nuclear energy Hydro electric Renew- ables
Southern part of India to  Revamp of Fertiliser plants: Government has planned
domestic and imported gas to revamp five fertiliser plants, namely Ramagundam,
sources, viability gap funding Gorakhpur, Sindri, Barauni and Talcher along the
for pipeline network, revamp 6.2% JHBDPL.
23.4%
of five fertiliser plants, Five Fertiliser Plants To Be Revamp By Dec-2020
increasing penetration of CGD World Gas
India Expected Urea capacity
network Plant
production (mmtpa)
requirement
(mmscmd)
Ramagundam Nov, 2018 1.27 2.16
Revamp of five fertiliser Gorakhpur Aug, 2020 1.27 2.16
plants will create demand for Sindri Sep, 2020 1.27 2.16
10.8mmscmd of gas. Barauni Oct, 2020 1.27 2.16
Source: British Petroleum, HDFC sec Inst Research
 Government has not only set the target but is also Talcher Dec, 2020 1.27 2.16
empowering its ambition with structural reforms to Total 6.35 10.8
Government has planned to help achieve their goals.
double the PNG connections Source: MoPNG, Company, HDFC sec Inst Research
in less than three years, from  These majors ranging from connecting in Eastern and  To ensure healthy utilisation of the JHBDPL PNGRB has
4.3mn in May-18 to 9.7m in Southern part of India to domestic and imported gas authorized GAIL to lay CGD network in Varanasi, Patna,
sources, viability gap funding for pipeline network, Ranchi, Bhubaneshwar, Jamshedpur and Cuttack.
Mar-21.
revamp of five fertiliser plants, increasing penetration
of CGD network.
 We expect demand from CGD sector to continue as
government has planned to targets PNG connections
 Currently, the transmission infrastructure dominates for households to double in less than three years, from
the western and northern parts of the country, but the 4.3mn in May-18 to 9.7m in Mar-21.
eastern and southern parts are significantly
underserved.

Page | 7
 GAIL: RESUMING COVERAGE

Demand From Non-price Sensitive Sectors Has Gone Up

Sector wise consumption (mmscmd) FY15 FY16 FY17 FY18 CAGR
Fertiliser 41.9 44.1 42.3 39.8 (1.7)
Overall gas demand led by Power 28.0 31.3 31.8 33.5 6.1
non-price sensitive sectors like CGD 16.3 15.2 20.2 23.2 12.6
CGD, refineries, Others* 31.8 39.4 44.8 47.6 14.4
petrochemicals, LPG and Total 118.0 130.1 139.0 144.1 6.9
sponge iron over last four *(Refineries, Petrochemicals, LPG, and Sponge Iron)
years .
Consumption Shift Towards Non Price Sensitive  Over last three years (FY15-18) natural gas
Sectors consumption has increased by 6.9% CAGR led by
Fertiliser Power CGD Others increase in demand from non-price sensitive setors like
CGD (12.6% CAGR), petrochemicals, refineries, LPG and
sponge Iron (14.4% CAGR).
27.6%
26.9%
33.0% 35.5%
FY15

13.8%
FY18
23.8% 23.2%
16.1%

Source: MoPNG, HDFC sec Inst Research; Others include refineries,

petrochemicals, LPG, sponge Iron

Page | 8
 GAIL: RESUMING COVERAGE

Gas Pipeline Network

 India currently has 16,667kms of gas pipeline

predominately in Western and Northern India.
 Government has announced a national gas grid network
project, in which ~ 13,000kms of gas pipelines will connect
Eastern and Southern India to domestic gas sources, and
to new LNG terminals.

