GAIL (India) Limited

Instrument Amount Rating Action (in Rs Crore)

Long-term fund-based limits/short term limits 250 [ICRA]AAA (Stable)/ [ICRA]A1+ (interchangeable) (reduced from 1250) reaffirmed Non-Convertible Bond Programme 500 [ICRA]AAA (Stable) reaffirmed Non-Convertible Bond Programme 100 [ICRA]AAA (Stable) withdrawn

ICRA has reaffirmed [ICRA]AAA (pronounced ICRA triple A) and [ICRA]A1+ (pronounced ICRA A one plus) ratings to the Rs 250 crore1 fund-based and non-fund based limits (reduced from Rs. 1250 crore) of GAIL (India) Limited (GAIL)2. ICRA has also reaffirmed the [ICRA]AAA rating to the Rs. 500 crore non-convertible bond programmes of. GAIL. The outlook on the long-term rating is Stable. [ICRA]AAA rating assigned to the Rs. 100 crore bond programme of GAIL has been withdrawn at the request of the company as the bond programme has been completely redeemed.

The ratings continue to reflect GAIL’s leadership position in natural gas transmission business, the low level of business risks in this business, favourable demand prospects for natural gas in India and downstream integration into petrochemicals and liquefied petroleum gas (LPG). The ratings also take into account GAIL’s financial position and strengths derived from the significant sovereign ownership. The ratings also consider the pressure on return indicators of the transmission segment considering lower-than-anticipated tariffs approved by PNGRB, concerns on the gas availability for some of the new pipeline projects, risks arising from its E&P business and large contingent liabilities. The ratings factor in increased commodity price risks for petrochemical and LPG segments in view of significant decline in crude oil and petroleum product prices. ICRA also notes material challenges to be faced by the company in marketing of HH linked LNG in a scenario of sustained low crude oil prices.

GAIL enjoys a dominant position in the natural gas transmission business with a market share of ~70%, catered to by its large pipeline network covering ~11,000 km. In the gas marketing business, GAIL has a market share of over 60%. Dominant market share in transmission segment, along with regulated returns on the capital employed, resulted in healthy profitability and stable cash generation for GAIL in the past. Due to lower than anticipated tariffs and under-utilisation of pipelines, the RoCE for gas transmission/trading division has decreased from more than 30% till FY2011 to 9% in FY2016. RoCE was also got adversely impacted in FY2015 on account of material fall in profits of trading segment, which has shown improvement in FY2016 as reflected by RoCE of 16% in 9M FY2016.

In January 2016, PNGRB has published a notification modifying the applicable normative capacity utilisation rates. According to the notification, the volume divisor (to estimate capacity utilisation) would be higher of 75% of capacity and actual volume from sixth year onwards, against 100% of capacity earlier. Although separate tariff orders for the various pipelines to be affected by this notification are yet to be published, ICRA believes that the transmission tariffs for the newer pipelines (largely under-utilised) could see a moderate increase, which would improve returns on these projects. GAIL is likely to benefit from the revision in tariffs for KG pipeline network and five other under-utilised pipelines which would provide small incremental operating profit. Overall, the impact of tariff revisions could be modest in comparison to overall profits of GAIL and its pipeline transmission segment.

In December 2011, GAIL signed an agreement to import 3.5 MMTPA of LNG from Cheniere Energy’s Sabine pass liquefaction plant in the US for a period of 20 years. Besides, GAIL also has another 2.3 MMTPA contract to liquefy gas at Cove Point terminal in the US. The pricing formula for these contracts is linked to Henry Hub index (the benchmark natural gas price in the US), which in the past had remained significantly cheaper than the oil indexing contracts. However, the competitiveness of HH-based LNG pricing against liquid fuels has deteriorated significantly lately due to material decline in crude oil prices. If crude oil prices continue to be at

1 100 lakhs = 1 crore = 10 million 2 For complete rating scale and definitions, please refer to ICRA’s website www.icra.in or other ICRA Rating Publications.

low levels over the longer term, the same may put significant pressure on margins of gas trading segment of GAIL due to challenges expected in marketing of HH linked LNG due to its higher prices than spot LNG and liquid fuel prices. However, GAIL is actively trying to enter into swapping contract, i.e. to sell its US gas to LNG buyers in Europe (which is served by Middle-East) and procuring gas for India from Middle-East, which may lead to material reduction in freight cost.

