The domestic city gas distribution companies have witnessed an unwavering and growing investor confidence over the past couple of months even though the overall equity markets are in doldrums. Indraprastha Gas (IGL) and Gujarat Gas are both trading higher than the last week of July when the markets crashed.
These firms have emerged as steadily growing companies with robust business model and strong balance sheet. Both these companies are reaping the benefits of widespread infrastructure they created over past several years. Gujarat Gas began its CNG operations in 1992, but IGL, which started operations in 1999, has already overtaken it in CNG volumes, thanks to the government-led impetus to rid the Delhi region of pollution.
Today, both enjoy strong cash flows with over 35% return on employed capital (RoCE), paying regular dividends and reporting double-digit growth quarter after quarter. Still their valuations differ markedly. IGL trades at P/E above 21 while that of Gujarat Gas is around 18. This is despite the fact that Gujarat Gas is bigger in terms of volumes. The reason lies in their risk profiles. A large chunk of the gas that IGL retails has been allotted to it on priority basis and comes at a cheaper rate. In comparison, such prioritised and cheaper gas makes less than 5% of the sales of Gujarat Gas. Similarly, 82% of IGL’s sales are to CNG vehicles where passing on costs is relatively easier compared to Gujarat Gas, which sales over 80% to industrial customers. In comparison, the bigger companies in the natural gas transportation business Gail and Gujarat State Petronet (GSPL) have not done as well in the recent turmoil. Both are setting up large pipeline network. However, the infrastructure will be optimally utilised only after availability of natural gas in India improves over the next few years. With RIL’s KG Basin output staying considerably below the expected levels, future growth upplies is being viewed with greater scepticism.
The premium valuations of the city gas distributors appear justified, but at the same time are too high. Long-term investors should, therefore, do well to prefer the larger players that will benefit as their growing pipeline network starts getting gas.
These firms have emerged as steadily growing companies with robust business model and strong balance sheet. Both these companies are reaping the benefits of widespread infrastructure they created over past several years. Gujarat Gas began its CNG operations in 1992, but IGL, which started operations in 1999, has already overtaken it in CNG volumes, thanks to the government-led impetus to rid the Delhi region of pollution.
Today, both enjoy strong cash flows with over 35% return on employed capital (RoCE), paying regular dividends and reporting double-digit growth quarter after quarter. Still their valuations differ markedly. IGL trades at P/E above 21 while that of Gujarat Gas is around 18. This is despite the fact that Gujarat Gas is bigger in terms of volumes. The reason lies in their risk profiles. A large chunk of the gas that IGL retails has been allotted to it on priority basis and comes at a cheaper rate. In comparison, such prioritised and cheaper gas makes less than 5% of the sales of Gujarat Gas. Similarly, 82% of IGL’s sales are to CNG vehicles where passing on costs is relatively easier compared to Gujarat Gas, which sales over 80% to industrial customers. In comparison, the bigger companies in the natural gas transportation business Gail and Gujarat State Petronet (GSPL) have not done as well in the recent turmoil. Both are setting up large pipeline network. However, the infrastructure will be optimally utilised only after availability of natural gas in India improves over the next few years. With RIL’s KG Basin output staying considerably below the expected levels, future growth upplies is being viewed with greater scepticism.
The premium valuations of the city gas distributors appear justified, but at the same time are too high. Long-term investors should, therefore, do well to prefer the larger players that will benefit as their growing pipeline network starts getting gas.
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