Page | 9
 GAIL: RESUMING COVERAGE

Debundling Of Marketing Business Is Not A Concern

The company has realised
reasonable blended margins
of Rs 270-550/tscm on gas
sales over FY14-18
 Government is considering a proposal to separate Blended Marketing Margin Trend (Rs/tscm)
GAIL’s gas marketing business from the transmission Marketing Margin Average(FY14-FY18)
business given apparent conflict of interest between
unregulated marketing operations and regulated 600.0
(Rs/tscm)
pipeline infrastructure. 500.0 458.6
 The marketing margins on domestic gas have been 400.0
fixed at Rs 200/tscm by the government and that on
300.0
long-term LNG volumes from RasGas and PMT is
contracted at about Rs 318/tscm with the off-takers. 200.0

Source Wise Marketing Margin Charges (Rs/tscm) 100.0

Gas Source Marketing Margin Charges
GAIL has certainly realized -

FY14

FY15

FY16

FY17

FY18

FY19E

FY20E

FY21E

FY22E
higher margins on short- ONGC 200.0
term/spot LNG volumes, most OIL 200.0
probably leveraging its Source: Company, HDFC sec Inst Research
Ravva 200.0  We see limited impact on GAIL’s gas marketing
dominant position
historically; however, we PMT 318.4 segment profitability owing to separation of these
businesses.
never expected it to sustain RasGas contract 318.4
and have always modeled it Source: Company, HDFC sec Inst Research  GAIL has certainly realised higher margins on short-
to moderate in future years. term/spot LNG volumes, presumably leveraging its
 The company has realised reasonable blended margins dominant position. However, we never expected it to
of Rs 270-550/tscm on gas sales over FY14-18. sustain and expect it to moderate in coming years.

Page | 10
 GAIL: RESUMING COVERAGE

Less Susceptible To US LNG Contract In Near Term

Particulars Unit FY19 FY20 FY21
GAIL has managed to sell
90/60/45% of the total US Exchange rate Rs/USD 68 68 68
LNG volumes of 5.8mmtpa for Henry Hub (HH) price* USD/mmbtu 2.98 3.13 3.29
FY19/20/21 through Price charge (115% of HH) USD/mmbtu 3.43 3.60 3.78
destination swap. Liquefaction charges and US transportation USD/mmbtu 3.00 3.00 3.00
LNG cost USD/mmbtu 6.43 6.60 6.78
The difference between Henry Transportation cost USD/mmbtu 3.80 3.80 3.80
Hub (HH) and National Landed cost of US LNG USD/mmbtu 10.23 10.40 10.58
Balancing Point (NBP) has SPOT LNG prices USD/mmbtu 8.80 8.80 8.80
widened to USD 4.5/mmbtu Transportation cost USD/mmbtu 1.20 1.20 1.20
from average of USD Landed cost of SPOT LNG USD/mmbtu 10.00 10.00 10.00
2.5/mmbtu over CY05-17. This Difference USD/mmbtu 0.23 0.40 0.58
will give the comfort to GAIL Total Contracted Volumes mmtpa 5.80 5.80 5.80
to sign more destination swap Volume sold or swapped as a % of total volume (end May-18) % 90 65 45
deals and place more volumes Volume sold or swapped mmtpa 5.22 3.77 2.61
in FY20 and FY21. Volumes to be brought to India mmtpa 0.58 2.03 3.19
Volumes to be brought to India mmbtu 29.6 103.5 162.6
PBT losses mn USD 6.7 41.2 94.0
Based on the current amount PBT losses Rs mn 450 2,803 6,395
of uncontracted volumes, the PAT losses Rs mn 301 1,878 4,285
maximum adverse impact on Estimated PAT Rs mn 52,303 55,527 61,266
FY19/20/21 PAT would be Adverse impact on PAT % 0.6 3.4 7.0
0.6/3.4/7%. Source: Company, HDFC sec Inst Research,* 5% YoY increase in HH prices

 Under 20 years long-term contract GAIL will receive
5.8mmtpa of LNG from Cheniere’s Sabine pass terminal
(3.5mmtpa) and from Dominion’s Cove point terminal
(2.3mmtpa).
 Gas price is 115% to Henry Hub(HH) price. In addition
to this GAIL has to pay USD 3/mmbtu towards
liquefaction and transportation (local US) charges.
 GAIL has received the first US LNG cargo in Apr-18 at
Dabhol LNG terminal.
 GAIL has managed to sell 90% of the US LNG volumes
for FY19 through destination swap. For FY20 and FY21
company able to sell 60% and 45% of the US LNG
volumes through destination swap.
 Based on the current amount of uncontracted
volumes, the adverse impact on PAT would be 0.6% in
FY19, 3.4% in FY20 and 7.0% in FY21. However, we are
confident that GAIL will able to place more volumes for
FY20 and FY21.

