Gas Companies - Ambit - Feb 2011

February 23, 2011
Oil & Gas

THEMATIC
Dawn for a new utility sector

The Consumer Gas Distribution (CGD) sector is witnessing high growth but faces challenges ahead. We prefer Indraprastha Gas (IGL) over Gujarat Gas (GGas) due to IGLs competitive advantages relating to: (a) High allocation of domestic gas, (b) Strong pricing power in the competitive CNG segment; and (c) Monopoly status in the huge (and tax friendly) NCR (National Capital Region) market. We initiate coverage on IGL with a BUY and on GGas with a SELL. The three key sources of competitive advantage in CGD are: Gas sourcing ability: The CGD sector is in the midst of a high growth phase given its cost competitiveness and low penetration. However, the shortage of low cost domestic gas (one-thirds the cost of LNG) is increasing gas distributors dependency on high-cost LNG, which could potentially derail the CGD growth story. Hence we prefer companies which have a higher allocation of domestic gas and are likely to be preferred for incremental domestic gas allocation. Given the rising share of LNG in the gas mix, the ability to source LNG at a competitive price is also a plus. Pricing power: We prefer companies with exposure to CNG versus the Industrial or PNG segment, as CNG is ~50% cost competitive versus deregulated petrol (due to high taxes on petrol). CNGs competitiveness could further strengthen with the progress towards gradual diesel deregulation, driving up discretionary private conversion to CNG. CGD firms, which are present in cities that have a favourable tax policy for CGD, (eg. the NCR) tend to have greater pricing power. Volume growth potential: Companies with an exclusive licence to operate in a city with huge gas demand have the first mover advantage and can create high barriers to entry to deter any competitive threat post the end of the exclusivity period. The CNG and PNG businesses have the highest growth potential given: (a) CNG and PNG constitute a low 2.8% of Indias gas consumption versus 10%-20% for most developed countries; and (b) The regulatory push as the Government prefers CNG/PNG in its drive to control pollution and reduce its fuel subsidy. IGL (IGL IN, BUY, 17% upside): Our competitive advantage matrix shows IGL as the best placed firm to take advantage of the CGD opportunity. We prefer IGL due to: (i) Its high allocation of domestic gas due to its exposure to Government-preferred CNG/PNG business and efficient sourcing of LNG given its strong parentage; (ii) Strong pricing power due to its significant presence in the competitive CNG segment and owing to favourable tax treatment for CGD in the NCR; and (iii) Strong volume growth potential (16% CARG over FY12-FY16) based on its exclusive licence to set up a CGD network in the NCR market and a presence in the underpenetrated and Government-preferred CNG/PNG business. We believe the risk of marketing margin regulation is priced in. Allocation of additional domestic gas, diesel deregulation and capping of the LPG subsidy are key positive triggers. GGas (GGAS IN, SELL, 6% downside): GGass business model could face challenges due to: (i) Rising dependency on LNG (due to decline in supply from the matured PMT field) while its limited exposure to the CNG/PNG business would mean low chance of incremental domestic gas allocation; (ii) Relatively weak pricing power due to its presence in the not-so-competitive Industrial segment and high taxes on CGD in Gujarat; and (iii) Volume growth stagnating at ~5% due to saturating Industrial segment demand.
Analyst contact
Dayanand Mittal
Tel: +91 22 3043 3202 dayanandmittal@ambitcapital.com
Competitive advantages snapshot

IGL Gas sourcing abilities Existing domestic gas allocation Incremental domestic gas allocation LNG sourcing capabilities Sub-total Pricing power Statewide tax structure for gas Presence in high margin CNG business Sub-total Volume growth potential Presence in high growth cities Presence in high growth potential CNG and PNG business Sub-total Grant total GGas
Source: Ambit Capital research Note:

- Very Strong, - Strong, - Weak, - Very Weak
IGL
CMP: Target Price (12 month): Previous TP: Upside (%) EPS (FY13): Change from previous (%) Variance from consensus (%)
BUY
`347 `406 NA 17% `23.9 NA -3%
Gujarat Gas
CMP: Target Price (12 month): Previous TP: Downside (%) EPS (CY12): Change from previous (%) Variance from consensus (%)
SELL
`393 `369 NA -6% `25.2 NA -9%
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Oil & Gas
CONTENTS
SECTOR
A brief history of CGD in India ...........................................................3 The CGD supply chain in India ...........................................................4 Regulation of the CGD sector .............................................................6 Sources of competitive advantage .....................................................9 We see IGL as the best CGD play .....................................................22 Marketing margin regulation impact? ............................................28
COMPANIES
Indraprastha Gas31 Gujarat Gas...45
Ambit Capital Pvt Ltd
Oil & Gas
A brief history of CGD in India

City gas distribution (CGD) essentially involves tapping of natural gas from trunk pipelines and feeding into smaller diameter pipes of the CGD network so as to distribute it amongst the small end users in urban areas such as cars (via CNG i.e. compressed natural gas), household and commercial segments (via PNG i.e. piped natural gas) and SMEs. Historically, India has relied on: (i) oil for its transport sector; (ii) LPG (liquefied petroleum gas) for cooking by the household and commercial segments; and (iii) liquid fuel/coal/power for industrial consumers. Gas distribution within cities has historically been limited in India mainly because of the countrys low gas reserves, lack of infrastructure to import gas in the form of LNG (liquefied natural gas) and limited pipeline network to distribute gas via pipelines across various cities.
Regulatory & judicial mandates laid the foundation for CGD in India
Thanks to international pressure to cut carbon emissions, India began to seriously look at cleaner fuels, including natural gas, in the 1990s. At the same time, the Government wanted to boost the countrys energy security by tapping Indias domestic natural gas reserves and thereby lower its oil import bill. It is estimated that Indias natural gas reserves is equivalent to 27 years of consumption whereas its crude reserve amounts to less than 5.5 years of consumption. In addition, the cost competitiveness of gas versus liquid fuels adds to its attractiveness, with gas prices (in US$/mmbtu i.e. million British thermal units) in India ranging between 6%-10% of crude prices (in US$/bbl) against 17% on an energy equivalence basis. Thus, in the 1980s, the Government initiated techno-economic feasibility studies for gas distribution in Mumbai and Delhi through Sofragaz and British Gas. Based on the encouraging recommendations of these studies, Mahanagar Gas Ltd (MGL) was incorporated in May 1995 and Indraprastha Gas Ltd (IGL), in December 1998. The Government allocated domestic gas to MGL and IGL for distribution as CNG to cars and as PNG to households in Mumbai and Delhi. Development of the CGD was fast-tracked by the Supreme Courts July 1998 order to contain vehicular pollution. The Court directed all buses, three wheelers and taxis in Delhi to adopt CNG as a fuel by March 31, 2001. After the successful implementation of the CNG programme in Delhi, the Supreme Court identified 14 polluted cities in two court orders (April 5, 2002, and August 14, 2003) for extension of its CNG drive.
Exhibit 1: Sectorwise gas consumption breakdown

(%) Residential and CNG Commercial Industrial Power Fertilizer Total 100 Global 22.3 14.4 29.8 33.3 India 2.8 1.2 29.0 43.0 24.0 100
Improved gas availability and waning infrastructure bottleneck to provide the next leg of growth
The scarcity of natural gas in India vis--vis the huge gas demand from the core fertiliser and power sectors, and the inadequate pipeline infrastructure has resulted in supply of gas to cities through distribution systems not developing in India as it did in several other countries (such as the UK, USA, Australia, Korea etc). During CY2010, transport (CNG) and the residential segment constituted merely 2.8% of total gas consumed in India, compared to, say, 22% in the US. But as the supply of gas improved (thanks to RILs KG D6 field and due to Indias improved ability to import LNG), and the natural gas pipeline grid expanded, more and more Indian cities were able to get access to natural gas. Hence its application in the residential and transportation sector is expected to grow. According to the PNGRB (Petroleum and Natural Gas Regulatory Board), currently there are one million CNG vehicles in the country and this is expected to increase to six million vehicles over the next 10 years. The PNGRB has laid down a target to spread the CGD network across 200 cities with a potential gas demand of 80mmcmd (million cubic meters per day) compared to the current consumption of 14mmcmd in 25 cities.
Source: BP Statistical review 2011
Oil & Gas
The CGD supply chain in India

In city gas distribution, gas flows to the end customer through various stages of pressure reduction. Gas is supplied at low pressure to residential and commercial customers for cooking purposes as PNG via pressure reduction stations called IPRS (industrial pressure reduction) or DPRS (domestic pressure reduction). Gas is supplied to cars as CNG wherein gas is compressed to a pressure of 200kg/cm2250kg/cm2- to enhance the storage capacity of cylinders mounted on cars.
Exhibit 2: CGD supply chain in India
Source: Ambit Capital research
Gas sources: Gas for the CGD business is sourced from a mix of gas produced domestically and imported in the form of LNG. Domestic gas production meets ~54% of CGD gas needs and is sourced mainly from ONGCs Bombay High, RILs KG D6 field, PMT (Panna-Mukta-Tapti), Ravva etc. LNG imports help meet the balance gas demand for the CGD sector. PLNG accounts for 70% of LNG imported by India while the balance is imported by Shell, GAIL (Gas Authority of India Ltd) and GSPC (Gujarat State Petroleum Corporation). Gas transmission: About 75% of gas is transmitted by the state-owned transmission company, GAIL, with GSPL and RGTIL being the other players. They help to transmit the gas from the source of production/import to the cities via their trunk pipelines. Connectivity to large consumers (greater than 0.1mmcmd) is provided by laying a spur pipeline from the trunk pipeline to the consumers plant while the small consumers (below 0.05mmcmd) are supplied via the CGD network. CGD companies: The trunk pipeline feeds gas into the city gas distribution network of CGD companies, which in turn supplies gas to small consumers (less than 0.05mmcmd) within cities like the household, commercial segment, automobile and small industrial sector. The key CGD companies are IGL, GGas (Gujarat Gas), GAIL Gas, MGL, GSPC Gas, Sabarmati Gas, Adani Energy etc.
Exhibit 3: Usage of CGD
CGD consumers Automobile in the form of CNG Usage Alternative fuel CNG as a transportation fuel Liquid fuels like petrol and diesel Residential/commercial in the form of PNG PNG is used for cooking, water heating etc Subsidised LPG cylinder and power Small industries Gas is used for heating, cooling, power generation etc Liquid fuel (like fuel oil, naphtha, diesel, etc), coal, power etc
Oil & Gas

Exhibit 4: CGD value chain
Source: Ambit Capital research.
The bulk and Industrial segments comprise high volume customers and hence the margins earned from these customers are lower compared with the margin earned on CNG, the domestic and commercial segments. Although the volume consumed per customer is low in the PNG segment, given the huge potential consumer base, this segment has substantial volume growth potential. Currently, the PNG segment generates low margins due to the high capex requirement for setting up a PNG network. It costs anywhere between `15,000-`18,000 per household to lay a PNG pipeline but the provider can only charge: (a) ` 5,000 as refundable security deposit towards security of equipment and installation used in providing last mile connectivity; and (b) `1,000 as security deposit towards PNG consumption bills. CNG and the commercial segment are high margin businesses though the volume offtake per customer is low. Given the low penetration of CNG in the auto segment (less than 10%), the growth potential is enormous.
Exhibit 5: Segmentwise volume v/s growth matrix
Source: GGas, Ambit Capital research
Oil & Gas
Regulation of the CGD sector

The PNGRB Act (Section 16) was notified in July 2010. This empowered the PNGRB to grant authorization to CGD companies to: (a) lay, build, operate or expand CGD networks via competitive bidding; (b) determine network tariffs for CGD networks and set a compression charge for CNG; and (c) have exclusivity for CGD networks. Prior to the PNGRB, the MoPNG (Ministry of Petroleum and Natural Gas) had the power to authorize the setting up of CGD networks.
Exhibit 6: Indias existing CGD infrastructure
Source: Ambit Capital research.
Regulation for existing cities

As per MoPNG regulations, end consumer price = cost of gas + regulated transmission tariff for trunk pipeline + regulated tariff for CGD network + regulated charge for CNG compression + unregulated marketing margin + taxes and duties. Network tariff for CGD network and CNG compression charge is determined on a DCF basis, so as to guarantee 14% RoCE (post-tax) on normative capital employed over a period of 25 years. Capital employed is equal to sum of gross fixed assets and working capital (equivalent of 20 days of operating cost). As per MoPNG regulations, the network tariff and compression charge is determined so as to guarantee 14% RoCE (post-tax) on normative capital employed over a period of 25 years. The regulations for CGDs are along the same lines as in the case of the gas transmission pipeline business, except that the RoCE in the CGD business has been determined at 14% instead of 12% for the gas transmission businesses to account for the higher risk involved in the setting up of a CGD business.
Exhibit 7: Regulation for existing CGD network
Note: LMC: Last Mile Connectivity Source: GGas, Ambit Capital research
Oil & Gas

Exhibit 8: CGD cost component
Cost component along the chain Regulated or unregulated Gas cost Unregulated Domestic APM gas prices are regulated while domestic nonAPM gas price is approved by the Government. + Trunk pipeline + CGD transmission network tariff tariff Regulated Regulated + CNG compression charge Regulated + Marketing margins Unregulated
Comments
Compensation for supply management, contract negotiation, market tie-up, Tariff to guarantee Tariff to guarantee Compression charge market surveys, dispute post-tax RoCE of post-tax RoCE of based on post-tax RoCE resolution, customer facilities, 12% on capital 14% on capital of 14% on capital take or pay risk, bad debt risk, employed employed employed inventory carrying costs and maintaining administrative infrastructure
Source: PNGRB, Ambit Capital research
Key existing cities: Delhi, Mumbai, Ahmedabad, Pune, Surat, Hyderabad, Lucknow etc. Key upcoming cities: Bhavnagar, Ludhiana, Jalandhar, Durgapur, Panipat etc.
Regulation for new cities

In contrast to the 14% assured RoCE in existing cities, for all CGD networks that are awarded CGD contracts after the setting up of the PNRGB, the tariff is determined via competitive bidding. Hence there is no assured RoCE in these cities (the RoCE is a function of the bids quoted in the competitive process). PNGRB regulations provide for marketing exclusivity of three years for companies already present in a city prior to the regulations and of five years, for the companies in new cities. It also provides for a network exclusivity of 25 years, extendable by another 10 years, if the operator fulfills service obligations and complies with service quality norms.
Exhibit 9: Bidding criteria for a new CGD network

