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Last Updated : Oct 12, 2018 04:22 PM IST | Source: Moneycontrol.com

Gas distribution companies: Fundamentals strong; stocks attractive after steep recent falls

IGL and MGL are strategically venturing into newer geographies. This would ensure a rapid growth in volumes in the future

Ruchi Agrawal @ruchiagrawal
 
 
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Amid the high volatility in the stock market, many quality stocks have corrected steeply. Current prices offer an opportunity to accumulate these stocks, given that their business growth story remains intact.

Despite sound business dynamics and a positive macro growth environment for the natural gas sector, stocks of gas distribution companies fallen sharply in the last few weeks, with Mahanagar Gas falling 43 percent and Indraprastha Gas correcting 35 percent, from their respective 52-week highs.

Mahanagar Gas Limited (MGL)

MGL is a joint venture gas distribution company between Gas Authority of India (GAIL India) and BG Group. It is the sole authorised gas company in Mumbai and has won bids to develop the gas infrastructure in Greater Mumbai and adjoining areas. It has also bid for 3 other major areas, which include Chennai and Visakhapatnam.

Indraprastha Gas Limited (IGL)

IGL is a joint venture between GAIL India and Bharat Petroleum Corporation (BPCL). The gas distribution company has a monopolistic presence in Delhi and the National Capital Region. IGL has bid for 11 new areas surrounding Delhi and NCR in the latest round of city gas distribution (CGD) bidding.

Why we are positive on these stocks

Expansion in new geographies – IGL and MGL are strategically venturing into newer geographies. This would ensure a rapid growth in volumes in the future. Expansion would also bring in a strong domestic positioning for the companies, helping them to nullify the impact of regional sways.

Price hikes to protect margins – With the hike in domestic natural gas prices in the current bi-annual revision, margins of gas distribution companies were expected to contract.

However, both IGL and MGL have increased their prices after the announcement of the hike in September. This will help protect their margins in the coming quarters. Moreover, it reinstates our belief about the ability of these companies to pass on high costs to consumers.

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Strong financials and healthy balance sheet – Both IGL and MGL have debt-free balance sheets, which leaves immense scope for future capital expenditure and expansion. Both companies are cash-rich. We believe these are important factors to be watched, especially amid such volatile market conditions.

Crude oil sustaining at higher - Global crude oil prices have sustained at higher levels over the last few months. At a time when crude prices are on the rise, natural gas becomes a cheaper and a more-attractive fuel option. This was one reason that led to a substantial uptick in volumes for these companies during the quarter gone by. This is expected to continue in coming months, both in the industrial and the domestic segments.

Environmental concerns and policy support - With environmental concerns growing by the day, there has been immense policy support to promote the use of a relatively-cleaner fuel like natural gas.

The Petroleum and Natural Gas Regulatory Board, in the latest round of city gas distribution (CGD) auctions, has put up 86 geographical areas for bidding. This is the highest ever and more than the current total. This expansion would ensure volume growth for these companies.

Limited penetration in current geographies – The penetration of gas usage has been limited. With rising oil prices and policy support, we believe there would be higher penetration of gas usage from here on. Even from existing geographies, MGL and IGL are likely to report higher volumes.

Proposal for unified pipeline tariffs – While on one hand it is believed that unified gas tariffs would lead to higher transmission costs for gas distribution companies, we believe it would also bring in procurement freedom and would eventually be a positive on the cost front.

Outlook

IGL's and MGL's stocks have corrected steeply over the last few weeks and are now trading close to their 52-week lows. While MGL has corrected 25 percent in the last two months, IGL is down 13 percent.

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MGL is now trading at a 2019 estimated PE of 15.1 times and a 2019 estimated EV/EBITDA of 9.4. It is priced at 3.3 times its book value. IGL on the other hand is trading at a 2019 estimated PE of 19.9 times and a 2019 estimated EV/EBITDA of 12.5. It is priced at 3.6 times its book value.

With the fundamental growth story intact, and sector outlook positive, we believe these companies are fundamentally sound. We find their current prices attractive enough to start accumulating them.

Follow @Ruchiagrawal

For more research articles, visit our Moneycontrol Research Page.

First Published on Oct 12, 2018 04:12 pm
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