Page | 11
 GAIL: RESUMING COVERAGE

 In last six months, the difference between HH and Difference Between NBP And HH Gas Prices
National Balancing Point (NBP) has widened to USD (USD/mmbtu)
4.5/mmbtu from average of USD 2.5/mmbtu over 8.0
CY05-17. This will give the comfort to the company to
7.0
sign more destination swap deals and place more
6.0
volumes in FY20 and FY21.
5.0
4.0
3.0
2.0
1.0
0.0
-1.0

Aug-16

Aug-17
Oct-16

Oct-17
Apr-16

Apr-17

Apr-18
Feb-16

Feb-17

Feb-18
Jun-16

Dec-16

Jun-17

Dec-17

Jun-18
Source: Bloomberg, HDFC sec Inst Research

Page | 12
 GAIL: RESUMING COVERAGE

LPG/LHC and Petchem Business: Geared To Benefit From Higher Oil Prices
 GAIL’s Liquefied Petroleum Gas (LPG) and Liquid LPG/LHC Realisations
Hydrocarbon (LHC) business have been impacted by Gross realisation including subsidy
falling international crude oil prices even as the International LPG prices

Higher domestic gas and company was exempted from the subsidy. 1,200 (USD/mt)

RLNG prices may affect the  LPG/LHC’s EBITDA came off to Rs 7.98bn for FY16 1,000
Petrochemicals and LPG/ LHC against FY14 peak of Rs 49.12bn (including subsidy of 800
business, but this will be Rs 19bn).
600
largely manageable in a LPG/LHC EBITDA And Subsidy Sharing 400
strong crude oil environment LPG/LHC EBITDA Subsidy
along with increase in 16 Rs bn 200
production volumes. 14 -

1QFY14
3QFY14
1QFY15
3QFY15
1QFY16
3QFY16
1QFY17
3QFY17
1QFY18
3QFY18
1QFY19
3QFY19
1QFY20
3QFY20
1QFY21
3QFY21
1QFY22
3QFY22
12
10
8
Source: Bloomberg, Company, HDFC sec Inst Research
6
4
2
0
Sharp Fall In Petchem RoCE in FY15
1QFY14
3QFY14
1QFY15
3QFY15
1QFY16
3QFY16
1QFY17
3QFY17
1QFY18
3QFY18
1QFY19
3QFY19
1QFY20
3QFY20
1QFY21
3QFY21
1QFY22
3QFY22
120 (%)
96.8 98.2
100 89.7
Source: Company, HDFC sec Inst Research
69.3
 Adjusting for subsidy payments, the LPG realization for 80
the company was in line with international LPG prices. 60

 We do not expect any subsidy burden on GAIL if crude 40

oil prices remain under USD80/bbl. Thus, GAIL would
20 4.8 2.9 3.6 4.2 4.7 4.6
realize LPG prices in line with international prices. 1.7
0 (8.5)
 We expect LPG/LHC volumes to increase marginally
from 1.28mmt in FY18 to 1.30mmt in FY22. However, -20

FY11
FY12
FY13
FY14
FY15
FY16
FY17
FY18
FY19
FY20
FY21
FY22
EBITDA increase from Rs 23.72bn in FY18 to Rs 28.86bn
in FY22 (CAGR of 5%) owing to increase in realization
from USD 526/mt in FY18 to USD 621/mt (CAGR of 5%). Source: Company, HDFC sec Inst Research