Bidding criterion Lowness of the present value* of the unit network tariff Lowness of the present value* of the CNG compression charge Highness of the present value* of the inch-kilometre of the steel pipelines Highness of the present value* of the number of domestic customers to be connected %weightage 40 10 Comments (i) Network tariff to be quoted over 25 years of the economic life of the network (ii) Entity to provide yearwise network tariffs in `/mmbtu (i) Compression charge to be quoted over 25 years of the economic life (ii) Entity to provide yearwise compression charge in `/kg (i) Pipeline proposed to be laid during the marketing exclusivity period (i.e. 3 to 5 years) (ii) Entity to provide yearwise inch-km of steel pipeline proposed to be laid during the marketing exclusivity period (i) Number of customers to be connected over the marketing exclusivity period (i.e. 3 to 5 years) (ii) Entity to provide yearwise number of customers proposed to be connected during the marketing exclusivity period
20
30
Note 1: *Present value to be calculated using a discount rate of 14%

The CGD companies determine the final selling price of CNG/PNG by adding the regulated network and compression charges to the cost of gas purchased. It also adds its marketing margin, which is currently not being regulated. The factors that will determine the development of CGD ahead are:
A clear regulatory framework both for the entity responsible for the promotion of city gas distribution and regulation of existing players, and for the layout of transmission pipelines across the country, Sufficient gas supply via a mix of domestic gas and imported LNG, Fuel price reforms, and Increased thrust on environmental regulation.
Oil & Gas

Exhibit 10: Porter analysis of the CGD industry
Bargaining power of suppliers

LOW As the Government's gas utilization policy determines the quantum of domestic gas to be allocated to various CGD companies and also has the final word on the gas price, suppliers of domestically produced gas has little bargaining power. Due to shortage of domestic gas, all incremental growth would have to be met via import of LNG. But given the tightness in Asian LNG demand supply balance and as LNG supply is concentrated with a few big deep pocketed players, LNG suppliers have relatively superior bargaining power.
Bargaining power of buyers

MEDIUM The network tariff and compression charge is determined by the regulator (a) to ensure guaranteed post-tax RoCE of 14% for existing cities; and (b) based on competitive bidding for new cities. Hence buyers have no say on fixing the tariff. As the cost of CNG is ~40%-50% lower than the cost of petrol and ~10%-20% lower than the cost of diesel, the demand for CNG continues to be strong resulting in significant discretionary conversion to CNG. The cost of PNG ~5%-15% higher than the cost of subsidized LPG for households and significantly lower than the cost of LPG for the commercial segment. But the attractiveness of PNG is expected to improve as the Government plans to cap usage of subsidised LPG cylinders to 50% of current consumption (thereby increasing the average cost of LPG cylinders). Gas is 11%-25% cost competitive vis--vis alternative liquid fuels (like naphtha, fuel oil) for the industrial segment.
Competitive intensity
MEDIUM In the existing cities, the competitive risk is mitigated to a great extent by: (a) the regulated RoCE; and (b) the 5-year marketing and 25-year network exclusivity allowed by the regulator to the winning entity. But in the new cities competition has intensified over last few years with establishment of the PNGRB-awarded competitive bids, instead of the guaranteed returns in the pre-PNGRB era. PNGRB has announced plans to award bids for 200 cities under competitive bidding. This has resulted in emergence of new players Adani, Essar, Lanco, OMCs etc.
Barriers to entry
MEDIUM In existing cities, PNGRB allows 5-year marketing exclusivity and 25-year network exclusivity to the winner of CGD network thereby creating high barriers of entry for a new entrant in an existing city. Shortage of low cost domestic gas, huge capex requirements, delays in land acquisition, environmental clearance, and increasing regulation will dis-incentivise the new players from bidding for new cities. The regulator gives due consideration to past track record and technical expertise of the player before awarding a CGD licence.
Threat of substitution
LOW CNG acts as a substitute to liquid fuels such as petrol/diesel in automobiles. However, CNG is expected to continue to be cost competitive given the: (a) Significant differential between the cost of CNG and the cost of petrol/diesel; and (b) The deregulation of petrol and the proposed deregulation of diesel in a high crude price environment would help in maintaining this differential. PNG used by the household/commercial segment acts as a substitute for subsidised LPG cylinders. Attractiveness of PNG is expected to improve as the Government plans to restrict usage of subsidised LPG cylinders to only 4-6 p.a. per household, i.e. 50% of actual consumption thereby increasing the average cost of LPG cylinders. Gas is used by the industrial segment as an alternative to liquid fuels like naphtha, fuel oil, diesel etc, and given the 11%-25% cost competitiveness of gas, we expect gas to substitute liquid fuel consumption in the industrial segment. Deteriorating
Improving
Unchanged
Oil & Gas
Sources of competitive advantage

The three key drivers for sustainable competitive advantage in the CGD sector are:
Gas sourcing ability, Pricing power, and Volume growth potential.
(A) Gas sourcing ability

The ability to source gas at a competitive price is the key advantage for a CGD company, as it lowers the cost of gas sold by the company.
Exhibit 11: Government policy determines the key competitive advantage in gas sourcing
IGL Existing domestic gas allocation Incremental domestic gas allocation GGas MGL GSPC GAIL Comment Gas Gas IGL and MGL have been allocated a higher proportion of domestic gas by the Government due to their significant presence in the CNG and PNG segments. Decline in PMT gas production could lower the allocation for GGas. IGL and MGL enjoy a higher priority compared with other CGD companies for incremental allocation of domestic gas, as they sell almost ~90% of the gas to the common man in the form of CNG or PNG while GGas sells only ~18% of its volume to CNG/PNG segment. IGL, MGL and GAIL Gas have superior ability to source LNG at competitive prices given it is promoted by GAIL, who has significant presence in the business of importing LNG. IGL gets LNG at a competitive price of US$9-US$12/mmbtu compared to the cost of US$13-US$15/mmbtu that most other players pay. Exit of BG Group could pose a threat to GGass ability to source LNG at competitive prices.
LNG sourcing capability
Total Source: IGL, GGas, Ambit Capital research. Note:

Gas can be sourced either domestically or via import in the form of LNG. As the cost of domestic gas is one-thirds the cost of LNG, allocation of domestic gas is a big plus for a CGD company. Domestic gas is allocated to various sectors based on the Governments gas allocation policy. The Governments gas allocation policy accords low priority to the CGD sector. The policy gives first priority to the existing customers in the following order: fertiliser producers, LPG and petrochemicals, power plants, CGD, refineries and others. Once demand from existing customers is met, then the gas would be allocated to greenfield projects based on the following priority: fertiliser producers, petrochemicals, power plants, CGD and refineries.
Exhibit 12: RILs KG D6 gas allocation versus actual supply
Sector Power Fertilizers CGD Sponge iron and steel Refineries Petrochemicals LPG Captive power Total Allocation (mmcmd) Firm Fallback 32.7 12.0 15.7 1.2 2.2 4.2 5.0 6.0 1.9 2.6 10.0 63.3 30.2 Total 44.7 15.7 3.4 4.2 11.0 1.9 2.6 10.0 93.5 Actual supply* 20.0 14.9 0.1 0.0 0.0 0.4 2.6 0.0 38.0
Source: MoPNG, Ambit Capital research, *during end January 2012
Oil & Gas Further, the domestic gas supply scenario has deteriorated over the past year due to a significant decline in KG D6 gas production and due to the slow development of other key gas discoveries (thanks to delays in Government approvals, shortage of deepwater rigs and low domestic gas prices). Please refer to our note Is LNG the answer to Indias energy needs? (December 7, 2011) for more details on the prospects of domestic gas production.
Exhibit 13: Domestic gas supply growth will be low and back ended (mmcmd)
FY10 FY11 FY12E FY13E FY14E FY15E Comments Mature fields such as Mumbai High, PMT, Ravva to see a gradual decline. Oil India's gas production in Assam to grow at 4% p.a. due to an increase in demand. ONGC to produce 34mmcmd of gas from its marginal fields in FY13-FY14. ONGC is expected to produce ~25mmcmd of gas from its KG block, but the slowdown in progress due to the exit of its technology partners is likely to push production to FY16-FY17. Sub-surface issues resulted in current production from KG D6 being half of the original expectation. RIL is currently studying the reservoir and expects ramp-up of gas production to be delayed until CY14, as it needs a few years to drill additional wells and connect it to the main reservoir. Slow progress due to delay in approvals for RILs other key gas blocks. This along with shortage of the deepwater rig and low domestic gas price has slowed the progress in its key gas blocks. CBM gas from Essar Oil's CBM blocks (under production) and from RIL's CBM blocks (from FY15 onwards). Due to delay in raising funds, we expect development work at Deen Dayal block to be slow. This could delay commissioning of production to end FY15 or to FY16. As per the FDP, the total capex for Deen Dayal block is `85bn (up to now only `30bn has been raised via term loans).
Existing fields
86.3
80.8
81.7
84.9
85.8
86.6
RILs D6 gas
39.2
55.5
45
50
50
60
RILs NEC gas CBM gas
0.1
GSPC gas Total
125.5
136.5
127.7
136.9
138.8
154.6
Source: Infraline, RIL, ONGC, GSPC, OIL, Ambit Capital research
Hence although CGD has a priority over the industrial segment, the huge unmet demand from the core fertilizer, LPG and power sectors and the bleak outlook of domestic gas production would result in no incremental gas allocation for the CGD sector for the next 2-3 years. In fact, the CGD sector runs the risk of a further cut in the supply of gas from the KG D6 field. Although the CGD sector has been allocated 3.4mmcmd of KG D6 gas (1.2mmcmd on a firm basis and 2.2mmcmd on fallback basis), it is currently receiving less than 0.2mmcmd, and that too runs a risk of being cut off completely.
Existing domestic gas allocation

CGD companies are likely to face a shortage of domestic gas and hence would have to depend on the import of LNG to meet their growth requirements. Since LNG is almost three times more expensive than domestic gas, using LNG would result in an increase in the weighted average cost of gas. Hence CGD companies with a higher proportion of domestic gas such as IGL (83% domestic gas in FY11) would have a competitive edge over others like GGas (68% domestic gas in FY11).
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Oil & Gas

Exhibit 14: Domestic gas allocation to the CGD sector (mmcmd)
APM allocation Entities IGL: NCR Gujarat Gas Company MGL: Thane, Navi Mumbai Bhagyanagar Gas Limited MNGL: Pune GAIL: Agra Firozabad Sabarmati gas Central U.P Gas Limited: Kanpur Adani Energy Ltd. TNGCL, Tripura GAIL: Vadodara Green Gas Limited: Lucknow Vadodara Municipal Corporation Green Gas Limited: Agra Central U.P Gas Limited: Bareilly HPCL GAIL Gas Soumya DSM AGCL 0.01 5.92 0.27 0.01 6.19 2.13 1.23 2.17 0.00 0.04 0.05 0.10 0.00 0.10 0.00 0.10 0.10 0.04 0.05 0.05 0.02 0.02 0.02 0.01 0.01 0.00 0.13 0.13 0.13 0.10 0.10 0.20 0.08 Firm Fallback 2.70 0.29 2.00 0.10 0.40 0.00 0.17 Total 2.70 0.46 2.00 0.10 0.40 2.13 0.37 0.15 0.37 0.20 0.30 0.15 0.10 PMT allocation RIL KG D6 allocation Firm 0.31 Fallback 0.30 0.60 Total 0.61 0.60 0.37 0.52 0.20 0.30 0.23 0.10 0.20 0.00 0.13 0.00 0.00 0.03 0.01 0.05 0.02 0.02 0.00 3.40 3.31 3.19 2.37 0.62 0.60 0.30 0.23 0.20 0.20 0.13 0.13 0.10 0.10 0.07 0.06 0.05 0.02 0.02 0.01 11.72 Total allocation
Total
Source: Infraline, IGL, GGas, Ambit Capital research
Exhibit 15: FY11 gas sourcing breakdown (mmcmd)

CGD entity APM Central UP Gas Ltd, Bareilly Green Gas Limited: Lucknow TNGCL, Tripura Bhagyanagar Gas Limited AGCL Vadodara Municipal Corp Green Gas Limited: Agra MGL: Thane, Navi Mumbai HPCL MNGL: Pune Central UP Gas Ltd, Kanpur IGL: NCR Gujarat Gas Company Sabarmati Gas GAIL Gas Limited, Dewas GAIL Gas Limited, Sonepat GSPC Gas Total Domestic gas PMT KG-D6 Other NA NA NA 0.05 NA NA NA 0.08 0.03 0.05 0.49 0.10 0.04 1.40 NA 0.04 0.10 2.12 0.16 NA NA NA NA 4.65 NA NA NA NA NA NA NA NA NA NA 1.69 NA NA NA NA 1.69 NA NA NA NA NA 0.30 0.05 NA NA 0.15 NA 0.07 NA NA NA 0.57 0.02 NA 0.03 NA NA NA NA NA NA NA 0.44 NA NA NA NA 0.48 Imported LNG 0.00 0.00 0.00 0.00 0.00 0.00 0.00 0.10 0.01 0.01 0.02 0.47 1.07 0.64 0.03 0.01 3.78 6.23 Total 0.05 0.08 0.05 0.05 0.52 0.10 0.04 1.80 0.06 0.05 0.12 2.74 3.36 0.71 0.03 0.01 3.78 13.62 Domestic gas as a percentage of total consumption APM Non-APM Total 100 100 62 100 95 99 98 78 0 87 83 78 5 0 0 0 0 34 0 0 38 0 5 0 0 17 91 0 0 5 63 10 0 0 0 20 100 100 100 100 100 99 98 94 91 87 83 83 68 10 0 0 0 54 LNG as % of total consumption 0 0 0 0 0 1 2 6 9 13 17 17 32 90 100 100 100 46
Source: Infraline, IGL, GGas, Ambit Capital research, Note: NA refers to Domestic gas Not Allocated by the Government
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Oil & Gas
Incremental domestic gas allocation