GAIL’s polymer operations remained more competitive compared to naphtha-based manufacturers due to access to cheaper feedstock (long-term RLNG). However, with significant fall in crude oil and naphtha prices, the naphtha crackers are expected to be more cost competitive than players based on RLNG at least over the short to medium term. High cost of long-term RasGas RLNG (primary feedstock for GAIL’s petrochemical business) coupled with low prices of polymers and increased capital related charges post expansion led to loss before interest and tax for the segment of Rs. 698 crore in 9M FY2016. However, since January 2016, the FOB prices of long-term RasGas RLNG have declined significantly, which would partly alleviate the concerns related to feedstock pricing. In the near to medium term, the profitability of the LPG/LHC segment is expected to improve with no under-recovery burden, modest recovery in product prices and fall in domestic gas prices.

The operating income of GAIL decreased by 5.4% (yoy) to Rs. 40180 crore in 9M FY2016 from Rs. 42470 crore in 9M FY2015 primarily due to lower revenues of gas marketing, petrochemical and LPG/LHC segments. The operating profit in 9M FY2016 at Rs 3040 crore was 25% lower than Rs. 4050 crore reported in 9M FY2015 due to loss in the petrochemical segment and deterioration in profitability of LPG/LHC segment post fall in crude oil prices, which offset the higher profits of transmission and marketing segments. Nonetheless, GAIL’s low gearing and high debt coverage indicators lend a strong financial profile. The company’s gearing remained low at 0.33 times as on March 31, 2015. The interest coverage was lower at 13.0 times in FY2015 as compared to 18.3 times in FY2014 due to lower operating profit despite a decline in interest charges. Other debt protection metrics also deteriorated like NCA/Debt declined to 32% in FY2015 from 39% in FY2014, and Total Debt/OPBDITA increased to 2.03 times in FY2015 as against 1.53 times in FY2014.

The transmission segment may report modest increase in profits considering the recent notification of PNGRB leading to marginal hikes in tariffs of under-utilised pipelines and possible increase in volumes over the medium term. The performance of the gas trading segment may also get boost over the medium term with lower prices of spot LNG as well as long-term RasGas LNG. The company is expected to achieve a significant increase in its petrochemical sales volumes over FY2017-FY2018, which could provide some upside to the profits of petrochemical segment. ICRA believes the capex and investment plans of the company would not significantly alter its financial risk profile, given its existing low leverage and strong financial flexibility. The company’s key debt coverage metrics are also expected to remain comfortable. Any large debt-funded acquisition or capex plan and pressure on profitability of trading segment due to HH-based LNG volumes are key sensitivities for the credit profile of GAIL.

Company Profile Incorporated in 1984, GAIL (India) Limited (GAIL) has over the years evolved as an integrated natural gas company, with presence in transmission, gas processing and downstream petrochemicals (which use natural gas as a primary input). Apart from these businesses, GAIL also has interests in the Liquefied Natural Gas (LNG) business through Petronet LNG Ltd (PLL), Ratnagiri Power Project (RGPPL) and in city gas distribution projects both in India [ Ltd (MGL), Ltd (IGL) etc] and overseas (Natgas & Fayum Gas in Egypt). Among these projects, GAIL’s most significant interest lies in the PLL and RGPPL. In PLL, GAIL apart from being an equity investor and the major transmitter of gas, has also undertaken to market 60% of the R-LNG through a 25-year take or- pay contract from Dahej terminal and 30% of the volumes from the Kochi terminal of PLL. RGPPL’ regasification terminal at Dabhol was commissioned in FY 13, with whom GAIL has a long term regasification agreement. GAIL also has stakes in exploration and production of hydrocarbons. GAIL has wholly owned subsidiaries in Singapore and the US for expanding its presence outside India in the segments of LNG, Petrochemical trading and Shale Gas asset.

GAIL reported a net profit of Rs. 2299 crore on a net sales of Rs. 51614 crore in FY2016, while the company reported a net profit of Rs. 3039 crore on a net sales of Rs. 56569 crore in FY2015.

May 2016

For further details please contact: Analyst Contacts: Mr. K. Ravichandran, (Tel. No. +91-44-45964301) [email protected]

Relationship Contacts: Mr. L. Shivakumar, (Tel. No. +91 22 6114 3406) [email protected]

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