Page | 13
 GAIL: RESUMING COVERAGE

GAIL’s petchem prospects are
looking up with the increase
in utilisation from average
utilisation of 75% -production
of 666ktpa in FY18 to 100% in
FY21-production of 890ktpa.
 GAIL’s petrochemicals business was a highly profitable
business in a regulated gas price (USD 4.2/mmbtu)
regime till FY14. With end product prices deregulated,
availability of regulated cheap (USD 4.2/mmbtu)
domestic gas ensured healthy profits for the petchem
business -ROCE of the business were above 70% over
FY11-14.
 Things began to change post FY14 when company was
forced to use high price imported LNG from Rasgas due
to reducing domestic supplies. Moreover, falling crude
oil prices led to drop in polyethylene prices.
 Sharp correction in Polyethylene(PE) prices coupled
with use of high price LNG, impacted profits for GAIL in
FY15-16. The company reported EBIT loss of Rs 8bn in
FY16.
Polyethylene Price Trend (USD/mt)
1,600
1,479
1,500
1,400
1,424
 The company commissioned PATA-II, capacity of
(440ktpa) in FY16. Stabilisation issues with PATA-II
resulted in lower production at PATA-I as well. PE
production for FY16 was at 341ktpa compared to
447ktpa in FY15.
 Ramp in production (CAGR 40% over FY16-18) post
stabilisation of both the units at PATA and reduction in
operating cost (CAGR 9% over FY16-18) has resulted in
increase in EBITDA by 35% CAGR from Rs 33 bn in FY16
to Rs 58.55bn in FY18 despite of increase in gas cost.
 GAIL’s petchem prospects are looking up with the
increase in utilisation from average utilisation of 75% -
production of 666ktpa in FY18 to 100% in FY21-
production of 890ktpa. We expect realization to
increase 2% CAGR over FY18-22 to Rs 95/kg. Thus,
revenues are likely to increase by 9.6% CAGR.
 Raw material prices (i.e. Rasgas) are expected to
increase which is linked crude oil prices by 14.4% CAGR
over FY18-22. EBITDA is likely to increase by 9.6% CAGR
to Rs 9.95bn in FY22.