Furthermore, for any incremental allocation of domestic gas, the Governments intent and the Supreme Courts directive suggest that the Government gives higher priority to the companies who sell a majority of their gas to the common man either via CNG or PNG. This is also in the Governments interest as the substitution of: (a) Petrol/diesel by CNG; and (b) LPG by PNG would help the Government control its ballooning fuel subsidy burden. As the commercial and industrial segments are unregulated, the Government does not want these two segments to enjoy the benefits of low-cost domestic gas. Therefore we expect IGL to be preferred over GGas for additional allocation of domestic gas as ~91% of IGLs FY11 sales volume came from the CNG/household PNG segment compared with ~18% for GGas in CY10.
LNG sourcing capabilities

CGD companies dependency on LNG will only increase going forward. LNG can be sourced via long-term contracts (20-25 years), short-term contracts (2-3 years) or from the spot market. Given the huge price differential (10%-30%) between LNG sourced from the above mentioned options and tightness in the Asian LNG demand-supply balance, CGD companies will need to enter into strategic tie-ups with partners who import LNG. IGL has a natural advantage over other players due to its strong parentage in the form of GAIL (a large importer of LNG into India). Currently IGL is getting 0.44mmcmd of LNG from GAIL/BPCLs share of long term LNG supply from RasGas, 0.25mmcmd of LNG from GAIL's 3-year contract with Marubeni Corporation while the remainder is sourced from the spot market. With GAILs Dabhol terminal expected to commission by March 2012, IGL is banking on GAIL for incremental short-to-medium term LNG contracts. Recently, GAIL has signed a 3.5mmtpa 20-year LNG supply agreement with the US-based Cheniere Energys Sabine Pass LNG liquefaction terminal (18mmtpa capacity) from 2017 onwards. This provides visibility on IGLs LNG sourcing capabilities. GGas, on the other hand, is sourcing LNG via a mix of 2-3 year short term contracts from BG group's global LNG portfolio and from the spot market. With the exit of BG, GGas will now have to enter into an agreement with a third party for sourcing of LNG. This could pose a challenge for GGas given tightness in the Asian LNG demand-supply balance. Further, it needs to enter into a long-term agreement (+10-year contract) for the supply of LNG to provide volume visibility versus its current dependence on the 2-3 year short-term contracts or spot contracts.
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Oil & Gas
(B) Pricing power

Pricing power varies across CGD companies depending on the competitiveness of its product (i.e. CNG, PNG) compared with alternative fuels. CNG is the most competitive fuel given its huge (40%-50%) differential versus petrol prices; distributors with significant presence in the CNG business have better pricing power.
Exhibit 16: Key determinants of pricing power
IGL Statewise tax structure for gas GGas MGL GSPC GAIL Comment Gas Gas Lower sales taxes/VAT on CGD in Delhi compared with the other states improves the relative attractiveness of the CGD business in NCR and gives IGL a competitive advantage versus other CGD companies. High sales taxes/VAT on CGD in Gujarat, impacts the relative pricing power of GGas and GSPC gas. The CNG segment is the most profitable given the 40%-50% differential with the cost of petrol. Further, deregulation of petrol price and the proposed deregulation of diesel price, would add to the cost competitiveness of CNG. As ~80% of IGL and MGLs sales volume is dedicated to the CNG segment, they have better pricing power.
Presence in high margin CNG business Total Source: IGL, GGas, Ambit Capital research. Note:
A presence in states with favourable tax policies

The sales tax/VAT on gas varies across Indian states for the CNG and PNG business. While there is no sales tax/VAT applicable for CNG in the Delhi region (NCR), in other states this tax varies from 5%-15%, the highest being in Gujarat and Madhya Pradesh. A similar trend is visible in PNG as well. However, the variance in sales tax/VAT applicable across states is less pronounced in case of petrol/diesel/LPG. Hence cost competitiveness of CNG and PNG is better in the NCR compared with other states. This serves as a competitive advantage for IGL over other CGD companies, strengthening its pricing power and providing high visibility on the rising discretionary conversion from petrol to CNG vehicles.
Exhibit 17: Sales tax/VAT applicable for CNG v/s petrol/diesel and PNG v/s LPG across states
(%) CNG segment CNG Petrol Diesel PNG segment PNG LPG NCR NIL 20.00 12.24 5.00 NIL UP 13.50 26.55 17.23 26.00 NIL Gujarat 15.00 25.46 24.63 15.00 NIL Maharashtra 12.50 27.85 24.00 12.50 NIL Tripura 12.50 20.00 13.50 12.50 1.50 Haryana 5.25 21.00 9.24 12.50 NIL MP 15.00 30.04 24.23 14.00 5.00 Rajasthan 14.00 28.90 17.89 5.00 NIL
Note: Some local authorities also impose taxes such as octroi on CNG and PNG. Note: UP stands for Uttar Pradesh, MP stands for Madhya Pradesh Source: PPAC, Ambit Capital research
Key business segments

The CNG segment has the highest pricing power followed by the industrial segment, while the PNG segment has the lowest pricing power. Usage of CNG results in ~50% saving in running costs compared to petrol. Industrial consumers also find it relatively easy to absorb the price hike as alternative liquid fuels are 10%-30% more expensive than gas. But PNG is ~5%-15% more expensive than subsidized LPG, and its cost competitiveness is subject to a gradual decline in the LPG subsidy with the proposed capping of subsidized LPG cylinders.
13
Oil & Gas Further CNG/PNG customers are stickier in nature, compared to industrial customers, due to their limited flexibility to switch back to liquid fuels owing to the upfront cost incurred for CNG kit/PNG connectivity. On the other hand, the industrial consumer always has the flexibility to revert to usage of liquid fuels given the dual fired nature of their plants. (1) CNG: Strong pricing power CNG prices in India are 40%-50% lower than the price of petrol due to: (a) High taxes on petrol compared to CNG see table below; and (b) The usage of low-cost domestic gas helps to reduce the price of CNG while the strength of international crude prices is driving the price of deregulated petrol upwards.
Exhibit 18: High taxes on petrol boost CNGs cost competitiveness
`/litre India (Delhi) Pakistan Bangladesh Sri Lanka Nepal
Source: PPAC, Ambit Capital research
Petrol 65.64 41.93 45.53 50.75 63.79
Diesel 40.90 47.59 27.57 34.69 42.70
Note: Price in India is as of Feb 22, 2012; prices for all other countries are as of July 2011
Taxes constitute a high 41%-43% of the final price of petrol, although this varies across states based on the variation in sales tax/VAT rates of the various states. Though the impact of taxes on diesel price is lower than that on petrol, it is still high with taxes constituting 18%-25% of its final price. But taxes on CNG are lower: from 13% (in Delhi) to 28% (in Gujarat and Madhya Pradesh).
Exhibit 19: High taxes on petrol/diesel boost CNGs cost competitiveness
(%) Delhi Taxes as a % age of final price -Central taxes (excise duty, customs duty) -State taxes/VAT Gujarat Taxes as a % age of final price -Central taxes (excise duty, customs duty) -State taxes/VAT
Source: PPAC, Ambit Capital research
Petrol 41 18 23 43 16 27
Diesel 18 7 11 25 6 19
CNG 13 13 NIL 28 13 15
Hence as petrol prices are twice that of CNG, usage of CNG as a replacement for petrol in 4-wheelers or 3-wheelers would result in ~50% reduction in fuel cost per kilometre. Even though there is an upfront cost of `25,000-`40,000 to be incurred for installing the CNG kit, the cost can be recovered within 12-15 months if the daily usage is 40km-50km. Similarly, CNG would result in ~18% saving in the running cost per kilometre if it is used to replace diesel in a 4-wheeler or a bus see exhibits 20 and 21 on the next page. The saving is lower in diesel compared to petrol due to: (a) Taxes on diesel being lower; and (b) Regulation of the diesel price resulting in its price being `12`13/litre lower than the market price. Note that the Government deregulated petrol prices with effect from June 25, 2010 while it announced its intention to gradually deregulate diesel prices over time. This resulted in the petrol prices rising by 39% since the deregulation decision compared with a mere 7% increase in diesel prices (while crude prices have risen by ~55% during this period).
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Oil & Gas If the Government opts for diesel deregulation or even a `3-`4/litre hike in diesel prices post the ongoing state elections, it will further strengthen the pricing power of CNG.
Exhibit 20: CNG cost competitiveness analysis (for Delhi)
Bus (CNG) Cost of CNG kit (`) CNG price per kg (`) Mileage per kg (km) CNG cost per km (`) (A) (B) (C) (D=B/C) 175,000 33.75 3.5 9.6 Bus (diesel) Cost of other fuel: (diesel for bus and 4 wheeler and petrol for 4 and 3 wheeler) (`/litre) (E) Mileage (km per litre) (F) Other fuel cost per km (`) Saving per km from CNG (`) CNG cost competitiveness (%) Daily average travel (km) Yearly savings (`) Payback period (months) Breakeven (in km)
Source: IGL, GGas, Ambit Capital research
4 wheeler (CNG) 40,000 33.75 12 2.8 4 wheeler (diesel) 40.91 12 3.4 0.6 18 40 12,000 7,160 67.0 67,039
4 wheeler (CNG) 40,000 33.75 12 2.8 4 wheeler (petrol) 65.64 12 5.5 2.7 49 40 12,000 31,890 15.1 15,052
40.91 3.5 11.7 2.0 18 150 45,000 92,057 22.8 85,545
(G=E/F) (H=G-D) (I=H/G) (J) (L=H*K) (M=A/L*12) (N=A/H)
Annual travel assuming 300 days (km) (K=J*300)
Exhibit 21: CNG cost competitiveness analysis (for Gujarat)

Bus (CNG) Cost of CNG kit (`) CNG price per kg (`) Mileage per kg (km) CNG cost per km (`) (A) (B) (C) (D=B/C) 175,000 43.4 3.5 12.4 Bus (diesel) Cost of other fuel: (diesel for bus and 4 wheeler and petrol for 4 and 3 wheeler) (`/ litre) (E) Mileage (km per litre) (F) Other fuel cost per km (`) Saving per km from CNG (`) CNG cost competitiveness (%) Daily average travel (km) Annual travel assuming 300 days (km) Yearly savings (`) Payback period (months) Breakeven (in km)
Source: IGL, GGas, Ambit Capital research
4 wheeler (CNG) 40,000 43.4 12 3.6 4 wheeler (diesel) 46.3 12 3.9 0.2 6 40 12,000 2,850 168.4 168,421
46.3 3.5 13.2 0.8 6 150 45,000 36,643 57.3 214,912
(G=E/F) (H=G-D) (I=H/G) (J) (K=J*300) (L=H*K) (M=A/L*12) (N=A/H)
Although a part of CNGs cost competitiveness is attributable to the allocation of low-cost domestic gas, CNG will still sustain its competitiveness even if the proportion of LNG rises to 100% see exhibit 22 on the next page. Even if we assume 100% of the gas requirement is met via import of LNG, the price of CNG would still be 19% lower than petrol.
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Oil & Gas

Exhibit 22: CNG cost competitiveness scenario analysis for IGL
Current gas mix Case 1 Case 2 75% domestic gas 50% domestic gas 25% domestic gas + 25% LNG + 50% LNG + 75% LNG Weighted average gas cost (US$/mmbtu) Gas cost (`/kg) Operating expenses (including distribution, compression and marketing) (`/kg) Basic selling price (`/kg) Excise duty @ 14.42% (`/kg) Vat @ 0% (`/kg) CNG price (`/kg) Petrol price (`/litre) CNG's cost competitiveness v/s petrol Diesel price (`/litre) CNG's cost competitiveness
Source: Infraline, Ambit Capital research
Case 3 100% LNG 16.0 34.91 11.79 46.70 6.73 0.00 53.43 65.64 19% 40.91 -31%
6.5 14.26 11.79 26.05 4.25 0.00 33.75 65.64 49% 40.91 18%
10.0 21.82 11.79 33.61 4.85 0.00 38.45 65.64 41% 40.91 6%
13.0 28.37 11.79 40.16 5.79 0.00 45.96 65.64 30% 40.91 -12%
(2) Industrial segment: Medium pricing power Given the shortage of domestic gas and the fact that the industrial segment does not feature in the Governments priority list for allocation of domestic gas, incremental demand from the industrial segment will be met via LNG imports. However, even if we assume that 100% of the gas requirement for industrial consumers is sourced from LNG imports, then too LNG would be competitive for industrial consumers. We estimate that even at a high 14.5% linkage to US$100/bbl of crude price, the delivered cost of LNG would be US$17.8/mmbtu compared to US$20US$22/mmbtu range for alternative liquid fuels. Thus the cost of gas will be 11%25% lower than the prices of alternative liquid fuels see exhibit 23 below.
Exhibit 23: Gas cost competitiveness v/s liquid fuels for the industrial segment
LNG Brent crude price (US$/bbl) Liquid fuel's average discount/premium to Brent (%) Implied f.o.b. fuel price (US$/mmbtu for LNG and US$/bbl for liquid fuels) Add: Transportation, taxes and duties, processing, marketing and other costs (US$/mmbtu for LNG and US$/bbl for liquid fuels) Implied delivered price to the end-consumer post adjustment for subsidy on diesel (US$/mmbtu for LNG and US$/bbl for liquid fuels) Implied f.o.b. fuel price adjusting for diesel subsidy (US$/mmbtu) LNG's discount to liquid fuels (%)
Source: Bloomberg, Ambit Capital research
Fuel oil Naphtha 100 -15 100 -1 99.0 19.8
Diesel 100 10 110.0 16.5
100
14.5 3.2
85.0 17.0
17.7 17.7
102.0 19.6 11
118.8 20.7 17
120.2 22.1 25
Exhibit 24 shows the historical comparison of gas costs (based on LNG imports) with the prices of fuel oil, naphtha and diesel in US$/mmbtu terms. Clearly, LNG prices have been 10%-20% lower than prices of alternative liquid fuel.
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Oil & Gas

