Petronet LNG Running out of Gas PhillipCapital (India) Pvt. Ltd OIL & GAS: Company Update 28 July 2014 PLNG’s stock has appreciated ~75% from its lows on account of improved visibility on utilization of Dahej terminal (back‐to‐back contracts for Downgrade to NEUTRAL 14.5MMTPA volumes and likely ONGC contract for replacement of C2‐C3 of PLNG IN | CMP RS 184 ~0.9MMTPA) and correction in spot LNG prices to ~US$11/mmbtu (fell 20% TARGET RS 170 (‐8%) QoQ). While some hold Kochi terminal’s utilization rate could improve following any early resolution of the entangled pipeline, that would evacuate Company Data LNG from Kochi, we highlight with GAIL having already taken a write off, any O/S SHARES (MN) : 750 MARKET CAP (RSBN) : 138 amicable solution could take longer. Besides, our estimates fully captures MARKET CAP (USDBN) : 2.3 medium term upsides with 2/3/4.1 MMTPA in FY17‐19E, this coupled with 52 ‐ WK HI/LO (RS) : 190 / 103 expensive valuations turns risk‐reward unfavorable. We believe the current LIQUIDITY 3M (USDMN) : 5.9 FACE VALUE (RS) : 10 valuations are demanding and factors in all near term positives leaving little room for upside from current levels (EV/CE ~1.5x FY16). Thus, we downgrade Share Holding Pattern, % PROMOTERS : 50.0 our recommendation to ‘NEUTRAL’ from ‘BUY’ with a revised price target of FII / NRI : 32.6 Rs170/share (as we roll forward estimates to FY16 (Rs159/share earlier)). FI / MF : 3.3 NON PROMOTER CORP. HOLDINGS : 1.7 Cut utilization rate for Kochi terminal, tanker leasing unlikely to add PUBLIC & OTHERS : 12.5 significantly to earnings: As GAIL continues to face a host of issues in laying its Price Performance, % natural gas pipeline from Kochi to Mangalore and lack of solution for the same in 1mth 3mth 1yr ABS 1.5 31.1 49.2 the near term in sight, we cut our utilisation rate assumption for the Kochi REL TO BSE ‐1.7 16.0 17.2 terminal. Against our earlier estimates of 6%/20% for FY15‐FY16 we now lower Price Vs. Sensex (Rebased values) our estimates to 2%/7.5% respectively. Southern India, being a new market, will take a longer lead time to scale up volumes, but the business case for gas as a 270 market remains solid and we expect Kochi terminal capacity utilization to rise to 240 210 ~95% over the long term (FY2020 onwards). The recent management decision to 180 lease the LNG terminal at Kochi does not add to profitability on significant basis. 150 As per our calculations, the likely earnings from the leasing of LNG storage tank 120 are likely to be around Rs200‐300mn per annum (~2% of the current PBT 90 estimates for FY16). 60 30 FY15E flat earnings ‐ our estimates below street: Despite the estimate of higher Apr/10 Apr/11 Apr/12 Apr/13 Apr/14 Petronet LNG BSE Sensex than anticipated volumes processed from Dahej terminal, PLNG’s earnings are unlikely to see a material increase from core operations excluding marketing Source: Phillip Capital India Research margins in FY15E. We estimate PLNG’s EPS for FY15/FY16 at Rs 9.9/12.1/share. Other Key Ratios The Bloomberg consensus earrings for the respective years stand higher at Rs mn FY14E FY15E FY16E 377,476 440,752 448,623 Rs10.4/share and Rs12.6/share. Thus, the subdued volume growth at Kochi is yet Net Sales Ebidta 14,984 17,903 20,019 to be discounted in the current fiscal estimates. Moreover, any surprise in Net Profit 7,119 7,426 9,041 earnings is likely to be driven by marketing margins, which was not ascribed a EPS, Rs 9.5 9.9 12.1 multiple in past by the investors. PER, X 19.4 18.6 15.3 EV/EBIDTA, x 10.5 9.0 7.9 EV/Net Sales, x 2.8 2.5 2.2 Valuation & Outlook: On FY16E, there seems to be a limited upside at ~15x P/E, ROE, % 14.3 13.4 14.6 1.2x EV/GCI and 1.5x EV/CE. Our DCF based price target of Rs170/share (8% Debt/Equity, % 64.1 66.0 63.9 downside from CMP) adequately captures the medium term earnings potential. Source: PhillipCapital India Research Est. We believe, on account of rich valuations +2SD (std deviation) 1‐year forward PE Gauri Anand (+ 9122 66679943) and more than +1SD in case of EV/Core EBITDA leaves limited scope for further [email protected] upsides in the near term. We downgrade the stock from ‘BUY’ to ‘NEUTRAL’ with Deepak Pareek (+ 9122 6667 9950) a revised price target of Rs170/share on rollover to FY16 (Rs159/share earlier). [email protected] Please refer to Disclosures and Disclaimers at the end of the Research Report. 