1,300 1,357
1,314
1,200 1,253 1,174
1,186
1,100 1,144

1,000
FY11

FY12

FY13

FY14

FY15

FY16

FY17

FY18

Source: Bloomberg, Company, HDFC sec Inst Research

Page | 14
 GAIL: RESUMING COVERAGE

Sectoral Performance
FY15 FY16 FY17 FY18 FY19E FY20E FY21E
NG transmission
Volumes (mmscmd) 92 92 100 105 108 115 128
% Growth (4.3) 0.4 8.6 4.8 2.8 6.4 11.6
The company will enjoy Tariff (Rs/000 scm) 995 1,187 1,263 1,294 1,338 1,391 1,443
operating leverage with % Growth (15.0) 19.3 6.4 2.5 3.4 4.0 3.7
increase in pipeline Revenue (Rs bn) 33.49 39.92 46.32 49.74 52.82 58.57 67.59
utilisation. % Growth (18.4) 19.2 16.0 7.4 6.2 10.9 15.4
We have assumed only 3.9% EBITDA (Rs bn) 21.40 26.22 31.44 36.33 40.67 45.62 53.18
CAGR growth in NG % Growth (22.9) 22.5 19.9 15.6 12.0 12.2 16.6
transmission tariff over FY19- LPG transmission
Volumes (000 MT) 3,094 2,819 3,363 3,721 3,740 3,758 3,777
21E.
% Growth (1.7) (8.9) 19.3 10.6 0.5 0.5 0.5
Tariff (Rs/kg) 1.42 1.73 1.53 1.52 1.57 1.60 1.64
% Growth 7.2 21.2 (11.4) (0.8) 3.7 2.0 2.0
Revenue (Rs bn) 4.41 4.86 5.15 5.65 5.88 6.03 6.18
% Growth 5.4 10.3 5.9 9.8 4.2 2.5 2.5
GAIL has certainly realized EBITDA (Rs bn) 2.93 3.14 3.09 3.26 3.49 3.63 3.77
higher margins on short- % Growth 10.6 7.2 (1.6) 5.5 7.2 3.9 3.8
term/spot LNG volumes, most NG marketing
probably leveraging its Volumes (mmscmd) 72 74 81 85 87 94 106
% Growth (8.8) 2.1 9.3 5.5 2.7 7.7 13.0
dominant position
Trading margin (Rs/000 scm) 271 543 519 407 380 372 364
historically; however, we % Growth (50.8) 100.0 (4.3) (21.6) (6.8) (2.1) (2.2)
never expected it to sustain Revenue (Rs bn) 491.74 436.90 373.82 410.96 516.03 568.96 656.85
and have always modeled it % Growth 0.5 (11.2) (14.4) 9.9 25.6 10.3 15.4
to moderate in future years. EBITDA (Rs bn) 6.85 14.67 15.20 12.55 12.10 12.79 14.10
% Growth (57.1) 114.2 3.6 (17.4) (3.5) 5.7 10.2
Petchem
Petchem plants utilisation is Sales volumes (000 tonnes) 441 334 578 673 757 846 890
Utilisation (%) 50% 38% 67% 75% 85% 95% 100%
expected to increase from
Realisation (Rs/kg) 108.2 98.9 98.4 88.0 94.9 94.9 94.9
75% in FY18 to 100% in FY21.
% Growth 37.8 (8.6) (0.5) (10.6) 7.8 - -
Revenue (Rs bn) 47.20 32.10 56.64 58.55 71.80 80.24 84.47
% Growth 34.1 (32.0) 76.4 3.4 22.6 11.8 5.3
EBITDA (Rs bn) 2.22 (4.28) 8.92 6.89 8.42 9.22 9.82
% Growth (85.6) (292.8) (308.4) (22.8) 22.1 9.6 6.4

Page | 15
 GAIL: RESUMING COVERAGE

Significant jump in LPG/LHC FY15 FY16 FY17 FY18 FY19E FY20E FY21E
LPG & LHC
EBITDA is likely in FY19 owing
Sales volumes (000 tonnes) 1,279 1,087 1,095 1,278 1,284 1,295 1,301
to increase in crude oil prices.
Realisation (Rs/kg) 39.5 30.3 29.1 33.9 41.0 42.2 42.2
% Growth (6.7) (23.2) (3.9) 16.4 21.0 2.9 -
Realisation (USD/MT) 647.0 464.2 434.2 526.3 603.2 620.6 620.6
% Growth (7.0) (28.3) (6.5) 21.2 14.6 2.9 -
Revenue (Rs bn) 50.53 32.99 31.92 43.30 52.68 54.64 54.91
% Growth (7.5) (34.7) (3.2) 35.6 21.7 3.7 0.5
EBITDA (Rs bn) 19.76 7.98 12.91 23.72 28.68 29.44 29.16
% Growth 77.7 (59.6) 61.8 83.7 20.9 2.7 (0.9)
Source: Bloomberg, HDFC sec Inst Research

Assumptions
FY15 FY16 FY17 FY18 FY19E FY20E FY21E
No of days 365 366 365 365 365 366 365
Exchange rate (Rs/USD) 61 65 67 64 68 68 68
Regasification charges at Dahej (Rs/mmbtu) 39 41 43 45 48 50 52
Gas - Transmission (mmscmd) 92 92 100 105 108 115 128
Gas - Trading (mmscmd) 72 74 81 85 87 94 106
Third Party Volumes (mmscmd) 20 19 20 20 21 21 22
LPG Transmission (MT) 3,094,000 2,819,000 3,363,000 3,721,000 3,739,605 3,758,303 3,777,095
Petchem Sales (MT) 441,000 334,000 578,000 673,000 756,500 845,500 890,000
LPG Sales (MT) 1,040,000 856,000 858,000 991,000 995,955 1,003,923 1,008,942
Other Liquid HC (MT) 239,000 231,000 237,000 287,000 288,435 290,742 292,196
LPG + Liquid HC (MT) - R 1,279,000 1,087,000 1,095,000 1,278,000 1,284,390 1,294,665 1,301,138
Petchem Production (MT) 447,000 341,000 600,000 666,000 756,500 845,500 890,000
inventory change 6,000 7,000 22,000 (7,000) - - -
Crude oil price (USD/bbl) 86 48 50 57 70 70 70
Source: Company, HDFC sec Inst Research