Exhibit 24: LNGs cost competitiveness v/s liquid fuel
(US$/mmbtu) 25 20 15 10 5 0 Jan-09 Jul-09 Jan-10 Jul-10 Jan-11 Jul-11 Jan-12 Fuel oil Naphtha Brent LNG Diesel
(3) PNG: Pricing power subject to capping of LPG subsidy Even though PNG is slightly more expensive than subsidized LPG, it is still attractive given that PNG is easily accessible and helps to meet the huge demand for reliable and continuous supply of cooking gas. Currently the Government provides LPG to all families at ~`400/cylinder (of 14.2kg) against a market price of `750/cylinder. Hence the cost of PNG is marginally higher (1%-15%) versus the cost of LPG.
Exhibit 25: Cost competitiveness: PNG v/s LPG
IGL Cost of the domestic LPG cylinder of 14.2kg (`) Cost per kg of LPG (`) PNG selling price per kg (`) Price advantage over LPG (`/kg) Price advantage over LPG (%)
GGas 402 28.3 28.5 -0.2 -1
399 28.1 32.2 -4.1 -14
However, it is worth noting that LPG prices in India are very low (~50%) compared to prices prevailing in other countries see exhibit 26 below. Hence the Government is considering capping the number of subsidized LPG cylinders at 5-6 cylinders p.a. per household against the average annual consumption per family of 11-12 cylinders. This would drive up the average cost of LPG to ~`-`500550/cylinder thereby improving the competitiveness of PNG. Considering the huge LPG user base and the Governments intention to phase out the subsidy on LPG, there is a huge growth potential for gas consumption in the PNG segment.
Exhibit 26: LPG price comparison
Country India (Delhi) Pakistan Bangladesh Sri Lanka Nepal
Source: PPAC, Price in India is as of 10th Feb 2012, all other countries prices are as of July 2011
LPG (`/14.2kg cylinder) 399 606 474 872 827
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Oil & Gas
(C) Volume growth potential

The scarcity of natural gas and the inadequate pipeline infrastructure has led to slower ramp-up of gas supply through the city distribution network in India compared to other countries. But as the supply of gas has been improving and as the countrys gas pipeline grid is expanding, more Indian cities should get access to natural gas going forward. PNGRB has laid down a target to spread the CGD network across 200 cities with potential gas demand of 80mmcmd (current consumption: 14mmcmd from 25 cities). The aim is to have a CGD network in all cities with population above 2.5mn and then to expand to cities with a population between 1mn and 2.5mn. Of India's total population of 1.2 billion, ~30% stay in cities with greater than 1mn population. These cities can be connected with the city gas network within the next 10 years. If even 75% of the above stated segment gets connected with gas infrastructure, it would mean a potential consumer base of 270mn. The global average per capita gas consumption (for CNG and PNG) is 0.1scmd, implying a potential demand of 27mmcmd for residential use. In addition, based on potential liquid fuel consumption in the industrial segment that can be substituted with gas, the requirement of small scale industries is estimated as 28mmcmd. Hence gas consumption in the CGD segment is likely to grow from ~14mmcmd currently to 55mmcmd over the next 10 years. Hence, companies with a licence to operate in cities with high potential gas demand, will have a competitive edge. Further, as CNG is the most competitive segment, companies with significant exposure to CNG are better placed.
Exhibit 27: Driver of competitive advantage in volume growth potential
IGL GGas MGL GSPC GAIL Comment Gas Gas Exclusive CGD licence for high-growth cities (like NCR/Mumbai) gives the company (like IGL/MGL) a first mover advantage to capture the huge opportunity before the exclusivity period ends. A presence in the high growth NCR market along with Supreme Court order to convert all public vehicles to CNG in NCR, puts IGL in a sweet spot. The CNG and PNG segments have the highest growth potential versus the industrial segment as penetration of CNG/PNG is less than10%. As ~90% of IGL and MGLs sales volume is to the CNG/PNG segment, they are better placed to tap this growth opportunity.
Presence in high growth cities
Presence in high growth potential CNG and PNG business Sub-total Source: IGL, GGas, Ambit Capital research. Note:
Presence in high growth cities

As can be seen from exhibit 28 below, the potential for gas demand in cities varies depending on its population, stage of economic growth, trunk pipeline connectivity, any regulatory push for switching over to gas, any tax benefit for CGD companies etc. Given the volume growth potential, the NCR is among the prime markets for the CGD business, although a significant part of its growth is attributable to the Supreme Courts July 1998 order to convert all buses, three-wheelers and taxis in Delhi to adopt CNG as a fuel by March 31, 2001. Hence we expect IGL to see 16% volume CAGR over next 3-4 years from its existing cities given the competitiveness of its CNG business and the low penetration currently of CNG and PNG in the NCR.
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Oil & Gas

Exhibit 28: Demand potential of existing CGD network (mmcmd)
CGD companies CGD licence Delhi, Noida, Greater Noida, Faridabad & Ghaziabad Surat, Bharuch and Ankleshwar Rajkot and many other districts Mumbai Gandhinagar, Mehsana & Sabarkantha FY11 sales 2.74 3.36 3.78 1.80 0.71 0.05 0.05 0.05 Potential demand in FY15* 5.21 4.13 5.40 3.20 1.20 0.81 2.20 1.10
Although the PNGRB was constituted in 2006, it was not able to issue even a single CGD licence as the Delhi High Court (via its January 21, 2010 order) questioned the PNGRBs power to issue authorisation for CGD projects since the Government had not notified Section 16 of the PNGRB Act, (Section 16 gives PNGRB the powers to grant CGD licences). Section 16 was finally notified by the Government in July 2010 and the Supreme Court gave its decision in May 2011 in favour of the PNGRB thereby allowing it to process all pending applications for the grant of CGD licences.
IGL Gujarat Gas GSPC Gas MGL Sabarmati Gas
Maharashtra Natural Gas Pune Hyderabad, Vijaywada, Rajahmundry and Bhagyanagar Gas Ltd. Kakinada GAIL Gas Ltd. Dewas, Kota, Sonepat and Meerut
Source: Infraline, Ambit Capital research *Ambit Capital research estimate
To accelerate deployment of the CGD network, PNGRB had invited bids in 2009 for 13 cities in two rounds. The bidding process for the third round got delayed due to inability of the PNGRB to issue the CGD licences see callout on the left. However, thanks to the Supreme Courts May 2011 decision, PNGRB can now process all pending CGD licence allocations and the winners are expected to be announced by March 2012. The fourth round of bidding has been cancelled by the PNGRB owing to aggressive bidding by the companies (which has resulted in companies quoting low bids making the project appear unviable and raising doubts about its actual execution).
Exhibit 29: Completed CGD bidding rounds

Bidding round City Devas Kakinada 1st bidding round: March 2009 Kota Meerut Sonepat Mathura Rajahmundry, Yanam Sehdol 2nd bidding round: June 2009 Chandigarh Allahabad Ghaziabad Jhansi Asansol 3rd bidding round: Bidding concluded in Feb 2011and award announcement is likely by Mar 2012 Bhavnagar Kutch East Kutch West Jamnagar Jalandhar, Ludhiana Rangareddy, Medak, Khammam, Nalgonda Ernakulam State Winners of 1st and 2nd bidding rounds and Bidders of the 3rd round Bhagyanagar Gas (JV of GAIL/HPCL) GAIL GAIL GAIL DSM Infratech RIL Adani Energy/IOC Adani Energy/IOC IGL Central UP Gas Limited HPCL, GAIL Gas, Great Eastern Energy., Essar Projects Ltd, etc GSPC Gas, Gujarat Gas HPCL, GAIL Gas, GSPC Gas, Adani Gas, PSL Gas Distribution etc JSIW Infrastructure, GSPC Gas, Adani Gas, PSL Gas Distribution etc GSPC Gas, Lanco Infratech Ltd. HPCL, IGL, GAIL Gas, IOCL/Adani, BPCL/ONGC/OIL, GSPL/GSPC.
Madhya Pradesh GAIL Andhra Pradesh Rajasthan Uttar Pradesh Haryana Uttar Pradesh Andhra Pradesh Haryana Uttar Pradesh Uttar Pradesh Uttar Pradesh West Bengal Gujarat Gujarat Gujarat Gujarat Punjab Andhra Pradesh
Madhya Pradesh RIL
4th bidding Kerala round: these bids Bidding was initiated in Oct 2010 but has been has been cancelled Guna Madhya Pradesh by PNGRB. have been cancelled Alibag, Lonavla/Khopoli Maharashtra Shahjahanpur
Uttar Pradesh
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Oil & Gas
Presence in the high-growth potential CNG and PNG business

Due to the scarcity of natural gas and the inadequate pipeline infrastructure, the transport (CNG) and the residential segments in cities constituted only 2.8% of the total gas consumed in India in CY10 compared with, say, 22% in the US. But now, as the supply of gas has improved (thanks to RILs KG D6 field and due to Indias improved ability to import LNG), and as the natural gas pipeline grid expanded, more Indian cities were able to gain access to natural gas. Hence its application in the residential and transportation sectors is expected to increase going forward.
Exhibit 30: US CY10 gas consumption breakdown
Fertilizer, 0% Power, 33.3%
Exhibit 31: Indian CY10 gas consumption breakdown

Residential and CNG, 2.8% Fertilizer, 24.0% Commerci al, 1.2%
Residential and CNG, 22.3%
Industrial, 29.0%
Commerci al, 14.4%
Industrial, 29.8%
Source: EIA, Ambit Capital research
Power, 43.0%
As at end-FY11, there were 1.1mn CNG vehicles and the PNGRB expects this number to increase to 6mn vehicles over the next 10 years. As is evident from the exhibit 32 below, more than 40% of the CNG vehicles are from the NCR region. This is driven by a mix of regulatory push (Supreme Court order) and favourable tax breaks for CNG in Delhi. As IGL holds the licence for the CGD business in Delhi and NCR, it is well placed to capture this huge market.
Exhibit 32: Breakdown of statewise CNG vehicles (in 000)
State NCR Gujarat Maharashtra Uttar Pradesh Haryana Andhra Pradesh Madhya Pradesh Tripura Total
Cars/Taxies 282 133 68 2 22 1 2 0 510
Autos 122 196 154 21 4 7 4 2 508
Buses 17 4 4 2 0 0 0 0 28
Others 11 4 3 9 1 0 0 0 27
Total 432 337 229 33 27 8 6 2 1,074
To support volume growth, IGL plans to invest `28bn over FY12E-FY16E to increase the number of CNG stations and to provide a PNG network to all its geographical areas, so as to capture the full potential of its existing cities. IGL has consistently increased the number of CNG stations from 181 in FY09 to 278 stations by the end of FY11; with 40 of these stations to start operations by June 2012 (they are awaiting statutory clearance). Further IGL is constructing another 20-30 CNG stations, of which ~20 stations are expected to be commissioned in FY13.
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Oil & Gas

Exhibit 33: IGL has superior CNG infrastructure
State Gujarat Delhi/NCR Maharashtra Andhra Pradesh Uttar Pradesh Tripura Haryana All India
Source: PPAC, Ambit Capital research, Note: *as of Sept 11
Company GAIL Gas/Adani Energy/Gujarat Gas IGL MGL (Mumbai), MNGL(Pune) Bhagyanagar Gas Ltd (Hyderabad) Green Gas (Lucknow), CUGL(Kanpur) Tripura Natural Gas (Agartala) Haryana City Gas
No. of CNG stations* 242 207 164 18 38 2 12 12 695
No. of CNG vehicles (in '000)* 414 460 276 10 41 3 8 35 1,247
FY11 CNG sales (000 tonnes)* 323.1 596.0 353.7 11.9 93.3 2.0 6.2 34.7 1,420.9
Madhya Pradesh Avantika Gas (Indore)/ GAIL Gas
Exhibit 34: Summary of competitive landscape analysis

IGL Gas sourcing abilities Existing domestic gas allocation Incremental domestic gas allocation IGL and MGL have been allocated a higher proportion of domestic gas by the Government due to their significant presence in the CNG and PNG segments. A decline in PMT gas production could lower gas allocation for GGas. IGL and MGL enjoy higher priority v/s other CGD companies for incremental allocation of domestic gas, as they sell almost ~90% of the gas to the common man in the form of CNG or PNG while GGas sells only ~18% of its volume to CNG/PNG segment. IGL, MGL and GAIL Gas have superior ability to source LNG at competitive prices given it is promoted by GAIL, who has significant presence in the business of importing LNG. IGL gets LNG at a competitive price of US$9-US$12/mmbtu compared to the cost of US$13-US$15/mmbtu that most other players pay. The exit of BG Group could pose a threat to GGass ability to source LNG at competitive prices. GGas MGL GSPC GAIL Comment Gas Gas
LNG sourcing capabilities
Sub-total Pricing power State wise tax structure for gas Lower sales taxes/VAT on CGD in Delhi compared with the other states improves the relative attractiveness of the CGD business in the NCR and gives IGL a competitive advantage versus other CGD companies. High sales taxes/VAT on CGD in Gujarat, impacts the relative pricing power of GGas and GSPC gas. The CNG segment is the most profitable given the 40%-50% differential with the cost of petrol. Further, deregulation of petrol price, and proposed deregulation of diesel price, would add to the cost competitiveness of CNG. As ~80% of IGL and MGLs sales volumes are to CNG segment, they have better pricing power.
Presence in high margin CNG business Sub-total Volume growth potential Presence in high growth cities
Exclusive CGD licence for high-growth cities (like NCR/Mumbai) gives companies (like IGL/MGL) a first mover advantage to capture the huge opportunity before the exclusivity period ends. A presence in high growth NCR market along with the Supreme Court order to convert all public vehicles to CNG in NCR, puts IGL in a sweet spot. CNG and PNG segments have the highest growth potential versus the industrial segment, as penetration of CNG/PNG is less than10%. As ~90% of IGL and MGLs sales volume is to CNG/PNG segment, they are better placed to tap this growth opportunity. IGL is the best placed firm to take advantage of the huge CGD opportunity
- Strong, - Weak, - Very Weak
Presence in high growth potential CNG and PNG business Sub-total Grant total Source: IGL, GGas, Ambit Capital research. Note:
- Very Strong,
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Oil & Gas
We see IGL as the best CGD play