28 July 2014 / INDIA EQUITY RESEARCH / PETRONET LNG COMPANY UPDATE Key Arguments Cut utilization rate for Kochi terminal, tanker leasing unlikely to add significantly to earnings As GAIL continues to face a host of issues in laying its natural gas pipeline from Kochi to Mangalore and lack of solution for the same in the near term in sight, we cut our utilisation rate assumption for the Kochi terminal. Against our earlier estimates of 6%/20% for FY15‐FY16 we now lower our estimates to 2%/7.5% respectively. Southern India, being a new market, will take a longer lead time to scale up volumes, but the business case for gas as a market remains solid and we expect Kochi terminal capacity utilization to rise to ~95% over the long term (FY2020 onwards). However, the low capacity utilisation at the Kochi is likely to act as drag on the earnings on the medium term. The recent management decision to lease the LNG terminal at Kochi does not add to profitability on significant basis. Russia's Gazprom and U.S.‐based Excelerate Energy are among the companies that have shown interest in leasing the storage at Kochi terminal. We believe, the storage capacity is likely to be used by the contracting company to benefit from the swings in the LNG prices. Thus the company will be storing the LNG during slack period, which is likely to be sold in high demand season. Assuming the turnaround volume multiple of 2x annually, the earnings sensitivity for Petronet is US$0.5‐0.7/mmbtu. As per our calculations, the likely earnings from the leasing of LNG storage tank are likely to be around Rs200‐300mn per annum (~2% of the current PBT estimates for FY16). Likely Earnings for Petronet from Kochi Storage tank leasing Particulars Number of Tankers leased 1.0 1.0 1.0 Total capacity of tank(LNG) cubic meters 182,000 182,000 182,000 Total capacity of tank (Natural Gas) cubic meters 106,432,749 106,432,749 106,432,749 Total capacity of tank (Natural Gas) mmbtu 3,831,579 3,831,579 3,831,579 Turnaround multiple for a tank 2.0 2.0 2.0 Total Natural Gas moved (mmbtu) 7,663,158 7,663,158 7,663,158 Likely margin to PLNG on volumes 0.5 0.6 0.7 Likely Leasing earnings from store tank (Rs mn) 230 276 322 Source: Company, PhillipCapital India Research Recent news reports have suggested that PMO is actively looking into the problems faced by the GAIL in southern India pipeline expansion. With regard to the same, PMO has sought Petroleum Ministry's comments on a request made by Chemical Industries Association asking GAIL to withdraw the court case filed in Madras High Court against the Tamil Nadu government with regard to its Kochi‐Mangalore pipeline project. In its letter to the PMO, the Chemical Industries Association has noted that the pipeline is critical for economic and industrial development in the state but has blamed GAIL for initiating arbitration against the state government. Given the legal entanglement of the issue, amicable solution could take longer. Moreover, there is lack of any milestone with regards to likely resolution of the issue. – 2 of 9 – 28 July 2014 / INDIA EQUITY RESEARCH / PETRONET LNG COMPANY UPDATE Lack of near term earnings growth Despite the estimate of higher than anticipated volumes processed from Dahej terminal, PLNG’s earnings are unlikely to see a material increase from core operations excluding marketing margins. With full impact of depreciation and interest for the Kochi terminal likely to be visible in current fiscal, the earnings gains from Dahej jetty expansion is likely to be offset. We expect PLNG’s EPS for FY15‐FY16 to stand at Rs9.9/share and Rs12.1/share. The Bloomberg consensus earrings for the respective years stand higher at Rs10.4/share and Rs12.6/share. Thus, the subdued volumes growth at Kochi is yet to be discounted in the current fiscal estimates. Moreover, any surprise in earnings is likely to be driven by marketing margins, which was not ascribed a multiple in past by the investors. EBITDA composition Core EBITDA EBITDA from marketing margins 120.0% 100.0% 9.8% 26.4% 21.6% 24.2% 19.8% 80.0% 32.2% 60.0% 90.2% 40.0% 78.4% 80.2% 73.6% 67.8% 75.8% 20.0% 0.0% FY2011 FY2012 FY2013 FY2014 FY2015E FY2016E Source: Company, PhillipCapital India Research PAT composition 120% Core PAT Marketing earnings 100% 13% 14% 80% 31% 34% 34% 34% 60% 40% 87% 86% 69% 66% 66% 66% 20% 0% FY11 FY12 FY13 FY14 FY15E FY16E Source: Company, PhillipCapital India Research – 3 of 9 – 28 July 2014 / INDIA EQUITY RESEARCH / PETRONET LNG COMPANY UPDATE Outlook and Valuation While, PLNG’s utility nature of business (stable regasification margins and term contracts), low regulatory risks (regasification margins are not currently under PNGRB’s purview) and expanding volumes on account of strong demand estimates, hold it in good stead, its valuations have turned expensive.