Page | 16
 GAIL: RESUMING COVERAGE

SOTP Valuation (Based on Jun-20E)

Particulars (Rs bn) Multiple EV(Rs bn) Value/sh Basis
Gas Transmission 47.51 7.50 356.31 158 x Jun-20EV/ EBITDA
LPG Transmission 3.66 7.50 27.48 12 x Jun-20EV/ EBITDA
Gas Marketing 13.12 5.00 65.60 29 x Jun-20EV/ EBITDA
Petrochemicals 9.37 6.50 60.92 27 x Jun-20EV/ EBITDA
LPG & Other Hydrocarbons 29.37 6.50 190.92 85 x Jun-20EV/ EBITDA
Standalone wt Avg. 7.32
Less : Net Debt (87.91) (87.91) (39) As on Jun-19
Standalone Value 272
Investments
ONGC 50.58 0.70 35.40 16 30% disc. to CMP
Petronet LNG 39.94 0.70 27.96 12 30% disc. to CMP
IGL 40.79 0.70 28.55 13 30% disc. to CMP
MGL 26.61 0.70 18.63 8 30% disc. to CMP
Gujarat Industries Power Co.Ltd 0.05 0.70 0.04 0 30% disc. to CMP
China Gas Holding Company 41.81 0.70 29.27 13 30% disc. to CMP
Other investments 38.49 0.50 19.25 9 50% disc. to BV
Value of Investments 238.28 159.09 71
Value of CWIP 80.67 0.50 40.34 18 50% disc. to BV
Value per share 360
Source: Bloomberg, HDFC sec Inst Research

 We adopt EV/EBITDA as our valuation methodology,
yielding a target price of Rs 360/share.
 We ascribe a higher 7.5x EV/EBITDA multiple for the
more stable gas transmission and LPG transmission
businesses and 5.0x EV/EBITDA multiple to more
volatile gas marketing business. We value the cyclical
petrochemicals and LPG/LHC businesses at 6.5x
EV/EBITDA. After subtracting net debt, we arrive at a
core value per share of Rs 272/share. To this, we add
Rs 71/share as value of GAIL’s investments in various
listed and unlisted companies. We add Rs 18/share as a
value towards the company’s CWIP.