We prefer IGL over GGAS based on: (a) High allocation of domestic gas due to its exposure to Government preferred CNG/PNG business and efficient sourcing of LNG given its strong parentage, (b) Pricing power which is underpinned by its significant presence in the competitive CNG segment and the favourable tax treatment for CGD in the NCR; and (c) Strong volume growth potential due to its exclusive licence for setting up a CGD network in the huge NCR market plus its presence in underpenetrated and Government preferred CNG/PNG business.
Higher mix of domestic gas

The Government had allocated 0.5mmcmd for Ghaziabad/Faridabad CGD projects, but the actual consumption in these regions stood at only ~0.2mmcmd, resulting in IGL not being able to utilize the balance ~0.3mmcmd of APM gas allocation. In June 2011, the Government allowed it to use the excess APM gas available for its Delhi CGD where demand was higher than the APM allocation of 2mmcmd. As discussed above, the high allocation of domestic gas is the biggest competitive advantage for IGL as it met 83% of its current gas requirement compared to ~68% for GGas and the average of ~54% for other CGD companies. The Government has allocated 2.7mmcmd of domestic APM gas to IGL for its NCR operations and has allowed it to use unutilised APM allocations for Ghaziabad/Faridabad CGD for its Delhi CGD. Further IGL has been allocated APM gas, priced at US$4.2/mmbtu, compared with GGas which has been allocated PMT gas, priced at US$5.7/mmbtu. Moreover production from the PMT field is on a declining phase and hence GGas faces the risk of a decline in its PMT allocation.
Exhibit 35: IGL gas sourcing mix (mmcmd)
Allocation APM gas for: Delhi Noida/Greater Noida Ghaziabad Faridabad Total APM gas Total Domestic gas LNG Total
Source: IGL, Ambit Capital research ... *for FY12
Actual supply* 2.00 0.20 0.25 0.25 2.70 0.05 2.75 0.74 3.49
2.00 0.20 0.25 0.25 (A) (C=A+B) (D) (E=C+D) 2.70 0.61 3.31
RIL KG D6 gas (0.31 on firm basis and 0.30 on fallback basis) (B)
But for GGas, the decline in supply from the matured PMT field and lack of additional domestic gas allocation would result in its entire volume growth being met via import of LNG. The share of LNG in its gas mix during CY11 stood at a high 38%. Though GGas has been allocated 0.6mmcmd from the KG D6 block on a fallback basis, gas supply is not expected to commence unless KG D6 gas production exceeds ~75mmcmd (against current production of ~39mmcmd), the likelihood of which appears limited over the next 3-4 years given the reservoir challenge being faced by the operator.
Exhibit 36: GGas gas sourcing mix (mmcmd)
Allocation Domestic gas: PMT, APM, Niko and Cairn Lakshmi field RIL KG D6 (0.61on fallback basis) Total domestic gas LNG Total
Source: GGas, Ambit Capital research ... *for CY11
Actual supply* 2.20 0.00 2.20 1.31 3.51
2.83 0.61 (A) (B) (C=A+B) 3.44
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Oil & Gas Though the share of LNG in IGL will also grow to ~48% of its gas mix in FY15, similar to GGas, it is due to the higher volume CAGR of 15% expected in IGL over the next 3-4 years compared to the 4%-5% volume CAGR expectation for GGas.
Exhibit 37: IGL: Domestic gas dominates the gas mix
100% 80% 60% 40% 20% 0% FY09 LNG
Source: IGL, Ambit Capital research
Exhibit 38: GGas: LNG acquires major share of gas mix

100% 80% 60% 40%
3% 8% FY10
14% FY11
21% FY12e
33% FY13e
43%
47%
20% 0% 8% CY08 13% CY09
26% CY10
37%
41%
45%
48%
CY11e
CY12e
CY13e
CY14e
Domestic gas
Higher priority for allocation of additional domestic gas

IGL would be preferred over GGas for the additional allocation of domestic gas as ~91% of the IGL sales volume arises from CNG/household PNG segments compared with ~18% for GGas. This is also evident in the KG D6 allocation, where IGL has been allocated 0.31mmcmd on a firm basis and 0.3mmcmd on a fallback basis, while GGas was allocated 0.6mmcmd entirely on a fallback basis.
Exhibit 39: IGL: CNG will continue to dominate its sales mix
100% 80% 60% 40% 20% 0% FY09 CNG
FY14e
FY15e 100% 80% 60%
LNG
Domestic Gas
Exhibit 40: GGas: Industrials to continue to lead sales mix
4%
6%
9%
11%
12%
14%
15%
72%
81%
83%
82%
80%
79%
77%
92%
89%
82%
78%
75%
72%
70%
40% 20% 0% 8% CY08 10% CY09 10% CY10 11% CY11e 12% CY12e 13% CY13e 14% CY14e
FY10
FY11 PNG
FY12e
Strong parentage helps IGL with LNG sourcing

As discussed above, IGLs strong parentage in the form of GAIL gives it a competitive edge for the efficient sourcing of LNG. But on the other hand, the recent decision of the BG Group to sell its stake in GGas would raise a question on GGass ability to source LNG. Further, GGass high dependence on LNG imported via spot contracts doesnt provide volume visibility and makes them vulnerable to price volatility of spot LNG.
FY13e
Industrial
FY14e
FY15e
CNG
PNG
Industrial
23
Oil & Gas
Strong pricing power

As discussed in detail in the preceding pages, IGL has strong pricing power driven by:
Favourable taxation for CNG in the NCR strengthening its competitive positioning Higher proportion of domestic gas High exposure to the competitive CNG business.
In contrast, GGas will continue to face pressure on its margins due to the growing proportion of high-cost LNG in its gas mix. Moreover, the cost of LNG is higher for GGas due to its high dependence on LNG imports via spot contracts.
Better growth prospects for IGL

IGLs growth prospects lie in its exclusive licence to distribute gas within the extensive NCR market. The Supreme Courts regulation forcing compulsory usage of CNG in public commercial vehicles in the NCR region fuelled its volume growth over the last decade. We expect the growth momentum in the current decade to come from private vehicle conversions going forward driven by the attractive economics versus petrol, along with the launch of several CNG-fitted vehicles by car manufacturers. We expect IGL to see 16% volume CAGR over the next 3-4 years from its existing cities given the competitiveness of its CNG business and given the low penetration of CNG and PNG segments. Delhi has a total vehicular population of approximately 5mn; of which only ~0.46mn operate on CNG. Thus, even after a decade since its introduction, the CNG penetration, at less than 10% is still very low. The 35% increase in petrol prices since the deregulation of petrol in June 2010 has widened the differential between CNG and petrol price pushing up the discretionary conversion of private vehicles to CNG to 5,000 cars/month compared with 3,000 cars/month last year. We expect the pace of car conversion rate to accelerate further as diesel prices are expected to rise due to its proposed deregulation. The importance of the private car segment can be appreciated from the fact that cars/taxis comprised almost two-thirds the total CNG vehicles in the NCR, of which ~90% is private cars and the balance is taxis.
Exhibit 41: CNG vehicles growth trend (in 000)
FY07 Cars/Taxi Auto Buses Rural transport vehicle Total 48 68 12 5 133 FY08 130 80 12 6 228 FY09 175 93 13 6 287 FY10 213 107 14 6 340 FY11 282 122 17 11 431 FY11 mix 65.3% 28.2% 3.9% 2.6% 100% FY07-11 CAGR 56% 15% 10% 20% 34%
To support volume growth, IGL is putting in place measures to significantly enhance and expand infrastructure. IGL has consistently increased the number of CNG stations from 181 in FY09 to 278 stations by the end of FY11, with 40 of these stations to start operations by June 2012, as they are awaiting clearance from the fire and explosives department. Further, IGL is constructing 20-30 CNG stations, of which ~ 20 stations are expected to be commissioned in FY13. IGL plans to invest `28bn over FY12E-FY16E to increase the number of CNG stations, provide a PNG network to all its geographical areas and connect to as many industrial consumers so as to capture the full potential of its existing cities.
24
Oil & Gas

Exhibit 42: IGLs capex plan on a growing spree
9 8 7 6 5 4 3 2 1 0
FY00 FY01 FY02 FY03 FY04 FY05 FY06 FY07 FY08 FY09 FY10
Heavy capex phase
FY11
FY12e
FY13e
FY14e
FY15e
In contrast, for GGas the volume CAGR would be capped at 4%-5% as its growth is primarily dependent on the saturated Industrial segment demand. It is to be noted that industries in Gujarat have been well served with gas for the last couple of decades due to its proximity to the source of gas supply and pipeline connectivity, thus the demand growth from this segment would be only 3%-4% p.a. GGas plans to incur capex of approximately `1.5bn p.a. over the next three years for expansion within its existing operational area. Further the company has bid for Bhavnagar (potential demand of ~1mmcmd) to support its future growth prospects. If it were to win the bid for Bhavnagar, then it would require incremental capex of `1.0bn to 1.2bn annually for the first five years.
Exhibit 43: IGL: Volume growth to continue to be robust
6.0 5.0 4.0 3.0 2.0 1.0 0.0 FY09 FY10 FY11 FY12e FY13e FY14e FY15e 30% 25% 20% 15% 10% 5% 0%
Exhibit 44: GGas: Volume growth stagnating at 4%-5%

6.0 5.0 4.0 3.0 2.0 1.0 0.0 CY08 CY09 CY10 CY11e CY12e CY13e CY14e 30% 25% 20% 15% 10% 5% 0% -5% -10% -15%
Sales volume (mmcmd)

Growth (Y-o-Y)
Sales volume (mmcmd)

Growth (Y-o-Y)
Relative valuation
At the current market price:
IGL is trading at: (a) 1-year forward EV/EBITDA of 8.1x, 25% higher than its own 5-year average multiple of 6.5x; (b) 1-year forward PE of 14.5x, 24% higher than its 5-year average multiple of 11.7x; and (c) 1-year forward PB of 3.5x, 17% higher than its 5-year average multiple of 3.0x. GGas is trading at: (a) 1-year forward EV/EBITDA of 10.3x, 24% higher than its own 5-year average multiple of 8.3x; (b) 1-year forward PE of 15.6x, 28% higher than its 5-year average multiple of 12.2x; and (c) 1-year forward PB of 4.8x, 41% higher than its 5-year average multiple of 3.4x.
25
Oil & Gas The comparison to the 5-year average multiple makes IGL look expensive. However, IGL was trading at low valuations before June 25, 2010 due to concerns on its pricing power as petrol prices were regulated impacting the competitiveness of CNG. But since the deregulation of petrol prices on June 25, 2010, the stock has traded at a 1-year forward PE of 15.8, 1-year forward PB of 4.1x and 1-year forward EV/EBITDA of 8.9x. Hence post June 25, 2010 we note the following improvements in IGLs fundamentals: (i) Cost competitiveness of CNG improved due to deregulation of petrol price amid high crude prices; (ii) Allocation of additional APM gas to IGL for expansion into NCR lowered its gas cost; and (iii) There was increasing evidence of IGLs pricing power, as it managed to pass on the increase in gas cost by raising CNG prices by over 20% in the last one year. GGas is trading at a PE multiple in line with IGL. But GGas trades at 15% premium to IGL on the PB and EV/EBITDA multiples despite its volume growth stagnating at ~5% and resulting in muted earnings growth of 4.4% over CY11-CY14E. This is despite its pricing power being under risk due to its higher dependence on LNG.
Exhibit 45: IGL 1-year forward PE band (`)

500 400 300 12x 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 9x 7x 17x 15x
Exhibit 46: GGas 1-year forward PE band (`)

500 400 300 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 17x 15x 12x 9x 7x
Exhibit 47: IGL 1-year forward PB band (`)

500 5x 400 300 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 4x 3x 2x 1x
Exhibit 48: GGas 1-year forward PB band (`)

500 400 300 200 2x 100 0 Feb-06 Feb-08 Feb-10 Feb-12 1x 5x 4x 3x
26
Oil & Gas IGL is trading at 15.4x FY13 consensus EPS, a 10% discount versus global peers and at the lower end of 15x-20x, at which most Asian peers are trading. This is despite its: (a) superior RoCE of +20%; and (b) strong earnings growth of 12% CAGR over FY11-FY14E. GGas also trades at a similar multiple as IGL despite its volume growth stagnating at ~5% resulting in muted earnings growth of 4.4% during CY11-14E.
Exhibit 49: Global gas utilities valuation table
Company US Peers Energy Transfer Partners LP El Paso Corp Nustar Energy Oneok Partners Boardwalk Pipeline LP Enbridge Energy Kinder Morgan Energy EQT Corp Nisource National Fuel Gas Energen Corp Southern Union Piedmont Natural Gas Vectren Corporation Spectra Energy Partners APA group Enterprise Products Partners LP Magellan Midstream Partners LP US peers average European Peers EV/EBITDA (x) FY12/ FY13/ CY11 CY12 10.0 12.8 12.4 13.1 12.5 12.4 10.9 8.5 9.0 7.2 5.9 11.4 10.2 7.0 10.4 3.6 15.0 15.0 10.4 8.7 10.8 11.0 11.7 11.6 11.5 9.7 6.8 8.5 6.0 5.0 10.6 9.6 6.5 9.9 3.3 14.0 13.8 9.4 6.8 5.9 6.3 22.5 8.6 15.7 7.9 8.6 11.6 10.7 6.9 5.3 7.9 7.3 9.3 10.2 9.5 9.0 P/E (x) FY12/ FY13/ CY11 CY12 24.1 26.4 19.8 20.2 20.1 23.8 37.8 23.1 16.6 18.4 15.3 23.1 20.4 15.9 16.2 9.0 22.4 18.9 20.6 9.3 17.4 13.3 25.0 17.5 19.1 18.6 17.5 19.5 21.3 11.8 9.0 12.2 16.3 15.8 17.0 18.8 18.7 19.2 22.4 17.0 20.7 18.3 21.9 33.9 16.9 15.9 16.4 11.9 21.6 19.0 15.0 15.4 7.8 20.7 17.3 18.4 8.7 11.0 9.9 23.0 14.4 15.3 15.2 15.1 16.6 19.4 11.1 8.8 12.0 14.6 14.3 15.0 16.6 16.1 P/B (x) EBITDA margin (%) FY12/ FY13/ FY12/ FY13/ CY11 CY12 CY11 CY12 1.8 4.2 1.5 2.9 1.6 2.3 3.9 2.1 1.3 2.0 1.4 2.0 2.5 1.6 2.3 1.3 4.0 5.1 2.4 1.7 0.8 1.3 3.7 3.1 1.2 2.9 1.7 1.5 3.5 2.0 1.9 3.7 3.9 4.9 2.8 2.5 2.1 1.9 3.5 1.6 2.8 1.6 2.3 3.9 1.9 1.3 1.9 1.3 1.9 2.3 1.6 2.1 1.1 4.1 4.9 2.3 1.6 0.8 1.2 3.4 2.6 1.1 2.5 1.5 1.4 3.3 1.8 1.6 3.0 3.3 4.1 2.5 2.3 1.9 25.3 56.7 8.4 10.4 58.2 12.5 40.3 71.0 26.3 39.4 53.3 30.7 22.3 24.3 53.9 72.8 8.9 35.4 36.1 78.6 18.8 48.7 31.5 20.4 18.3 20.2 14.9 16.1 72.3 17.3 91.9 8.9 24.8 20.1 29.7 34.5 25.0 26.7 63.7 8.8 13.7 59.0 13.2 40.9 72.3 27.6 40.9 55.4 34.1 22.8 24.6 53.4 71.9 8.9 36.5 37.5 79.0 19.1 49.1 31.0 19.1 17.2 18.7 13.7 15.8 72.6 17.4 92.0 7.8 21.6 18.8 28.8 34.9 25.7 RoE (%) FY12/ FY13/ CY11 CY12 7.8 10.8 8.8 17.9 8.3 11.4 10.3 9.8 8.2 11.2 10.8 9.0 12.0 10.3 14.5 15.4 17.8 27.5 12.3 18.3 5.5 11.9 14.9 18.8 6.5 16.9 10.3 8.1 17.4 18.2 33.3 33.3 26.5 32.0 19.7 15.1 11.7 7.2 17.8 9.4 17.4 9.7 11.6 12.5 13.5 8.4 12.5 12.8 9.8 11.8 10.6 14.6 15.0 19.0 28.6 13.5 17.9 7.1 12.5 14.4 19.5 7.6 16.9 11.0 9.0 17.2 17.3 27.1 27.1 24.4 30.6 18.5 15.3 14.0
Enagas 7.4 Snam Rete Gas 5.7 European peers average 6.5 Asian peers Hong Kong & China Gas 25.2 ENN Energy 9.8 Towngas China 18.7 China Resources Gas 9.8 China Gas 9.7 Beijing Enterprises 13.4 Petronas Gas BHD 11.5 GAIL 7.7 GSPL 5.4 PETRONET 8.7 IGL 8.6 GUJARAT GAS CO 10.4 Asian peers average 11.6 Global peers average 10.6 Global peers median 10.1 Source: Bloomberg, Ambit Capital research.
27
Oil & Gas
Marketing margin regulation impact?

The CGD companies determine the final selling price of CNG/PNG by adding the regulated network and compression charges to the cost of gas purchased. It also adds its marketing margin, which is currently not being regulated. The network tariff and compression charge is determined by the regulator so as to guarantee 14% RoCE (post-tax) on normative capital employed over a period of 25 years. But marketing margins are negotiated between buyers and sellers. Marketing margin is paid to CGD companies for undertaking supply management, contract negotiation, marketing tie-up, market surveys, dispute resolution, customer facilities, inventory carrying costs and maintaining administrative infrastructure. It is also a compensation for the take-or-pay risk and the bad debt risk that the company bears. In January 2012, the Government asked the regulator, PNGRB, to examine the marketing margin charged by all marketers and fix it on the basis of costs incurred in the marketing of gas. This resulted in a ~10% decline in the stock price of CGD companies on fears of a steep cut in marketing margin post its regulation. To study the possible implication of the marketing margin on earnings, we bifurcated IGLs current CNG and PNG realization - see exhibit 50 below. Our analysis shows that that IGL earns ~`0.45/scm on CNG and ~`0.14/scm on PNG as the marketing margin.
Exhibit 50: Impact of marketing margin on IGL
CNG (`/scm) Consumer price Excise duty Net Selling Price Gas cost Network charges* Compression charges* Marketing margin IGLs FY11 PAT in `/scm Marketing margin as a % of FY11 PAT (A) (B=14.42% of C) (C) (D) (E) (F) (G=C-D-E-F) (H) (I=G/H)
26.06 3.28 22.78 13.69 3.50 5.13 0.45 2.6 17.5%
PNG (`/scm)
16.92 2.13 14.79 11.15 3.50 0.00 0.14 2.6 5.2%
*Levelised network tariff and compression charge submitted by IGL management to PNGRB so as to ensure the regulated post tax RoCE of 14% on capital employed. It is yet to be approved by the regulator. Source: IGL, Ambit Capital research
Hence the marketing margin constitutes ~17.5% of the CNG segments profitability and ~5.2% of the PNG segments profitability. But IGL spends ~15%20% of its overall capex on the marketing business, incurs an operating expense of ~`0.50/scm for sale through its own CNG station or pays ~`0.90/scm to OMCs for using their outlets. Hence the marketing margin doesnt seem to be on the higher side. But even in the worst case if we assume that the marketing margin is reduced by 50%, then also the impact on the earnings would be less than 10% for IGL. Given that its stock price has corrected by 10% since the news of potential regulation of marketing margin came in, we believe the market is factoring in the worst case and it provides a good opportunity to buy the stock. To provide a cushion against the risk of marketing margin regulation, we have conservatively assumed EBITDA margins to stabilise at ~`4.8/scm from ~`5.23/scm earned during FY12. But for GGas, marketing margin constitutes ~25% of its profitability, given the low capex required for connecting the industrial segment. Hence GGas runs a higher risk from the potential capping of marketing margin.
28
Oil & Gas
Exhibit 51: IGL: Realisation breakdown (`/scm)

25 20 15 10 5 0 FY11 FY12e FY13e FY14e 9.9 12.6 14.4 2.6 2.5 2.4 2.2 Tax Interest exp net of other income Depreciation 16.1 Operating exp Gas cost PAT
Exhibit 52: GGas: Realisation breakdown (`/scm)

25 20 15 10 14.7 5 0 CY10 CY11e CY12e CY13e 10.6 2.1 17.0 17.2 2.4 2.4 2.3 PAT Tax Int exp net of other income Depreciation Net operation expense Gas cost
Further, IGLs RoCE is expected to moderate going forward and stabilise at ~25% on account of significant capex being incurred by the company to ramp-up its infrastructure across the NCR region. As its returns are not significantly higher than the regulated return of 21% (pre-tax) allowed by PNGRB, we do not expect any significant scope for a cut in IGLs marketing margin. But RoCE of GGas continues to be high at ~30% due to the low capex required to set up connectivity for Industrial consumers. As its return is significantly higher than the regulated return of 21% (pre-tax), it runs the higher risk of a cut in its marketing margin.
Exhibit 53: IGL: Return ratios stabilizing at ~25%, implying lower risk from marketing margin
40% 35% 30% 25% 20% 15% 10% 5% 0% FY11 FY12e ROCE
Exhibit 54: GGas: High return of ~30% poses significant risk from marketing margin regulation
40% 35% 30% 25% 20% 15%

z
10% 5% 0% CY10 CY11e CY12e CY13e CY14e CY15e ROCE

FY13e
FY14e
FY15e ROE
FY16e
ROE
29
Oil & Gas
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30
Oil & Gas
February 23, 2012
Indraprastha Gas
Bloomberg: IGL IN EQUITY Reuters: IGAS.BO
BUY
Accounting: GREEN Predictability: AMBER Earnings momentum: RED INITIATING COVERAGE

Dayanand Mittal
A Capital play
We prefer IGL due to its: (i) High allocation of domestic gas and efficient sourcing of LNG, (ii) Pricing power underpinned by its presence in the cost competitive CNG segment and favourable tax treatment of CGD in the NCR, and (iii) Strong volume growth potential due to its exclusive licence for setting up a CGD network in the huge NCR market. Allocation of additional domestic gas, progress on diesel deregulation and capping of the LPG subsidy are potential positive triggers. We Initiate with a BUY. Competitive position: STRONG Changes to this position: STABLE
Recommendation
CMP: Target Price (12 month): Previous TP: Upside (%) EPS (FY13): Change from previous (%) Variance from consensus (%) `347 `406 NA 17% `23.9 NA -3%
IGL has been allocated higher domestic gas as 91% of its sales are to the Government preferred CNG/PNG business. IGL is also likely preferred for any incremental allocation of domestic gas. Furthermore, its strong parentage (GAIL owns 22.5%) gives it an edge in the efficient sourcing of LNG. IGL has pricing power due to its significant presence in the cost competitive CNG segment, low cost of gas due to the higher usage of domestic gas (1/3rds the cost of LNG) and favourable tax treatment for CGD in the NCR. IGL has strong volume growth potential due to its exclusive licence for setting up a CGD network in the extensive NCR market and its presence in the under penetrated and Government-preferred CNG/PNG business. We expect 16% volume CAGR over FY12E-FY16E. Allocation of low cost domestic gas and IGLs early mover advantage in Delhi should reduce the competitive threat post end of the marketing exclusivity for Delhi. IGL has also bid for Ludhiana and Jalandhar CGD (in the state of Punjab) in the third round of auction held by PNGRB in July 2010. The stock has corrected by 10% over the last 40 days due to concerns that IGLs marketing margin is likely to be regulated. This provides a good entry point as the market is factoring in a 50% reduction in its marketing margin, which looks unjustified given the capex, opex and risks involved in gas marketing. Valuation: Using a DCF-based model we value IGL at `406 (assuming cost of equity of 14.0% and perpetuity growth of 4.5% from FY23) which implies an FY13 P/E of 17.0x, FY13 EV/EBITDA of 9.3x and P/B of 4.1x. This valuation appears reasonable given the 16% volume CAGR expectation and 12% earnings CAGR over FY12-FY14. Although IGLs planned capex of `28bn over FY12E-FY16E would moderate its RoCE (FY11: 33%, FY16e:25%), RoCE is still expected to be strong at ~25%. Allocation of additional domestic gas, gradual deregulation of diesel, proposed capping of LPG subsidy and the continued deregulation of petrol are the key positive catalysts for the stock.
Exhibit 1: Key financials
Year to March Sales volume (mmcmd) Gross margin (`/scm) EBITDA (` mn) EBITDA (%) EPS (`) RoCE (%) P/E (x)
Source: Company, Ambit Capital research
Stock Information
Mkt cap: 52-wk H/L: 3M ADV: Beta: BSE Sensex: Nifty: `49bn/US$986mn `454/285 `152mn/US$3.1mn 0.6x 18,145 5,505
Stock Performance (%)

Absolute Rel. to Sensex 3M 1M 9.7 -10.3 1.3 -23.3 12M 13.9 YTD -7.5
14.7 -25.0
Performance (%)
25,000 20,000 15,000 10,000
Sensex
500 400 300 200 100

Indraprastha Gas
Feb-11 Jun-11 Oct-11 Feb-12
Cross cycle P/E band

FY10 2.14 7.45 3,808 35.3 15.4 38.1 22.6 FY11 2.73 7.62 4,923 28.2 18.6 33.2 18.7 FY12e 3.34 8.02 6,369 25.4 21.8 28.8 15.9 FY13e 3.87 7.79 7,109 22.7 23.9 25.8 14.5 FY14e 4.51 7.50 7,890 20.3 26.0 24.1 13.3
500 400 300 200 100 0 Feb-06 Feb-08 Feb-10 17x 15x 12x 9x 7x
Feb-12
Ambit Capital and / or its affiliates do and seek to do business including investment banking with companies covered in its research reports. As a result, investors should be aware that Ambit Capital may have a conflict of interest that could affect the objectivity of this report. Investors should not consider this report as the only factor in making their investment decision.
Please refer to the Disclaimers at the end of this Report.
Indraprastha Gas
Company Financial Snapshot

Profit and Loss (` mn)
Net sales Op. expenses EBIDTA Interest Expense Depreciation PBT Tax Adj. PAT Profit and Loss Ratios EBIDTA Margin % Adj PAT Margin % P/E (X) EV/EBIDTA (X) Dividend Yield (%) FY11 17,441 12,518 4,923 132 1,029 3,857 (1,259) 2,598 28.2 14.9 18.7 10.8 1.4 FY12e 25,087 18,717 6,369 501 1,428 4,476 (1,424) 3,053 25.4 12.2 15.9 8.8 2.2 FY13e 31,363 24,254 7,109 629 1,528 5,001 (1,650) 3,351 22.7 10.7 14.5 8.1 2.4
Company Background Indraprastha Gas (IGL) was incorporated in December 1998, as a JV between GAIL, BPCL and the Government of Delhi with an objective to supply CNG to the transport sector and PNG to the domestic and commercial sectors in the NCR region. IGL was incorporated post the Supreme Courts July 1998 order seeking that all buses, three wheelers and taxis in Delhi adopt CNG as fuel. IGL has not only emerged as the sole supplier of CNG and PNG in the National Capital Territory (NCT) of Delhi but is also expanding its footprint in the National Capital Region (NCR) cities of Noida, Greater Noida, Ghaziabad and Faridabad.
Balance Sheet (consolidated) (` mn)

Net Fixed Assets Capital WIP Investments Working Capital Cash Total Assets Shareholders fund Debt Total Liabilities Balance Sheet Ratios ROE % ROCE % Net Debt/Equity (%) Equity/Total Assets P/BV (X) FY11 11,594 3,423 416 (528) 173 15,079 10,039 4,633 15,079 28.4 33.2 44.4 0.8 4.8 FY12e 17,566 2,738 416 (791) 81 20,011 11,887 7,717 20,011 27.8 28.8 64.2 0.6 4.1 FY13e 22,038 1,917 416 (886) 529 24,015 13,915 9,692 24,015 26.0 25.8 65.8 0.6 3.5
Cash Flow (consolidated) (` mn)