Page | 17
 GAIL: RESUMING COVERAGE

Income Statement Balance Sheet

(Rs bn) FY17 FY18 FY19E FY20E FY21E (Rs bn) FY17 FY18P FY19E FY20E FY21E
Net Revenues 481.24 536.62 650.33 714.02 807.46 SOURCES OF FUNDS
Growth % (6.7) 11.5 21.2 9.8 13.1 Share Capital 16.91 22.55 22.55 22.55 22.55
Raw Material 31.94 36.78 48.34 54.55 57.66 Reserves And Surplus 364.58 380.73 414.18 449.68 488.59
Gas Trading 332.00 367.59 462.60 510.56 590.05 Net Worth 381.49 403.28 436.73 472.24 511.14
Employee Cost 12.58 13.01 13.54 14.08 14.64 Long-term Debt 30.05 9.76 34.76 74.76 82.76
Other Expenses 41.09 42.89 39.14 41.20 42.59 Short-term Debt - - - - -
Operating Profits 63.65 76.34 86.70 93.63 102.52 Total Debt 30.05 9.76 34.76 74.76 82.76
Operating Profit Margin (%) 13.2 14.2 13.3 13.1 12.7 Net Deferred Taxes 37.23 46.31 47.24 48.18 49.14
EBITDA 63.65 76.34 86.70 93.63 102.52 Long-term Provisions & Others 20.85 22.45 23.19 23.94 24.72
EBITDA Margin (%) 13.2 14.2 13.3 13.1 12.7 Total liabilities 469.62 481.81 541.91 619.12 667.77
EBITDA Growth (%) 59.3 19.9 13.6 8.0 9.5 APPLICATION OF FUNDS
Depreciation 13.97 14.15 14.73 15.45 16.20 Net Block 285.06 287.90 317.13 373.36 415.18
EBIT 49.68 62.19 71.97 78.18 86.32 CWIP 38.03 55.14 78.84 86.18 90.48
Other Income (Including EO Investments 93.77 99.53 103.93 117.63 124.13
9.22 10.15 10.26 10.68 11.10
Items) LT Loans And Advances 6.19 5.58 5.75 5.92 6.10
Interest Cost 4.79 2.75 4.17 5.98 6.62 Other Non-current assets 27.96 25.43 26.19 26.98 27.79
PBT 54.11 69.58 78.06 82.88 90.80 Total Non-current Assets 451.02 473.58 531.85 610.06 663.68
Taxes 19.08 23.40 25.76 27.35 29.96 Inventory 16.98 19.20 23.26 25.54 28.88
RPAT 35.03 46.18 52.30 55.53 60.84 Debtors 38.28 40.52 49.10 53.91 60.96
EO (Loss) / Profit (Net Of Tax) (5.28) 0.19 - - - Cash And Cash Equivalent 13.42 25.29 25.67 23.18 16.67
APAT 40.31 46.00 52.30 55.53 60.84 Loans And Advances 7.53 6.92 7.23 8.22 8.69
APAT Growth % 77.3 14.1 13.7 6.2 9.6 Other Current Assets 26.14 15.32 15.94 16.48 17.09
AEPS 17.9 20.4 23.2 24.6 27.0 Total Current Assets 102.35 107.24 121.20 127.34 132.31
EPS Growth % 77.3 14.1 13.7 6.2 9.6 Creditors 27.16 38.82 49.05 54.24 62.17
Source: Company, HDFC sec Inst Research
Other Current Liabilities & Provns 56.59 60.20 62.09 64.04 66.05
Total Current Liabilities 83.75 99.02 111.14 118.29 128.23
Net Current Assets 18.60 8.23 10.07 9.06 4.08
Total Assets 469.62 481.81 541.91 619.12 667.77
Source: Company, HDFC sec Inst Research