Consolidated PAT + Depreciation + Deferred Tax Liability Cash profit - Increase in Current Assets + Increase in Current Liabilities Operating cash flow - Increase in Capex Free cash flow - Dividend + Debt raised - Investments Net cash flow + Opening Cash Closing Cash FY11 2,598 1,029 170 3,796 700 550 3,646 7,704 (4,059) 814 4,081 246 (1,039) 1,213 173 FY12e 3,053 1,428 4,481 843 1,106 4,744 6,715 (1,971) 1,205 3,084 (92) 173 81 FY13e 3,351 1,528 4,879 565 660 4,974 5,178 (205) 1,322 1,975 448 81 529
Return ratios to moderate due to huge capex plan and our conservative margin assumption
35% 30% 25% 20% 15% 10% 5% 0% FY11 ROCE FY12e ROE FY13e FY14e FY15e z 6.0 5.0 4.0 3.0 2.0 1.0 0.0 Volume (mmcmd, RHS)
Domestic gas to still dominate the gas mix

100% 80% 60% 40% 20% 18% 0% FY11 LNG FY12e FY13e FY14e FY15e Domestic gas 21% 33% 42% 48%
32
Indraprastha Gas
Exhibit 2: IGL SWOT analysis

Strengths Allocation of low cost APM and KG D6 gas constitutes a high 83% of its current gas mix, lowering the weighted average cost of gas. Strong parentage in form of GAIL helps in effective and competitive sourcing of LNG from the global market. Cost competitiveness of a) CNG versus petrol/diesel for automobile segment, b) gas versus alternative liquid fuels such as naphtha, fuel oil etc in Industrial segment and c) ease of usage of PNG versus LPG in household/commercial segment provides a huge opportunity for volume growth. A presence in the extensive and growing market in the NCR region gives them the first mover advantage to capture this huge opportunity. Mandatory usage of CNG by all public vehicles in Delhi, as per the Supreme Court order, gives an assured source of volume growth. High allocation of low cost domestic gas to IGL compared with no domestic gas available to any new entrant due to shortage of domestic gas would prevent the competitive threat given that marketing exclusivity for Delhi CGD has ended on 31st Dec 2011. IGL has entered into a 10-year contract with DTC (contributes ~20% to IGLs CNG sales) as an exclusive supplier of CNG for the entire fleet of DTC buses. IGL is also in the final stages of negotiation with OMCs to strike long-term agreements, as 16% of sales accrue from supply to the outlets of OMCs. These long term arrangements will serve as a deterrent to threats from potential competition. Weaknesses With no additional domestic gas expected to be allocated to IGL over the next 2-3 years, all growth would be fuelled via import of high cost LNG, which would result in frequent increase in CNG and PNG prices. As all the gas purchased is denominated in US dollars while all gas sales are in rupee terms, hence the depreciation in the rupee has a direct impact on its margins unless it is able to pass on the increase in cost to the consumers. Opportunities As IGL sells almost 91% of its gas to the common man in the form of CNG or PNG, it has a higher priority v/s other CGD companies for incremental allocation of domestic gas. Increase in KG D6 gas production could result in commencement of gas supply to IGL as it has been allocated 0.61mmcmd of KG D6 gas (0.31mmcmd on a firm basis and 0.3mmcmd on a fallback basis). Pricing power in the CNG segment will strengthen if the Government sticks to its decision of deregulation of petrol price and the proposed deregulation of diesel price amid a high crude price environment. Governments proposed plan to cap subsidised LPG cylinders to 5-6 p.a. per household will help make PNG more competitive and boost its volume growth. Bagging of the CGD licence for new cities around NCR will support growth once the NCR market gets saturated. IGL has already submitted bids for setting up the CGD network in Jalandhar and Ludhiana cities in the state of Punjab in the 3rd CGD bidding round.
Threats Any decline in APM gas production or decline in KG D6 gas production could result in a proportionate reduction in allocation for IGL as well. Potential threat of competition, as marketing exclusivity for Delhi CGD, has ended on 31st Dec 2011 Weakness in the rupee would result in an increase in the cost of gas and hence can put pressure on its margins. Slowdown in discretionary CNG conversion due to: a) limited CNG stations, b) upfront cost of installing the CNG kit, c) decline in differential between CNG and petrol/diesel price. As LNG is sourced via a mix of short term and spot contracts, prices of which are highly volatile, sudden spurt in cost of LNG would drive up the weighted average cost of gas, impacting margins. Proposed regulation of marketing margins for CGD companies by the PNGRB based on costs incurred in marketing could result in a decline in the return ratios.
33
Indraprastha Gas
Company background
Exhibit 1: IGLs shareholders
Entity GAIL BPCL Govt of NCT of Delhi Sundaram AMC LIC Pinebridge investments Asia Ltd Source: Bloomberg
major
Stake 22.50% 22.50% 5.00% 4.55% 1.81% 1.63%
Indraprastha Gas Ltd (IGL) was incorporated in December 1998, as a joint venture between GAIL, Indias largest natural gas transmission company, and BPCL, a leading Indian oil refining and marketing company, each holding 22.5% stake and the Government of NCT (National Capital Territory) of Delhi (5% stake). The Supreme Courts order of July 1998 to contain vehicular pollution was responsible for the incorporation of Indraprastha Gas (IGL). The Court directed all buses, three wheelers and taxis in Delhi to adopt CNG as a fuel by March 31, 2001. Further the Government of NCT, in July 2009, directed all light commercial vehicles operating in Delhi to convert to CNG. Thus IGL was formed with an objective to supply CNG to the transport sector and PNG to domestic and commercial sectors in the NCR region. IGL took over the Delhi CGD project in 1999 from GAIL with only 9 CNG stations and 1,000 PNG consumers. But given the regulatory push, it became the first company in India to commercialize the use of CNG for the automotive sector. It has not only emerged as the sole supplier of CNG and PNG in Delhi but is also expanding its footprint in the NCR cities of Noida, Greater Noida, Ghaziabad and Faridabad, though Delhi still accounts for the bulk of its volumes. By end-FY11, it had expanded the number of CNG stations to 278 and had ~245,000 PNG consumers. IGLs marketing exclusivity rights for the Delhi CGD expired on December 31, 2011 (though the company is contesting for its extension until end2013), but it still has the network exclusivity till 2033. Driven by the regulatory push for conversion of vehicles to CNG, its earnings during FY07-FY11 have grown at a CAGR of +17% closely tracking the ~20% CAGR in its sales volume. The low penetration of CNG in Delhi and rising differential between the cost of CNG versus liquid fuel (particularly petrol) has fuelled IGLs volume growth. The return ratios have also been strong with RoCE of 30%-35% and RoE of 28%-30%. RoEs are lower than RoCEs as the company has started using debt for expansion plans only from FY11. The return ratios have moderated over the last couple of years due to the significant jump in its capex from FY09 onwards and moderation in its margins due to usage of high-cost LNG. EBITDA margin appears to be declining over the years, but that is more mathematical in nature, as the increase in gas cost has resulted in an increase in the selling price of gas with margins remaining stable in absolute terms.
Exhibit 3: Profit tracks volume growth

3.0 2.5 2.0 1.5 1.0 0.5 0.0 FY07 FY08 FY09 FY10 FY11 PAT (Rs Bn) 3.0 2.5 2.0 1.5 1.0 0.5 0.0 Sales volume (mmcmd, RHS)
Exhibit 4: IGL return ratios

50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% FY07 ROCE FY08 ROE 50% 45% 40% 35% 30% 25% 20% 15% 10% 5% 0% FY10 FY11 EBITDA margin (RHS)
FY09
34
Indraprastha Gas
Sales breakdown and sourcing of gas

While the historical growth over FY06-FY11 was driven by the regulatory push to convert state-owned transport into CNG, we expect additional momentum to come from private vehicle conversions going forward. IGLs main thrust is CNG though it is also focusing on industrial and commercial consumers mainly in the NCR exDelhi because, primarily, industry will come up in these cities. During FY12, the company is expected to achieve ~82% of its sales volume from the CNG segment and the balance from sale of PNG to domestic and commercial users and sales to industrial consumers. Its total sales in FY12 are expected to be ~3.34mmcmd, 22% growth YoY. Though the Industrial and PNG segments will grow at a faster pace due to the low base and the huge untapped potential, CNG will remain the largest segment with a 70% share of the total volumes in FY15E, down from 82% in FY11. Its volume growth will continue to be driven by: a) rapid network expansion in Noida, Greater Noida and Ghaziabad; b) introduction of new CNG vehicles; and c) CNGs continued cost advantage over competitive fuels like petrol. We estimate IGLs volumes from new geographies to be around 0.8mmcmd, i.e. ~20% of IGLs FY15 sales volumes. IGL is currently getting ~2.7mmcmd of APM gas from GAIL, zero volume (though IGL has a firm allocation of 0.31mmcmd) from RILs KG D6 field and the remainder is sourced via LNG imports through GAIL (~0.8mmcmd currently).
Infrastructure
IGL receives natural gas through a tap off point from GAILs Hazira-BijaipurJagdishpur (HBJ) pipeline, which is then distributed via its CNG stations and through its network of pipelines to PNG consumers. By end-FY11, IGL had 421km of steel pipeline network and 4,420km of MDPE (medium density polyethylene) pipeline network. IGLs PNG network currently covers 55 of the 77 charge areas and it targets to penetrate its PNG network in all the charge areas. Hence it plans to extend its steel pipeline network by 200km and MDPE pipeline network by 1,500km by end-FY13. In addition to its widespread network, IGL has a network of over 278 CNG stations across Delhi particularly at locations where the traffic density is high. Of the total of its CNG stations, it had ~16 stations operational in Noida and Greater Noida and three CNG stations operational in Ghaziabad.
Exhibit 5: IGLs infrastructure growth
Particulars Steel pipeline (km) MDPE pipeline (km) Total (km) CNG No of CNG stations (nos) Compression capacity (mn kg/day) Average CNG sale (mn kg/day) PNG No of domestic users (nos) No of commercial / Industrial (nos) Total (nos)
Source: IGL
Mar-07 178 931 1109 153 2.02 0.94 78,000 313 78,313
Mar-08 195 1272 1467 163 2.08 1.06 121,695 318 122,013
Mar-09 231 1700 1931 181 2.67 1.26 138,000 332 138,332
Mar-10 299 2330 2629 241 3.64 1.45 182,000 376 182,376
Mar-11 421 4420 4841 278 5.11 1.67 245,000 520 245,520
35
Indraprastha Gas
Marketing exclusivity ends - no significant impact

It is to be noted that IGL has demanded that the 3 year exclusivity period be counted from the date when Section 16 of the PNGRB Act was notified, on July 15, 2010, and not from the date when the company got authorisation, in January 2009. IGL is contending that, since PNGRB had no powers before July 15, 2010, they have no powers to determine and impose an exclusivity period. Hence its exclusivity should start from July 15, 2010 and end on July 14, 2013. The final decision is still pending. As discussed in the thematic section, the PNGRBs regulations provide for marketing exclusivity of three years for companies already present in a city prior to the notification of the regulations. As IGL was formally granted authorisation for the Delhi CGD business on January 1, 2009, marketing exclusivity for the Delhi CGD ended on December 31, 2011 while marketing exclusivity for the other cities in NCR (i.e. Noida, Greater Noida, Ghaziabad, and Faridabad) will continue. The end of marketing exclusivity for the Delhi CGD could lead to an increase in competitive intensity in the: a) CNG segment due to the relative ease of setting up CNG stations; and b) commercial PNG business due to IGLs short term nature of gas supply contracts with commercial customers. But the household PNG customers tend to be relatively more sticky given the logistical difficulties involved in switching to a new PNG supplier. Further IGL has 2-5 year agreements for supply of gas with the industrial segment; hence there exists a minimal risk on these volumes as well. Moreover, as most of the volume growth from Industrial consumers would come from other NCR cities (i.e. Noida, Greater Noida, Ghaziabad, and Faridabad), these volumes would not run any risk of competition. Given IGLs inherent competitive advantage of low cost gas and its early mover advantage in Delhi, the economics of setting up CGD operations in Delhi will imply far lower returns for a new player than for IGL. Hence we believe IGL will be able to safeguard its interest from the potential threat of competition due to the following inherent competitive advantages: Shortage of domestic gas would result in new entrants having to depend solely on high-cost LNG for supplying gas to CGD consumers, which will make it difficult for the new entrants to match IGLs selling prices given that the lowcost domestic gas constitutes ~83% of its gas supply mix. IGLs strong parentage in the form of GAIL gives it a competitive edge for efficient sourcing of LNG. IGL has entered into a 10-year contract with DTC (Delhi Transport Corporation), whereby IGL would be the exclusive supplier of CNG for the entire fleet of DTCs buses. DTC contributes about 20% to IGLs CNG sales. IGL is also in the final stages of negotiation with various oil-marketing companies (OMCs) to strike long-term agreements as 16% of sales accrue from supply to the outlets of OMCs. Capex cost to set up a CNG station for a new entrant would be at least 70%80% higher than the capex incurred by IGL, which would mean either a higher breakeven point or lower RoCE for any new player. IGLs gas distribution network in Delhi (4,420km of pipelines + 278 CNG stations), is hard to replicate, and is thus unlikely to face competition in the near future. IGL has established CNG stations in key areas like busy traffic points in Delhi, which does not leave much room for new entrants in the high revenue areas. IGL has 25-year network exclusivity in the NCR to 2033. Hence the new entrant would be forced to use IGLs network and compression station, in which IGL is permitted to charge the regulated post-tax return of 14% on capital employed.
36
Indraprastha Gas
Assumptions and estimates