Page | 18
 GAIL: RESUMING COVERAGE

Cash Flow Statement Key Ratios

(Rs bn) FY17 FY18 FY19E FY20E FY21E FY17 FY18 FY19E FY20E FY21E
Reported PBT 54.11 69.58 78.06 82.88 90.80 PROFITABILITY %
Non-operating & EO Items (17.10) (9.87) (10.26) (10.68) (11.10) EBITDA Margin 13.2 14.2 13.3 13.1 12.7
EBIT Margin 10.3 11.6 11.1 10.9 10.7
Interest Expenses 4.79 2.75 4.17 5.98 6.62
APAT Margin 8.4 8.6 8.0 7.8 7.5
Depreciation 13.97 14.15 14.73 15.45 16.20
RoE 11.0 11.7 12.5 12.2 12.4
Working Capital Change (7.12) 20.54 (1.40) (1.41) (1.46)
Core RoCE 10.1 13.4 15.5 14.7 14.2
Tax Paid (22.56) (14.32) (24.84) (26.40) (29.00) RoCE 9.3 10.1 10.8 10.3 10.1
OPERATING CASH FLOW ( a ) 26.08 82.84 60.47 65.82 72.06 EFFICIENCY
Capex (18.19) (34.09) (67.67) (79.01) (62.34) Tax Rate % 35.3 33.6 33.0 33.0 33.0
Free Cash Flow (FCF) 7.89 48.74 (7.20) (13.19) 9.72 Asset Turnover (x) 1.0 1.1 1.3 1.2 1.3
Investments (7.92) (5.76) (4.40) (13.70) (6.50) Inventory (days) 13 13 13 13 13
Non-operating Income 17.10 9.87 10.26 10.68 11.10 Debtor (days) 29 28 28 28 28
Other Current Assets (days) 20 10 9 8 8
Others 13.38 2.53 (0.76) (0.79) (0.81)
Payables (days) 24 31 32 32 32
INVESTING CASH FLOW ( b ) 4.36 (27.45) (62.56) (82.82) (58.54)
Other Current Liab & Provns (days) 43 41 35 33 30
Debt Issuance/(Repaid) (25.69) (16.36) 25.50 40.51 8.53 Cash Conversion Cycle (days) (5) (21) (17) (16) (14)
Interest Expenses (4.79) (2.75) (4.17) (5.98) (6.62) Net Debt/EBITDA (x) (1.2) (1.5) (1.1) (0.7) (0.6)
FCFE (26.12) (46.56) (41.24) (48.29) (56.64) Net D/E (0.2) (0.3) (0.2) (0.1) (0.1)
Share Capital Issuance - - - - - Interest Coverage 10.4 22.6 17.3 13.1 13.0
Dividend (18.51) (15.55) (18.86) (20.02) (21.93) PER SHARE DATA
Others 14.03 (8.85) - - - EPS (Rs) 17.9 20.4 23.2 24.6 27.0
FINANCING CASH FLOW ( c ) (34.97) (43.51) 2.47 14.51 (20.02) CEPS (Rs) 24.07 26.67 29.73 31.47 34.16
DPS (Rs) 8.2 6.9 8.4 8.9 9.7
NET CASH FLOW (a+b+c) (4.52) 11.88 0.37 (2.49) (6.51)
BV (Rs) 169.2 178.8 193.7 209.4 226.7
EO Items, Others - - - - -
VALUATION
Closing Cash & Equivalents 13.42 25.29 25.67 23.18 16.67 P/E (x) 17.8 15.6 13.8 13.0 11.8
Source: Company, HDFC sec Inst Research P/Cash EPS (x) 13.3 12.0 10.7 10.1 9.3
P/BV (x) 1.9 1.8 1.6 1.5 1.4
EV/EBITDA (x) 10.1 7.9 7.2 7.0 6.5
EV/Revenue (x) 1.3 1.1 1.0 0.9 0.8
OCF/EV (%) 4.1 13.7 9.7 10.1 10.9
FCFF /EV (%) 1.2 8.1 (1.2) (2.0) 1.5
FCFE/M CAP (%) (3.6) (6.5) (5.7) (6.7) (7.9)
Dividend Yield (%) 2.6 2.2 2.6 2.8 3.0
Source: Company, HDFC sec Inst Research

Page | 19
 GAIL: RESUMING COVERAGE

RECOMMENDATION HISTORY
Date CMP Reco Target
GAIL TP
400 29-Jun-18 319 BUY 360

350

300

250

Rating Definitions
200
Apr-18 BUY : Where the stock is expected to deliver more than 10% returns over the next 12 month period
Sep-17

Feb-18
Jun-17

Jun-18
Jul-17

Mar-18
Dec-17
Oct-17
Aug-17

Nov-17

Jan-18

May-18 NEUTRAL : Where the stock is expected to deliver (-)10% to 10% returns over the next 12 month period
SELL : Where the stock is expected to deliver less than (-)10% returns over the next 12 month period

Page | 20
 GAIL: RESUMING COVERAGE

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 GAIL: RESUMING COVERAGE

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Institutional Equities
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Senapati Bapat Marg, Lower Parel, Mumbai - 400 013
Board : +91-22-6171 7330www.hdfcsec.com

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