Exhibit 6: Assumptions
FY10 Gas volume break-up (mmscm) CNG sales volume PNG sales volume Total sales volume Internal consumption and normal loss Total quantity of gas purchased Total gas purchased (mmcmd) Total gas sold (mmcmd) Gas sales volume change YoY CNG PNG Overall Gas sales volume composition: CNG PNG Gas sourcing and cost break-up Gas sourcing mix (mmcmd) GAIL APM RIL KG D6 RLNG Total gas purchased Gas cost (US$/mmbtu) GAIL APM RIL KG D6 RLNG Weighted average gas cost Overall margins (`/scm) Net realisation Average cost of gas Blended gross spread Other expense EBITDA Depreciation 13.78 6.33 7.45 2.59 4.87 0.99 17.48 9.87 7.62 2.69 4.93 1.03 0.04 3.86 1.26 2.60 Mn) 20.59 12.57 8.02 2.79 5.23 1.17 0.38 3.67 1.17 2.51 24,560 7,717 81 4,744 6,715 -1,971 -92 22.19 14.41 7.79 2.76 5.03 1.08 0.41 3.54 1.17 2.37 30,560 9,692 529 4,974 5,178 -205 448 23.56 16.06 7.50 2.71 4.79 1.10 Assumed IGL will pass on the increase in gas cost to its consumers so as to maintain gross margin of `7.5/scm Based on gas sourcing and cost break-up. Conservatively assume gross margin to stabilise at ~`7.5/scm, lower than `8.0/scm earned in FY12. Based on the company's growth plans and inflation. Conservatively assumed EBITDA margin to stabilise at ~`4.8/scm, lower than `5.2/scm earned in FY12 Based on the capex plan and historical depreciation rate 695 87 782 47 830 2.27 2.14 15% 61% 19% 89% 11% 818 180 998 48 1,046 2.87 2.73 18% 106% 28% 82% 18% 949 270 1,218 56 1,274 3.49 3.34 16% 50% 22% 78% 22% 1,062 351 1,413 62 1,475 4.04 3.87 12% 30% 16% 75% 25% CARG of 12% during FY13-FY15 due to low CNG penetration in Delhi and growth from other NCR cities CARG of 30% during FY13-FY15 due to low base, high 456 growth potential and rapid expansion plans 1,646 Normal loss is 1%-1.4% and internal consumption is 68 3%-3.5% of sales. Expect it to decline with economies of scale. 1,714 4.70 4.51 1,190 12% 30% 16% 72% CNG to still dominate the gas sales mix 28% PNG segment contribution to grow due to low base FY11 FY12E FY13E FY14E Comments
2.10 0.00 0.17 2.27 5.50 6.00 12.00 6.00
2.30 0.15 0.42 2.87 5.50 6.00 12.00 6.47
2.70 0.05 0.75 3.49 5.50 6.00 12.00 6.90
2.70 0.00 1.34 4.04 5.50 6.00 13.00 7.99
2.70 IGL is allocated 2.7mmcmd of APM gas for NCR No supply from KG D6 due to decline in gas 0.00 production 2.00 Balance gas is sourced via LNG imports. 4.70 5.50 Delivered price of APM gas to IGL 6.00 Delivered price of KG D6 gas to IGL Cost of LNG sourced from PLNG's RasGas contract, 14.00 GAIL's Marbueni contract, and from the spot market. Gas cost will gradually increase due to increase in the 9.11 proportion of high-cost LNG in the gas supply mix.
Interest exp net of other income -0.27 PBT 4.15 Tax 1.39 PAT 2.75 Balance sheet and cash flow assumptions: (` Gross fixed assets Gross debt including customer deposit Cash balance Operating cash flow Capex Free cash flow Net change in cash Source: Company, Ambit Capital research 11,053 552 1,213 3,231 3,891 -660 -249
0.39 3.30 1.09 Taxes as per normal applicable tax rate 2.21 Hence expect PAT/scm to stabilise at `2.2-`2.4/scm 36,060 Gross fixed asset to grow due to setting up of new CNG stations and expansion of PNG network
17,160 4,633 173 3,646 7,704 -4,059 -1,039
10,885 Part of the capex to be funded through raising debt 871 5,511 Strong operating cash flow generation to continue Capex plan of `28bn over FY12E-FY16E to expand 4,925 CNG and PNG infrastructure Huge capex plan to result in negative free cash flow till 586 FY13E. 341
37
Indraprastha Gas
Exhibit 7: Ambit v/s consensus table
Consensus Revenue (` mn) FY13 FY14 EBITDA (` mn) FY13 FY14 PAT (` mn) FY13 FY14 EPS (`) FY13 FY14
24.70 26.90 23.93 26.03 -3 -5 3,451 3,824 3,351 3,644 -3 -5 7,334 8,090 7,109 7,890 -3 -2 32,393 39,045 31,363 38,778 -3 -1
Ambit % Divergence
Comments Due to our conservative assumption that the company might absorb 3%5% of the increase in gas cost so as to safeguard its volume growth We have conservatively built in EBITDA/scm to stabilise at ~`4.8/scm, compared with `5.23/scm earned in FY12, to factor in the potential regulatory risk
Due to reasons cited above
Due to reasons cited above
We expect 12% earnings CAGR for IGL during FY11-FY14E on the back of rising volumes and robust margins. The earnings growth trend is expected to moderate in FY13-FY14 from 23% CAGR seen during FY09-FY11 on account of: a) an increase in depreciation due to IGLs extensive expansion plans; b) our conservative assumption of moderation in the EBITDA margin likely to stabilise at ~`4.8/scm from ~`5.23/scm earned during FY12, to provide a cushion against potential regulatory risks; and c) volume CAGR during FY12-14E to be still strong at 16%, though lower than the 23% CAGR seen in FY09-FY11 due to the high base effect.
Exhibit 8: Strong EPS growth, though it is expected to moderate from historical levels due to significant jump in depreciation due to its rapid expansion plans
(`/share) 30 25 20 15 10 5 FY10 FY11 Recurring EPS
% 25 20 15 10 5 0 FY12e FY13e EPS growth FY14e
38
Indraprastha Gas
Absolute valuation
Using a DCF-based valuation methodology, we arrive at a valuation of `406, which implies an FY13 P/E of 17.0x, FY13 EV/EBITDA of 9.3x and P/B of 4.1x. Our DCF is based on explicit earnings forecast until FY16, and after that we model 8%10% volume growth to FY22. Post that we have assumed a terminal growth of 4.5%. We have used a WACC of 12.4% for our DCF valuation (based on a cost of equity of 14.0%, beta of 0.9x and cost of debt of 10.5%).
Exhibit 9: IGLs DCF valuation
Terminal FCF (` mn) Terminal growth rate WACC Terminal value (` mn) PV of terminal value (` mn) PV of cash flow (` mn) Enterprise value Net debt (2QFY12 end) Equity value (` mn) No of shares Valuation (`) CMP (`) Upside (%)
9,077 4.5% 12.4% 120,765 (A) (B) (C=A+B) (D) (E=C-D) (F) (G=E/F) 40,717 22,647 63,364 6,546 56,818 140 406 347 17%
Exhibit 10: WACC assumptions

Risk free rate Risk premium Beta Cost of equity Cost of debt Target debt/equity ratio WACC
8.0% 7.0% 0.9 14.0% 10.5% 30% 12.4%
The return ratios are expected to moderate going forward and stabilise at ~25% over the next 4-5 years on account of significant capex the company will incur to ramp-up its infrastructure across the NCR region. Further to provide a cushion against potential regulatory risks, we have conservatively assumed EBITDA margin to stabilise at ~`4.8/scm from ~`5.23/scm earned during FY12. But we expect RoCE to rise from FY16 onwards and stabilise at ~25%, at marginally higher than the regulated return of 21% allowed by the PNGRB, as the company improve utilisation of its CNG and PNG infrastructure.
39
Indraprastha Gas
Exhibit 11: Rising capacity utilization will results in high RoCE
(` bn) 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 FY12e FY13e FY14e FY15e FY16e FY17e FY18e FY19e FY20e FY21e FY22e PV of FCFF
35% 30% 25% 20% 15% 10% 5% 0%
WACC (RHS)
ROCE (RHS)
Bull and bear case valuations

Our bear case valuation of `345/share is after factoring in the following concerns: APM gas allocation goes down by 5% resulting in increased dependency on high cost LNG, impacting gross margin by 2% Regulation on marketing margin lowering the gross margin by 5%. Sales volume being 2% lower than our expectation due to slower-thanexpected conversion to CNG
Our bull case valuation of `441/share is after factoring in the following optimism: Commissioning of supply of 0.31mmcmd of firm gas allocated to IGL from KG D6, improving its ability to absorb the high-cost LNG No threat from the marketing margin regulation resulting in our gross margin being higher by 2%, as we have conservatively factored in lower margins Sales volume being 1% higher than our expectation due to stronger-thanexpected conversion to CNG.
Exhibit 12: IGLs bull-bear case valuation

500 450 400 350 300 250 Bear case APM gas allocation decline by 5% Marketing 2% lower margin sales volume regulation lowering gross margin by 5% Base case Supply of 0.31mmcmd of firm KG D6 gas allocated to IGL No threat from marketing margin regulation 1% higher sales volume Bull case 345 35 13 13 406 12 13 10 441
40
Indraprastha Gas
Relative valuation
At the current market price, IGL is trading at: (a) 1-year forward EV/EBITDA of 8.1x, 25% higher than its own 5-year average multiple of 6.5x; (b) 1-year forward PE of 14.5x, 24% higher than its 5-year average multiple of 11.7x; and (c) 1-year forward PB of 3.5x, 17% higher than its 5-year average multiple of 3.0x. The comparison to the 5-year average multiple makes IGL look expensive. However, IGL was trading at low valuations before June 25, 2010 due to concerns on its pricing power as petrol prices were regulated impacting the competitiveness of CNG. But since the deregulation of petrol prices on June 25, 2010, the stock has traded at a 1-year forward PE of 15.8x, 1-year forward PB of 4.1x and 1-year forward EV/EBITDA of 8.9x. Hence post June 25, 2010 we note the following improvements in IGLs fundamentals: (i) cost competitiveness of CNG improved due to deregulation of petrol price amid high crude prices, (ii) allocation of additional APM gas to IGL for expansion into NCR lowered its gas cost, and (iii) there was increasing evidence of IGLs pricing power, as it managed to pass on the increase in gas cost by raising CNG prices by over 20% in the last one year.
Exhibit 13: IGL 1-year forward PB band (`)

500 5x 400 300 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 4x 3x 2x 1x
Exhibit 14: IGL 1-year forward PE band (`)

500 400 300 12x 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 9x 7x 17x 15x
Exhibit 18: Explanation for our flags on the cover page

Segment Accounting Score GREEN Comments In our forensic accounting model (see our January 2012 forensic thematic for details on how this model works), IGL has a relatively high score (8.2 compared to the utilities sector average of 6.6) With CNG conversion is expected to be strong due to its cost competitiveness and management being able to maintain its margin due to periodic increase in CNG price for passing on the rise in cost of gas, its earnings are fairly predictable. But the Governments directive to PNGRB to regulate marketing margin of all gas marketers based on the cost incurred in marketing business, raises concern of potential regulation of its marketing margin. Bloomberg earnings momentum suggest a 3% decrease in FY13 earnings over the last 4 weeks due to concern about regulation of marketing margin and factoring in of margin risk due to rupee depreciation
Predictability
AMBER
Earnings Momentum
RED
41
Indraprastha Gas Balance sheet

Year to March (` mn) Share capital Reserves and surplus Shareholders funds Deposit from customers Loans Total debt Deferred tax liability Capital employed Gross fixed assets Accumulated depreciation Net fixed assets Capital WIP Net assets Investments Current assets without cash Current liabilities Net working capital Cash and bank balance Capital deployed Source: Company, Ambit Capital research FY10 1,400 6,854 8,254 552 552 238 9,045 11,053 4,539 6,514 1,826 8,340 170 1,360 2,038 (678) 1,213 9,045 FY11 1,400 8,639 10,039 1,168 3,465 4,633 408 15,079 17,160 5,566 11,594 3,423 15,018 416 2,060 2,587 (528) 173 15,079 FY12E 1,400 10,487 11,887 1,752 5,965 7,717 408 20,011 24,560 6,994 17,566 2,738 20,305 416 2,902 3,693 (791) 81 20,011 FY13E 1,400 12,515 13,915 1,927 7,765 9,692 408 24,015 30,560 8,522 22,038 1,917 23,955 416 3,467 4,353 (886) 529 24,015 FY14E 1,400 14,721 16,121 2,120 8,765 10,885 408 27,414 36,060 10,325 25,735 1,342 27,077 416 4,142 5,092 (951) 871 27,414
Income statement
Year to March (` mn) Sales volume (mmcmd) Gross margin (`/scm) EBITDA (`/scm) Net revenue Total expenditure EBIDTA EBITDA (%) Depreciation EBIT EBIT (%) Interest expense Other income PBT Current tax Deferred tax Effective tax (%) PAT Recurring PAT PAT growth (%) Recurring EPS (`) Source: Company, Ambit Capital research FY10 2.14 7.45 4.87 10,781 6,973 3,808 35.3 775 3,033 28.1 211 3,244 (1,060) (29) 34 2,155 2,155 25% 15.4 FY11 2.73 7.62 4.93 17,441 12,518 4,923 28.2 1,029 3,894 22.3 132 95 3,857 (1,090) (170) 33 2,598 2,598 21% 18.6 FY12E 3.34 8.02 5.23 25,087 18,717 6,369 25.4 1,428 4,941 19.7 501 37 4,476 (1,424) 32 3,053 3,053 18% 21.8 FY13E 3.87 7.79 5.03 31,363 24,254 7,109 22.7 1,528 5,581 17.8 629 50 5,001 (1,650) 33 3,351 3,351 10% 23.9 FY14E 4.51 7.50 4.79 38,778 30,888 7,890 20.3 1,803 6,087 15.7 714 65 5,438 (1,795) 33 3,644 3,644 9% 26.0
42
Indraprastha Gas Cash flow statement

Year to March (` mn) Consolidated PAT + Depreciation + Deferred tax liability Cash profit - Increase in current assets + Increase in current liabilities Operating cash flow - Increase in capex Free cash flow - Dividend + Debt raised - Investments Net cash flow + Opening cash Closing cash Source: Company, Ambit Capital research FY10 2,155 775 29 2,959 229 501 3,231 3,891 (660) 735 287 (872) (249) 1,462 1,213 FY11 2,598 1,029 170 3,796 700 550 3,646 7,704 (4,059) 814 4,081 246 (1,039) 1,213 173 FY12E 3,053 1,428 4,481 843 1,106 4,744 6,715 (1,971) 1,205 3,084 (92) 173 81 FY13E 3,351 1,528 4,879 565 660 4,974 5,178 (205) 1,322 1,975 448 81 529 FY14E 3,644 1,803 5,447 674 739 5,511 4,925 586 1,438 1,193 341 529 871
Ratio analysis
Year to March (%) EBITDA margin (%) EBIT margin (%) Net profit margin (%) Dividend payout ratio (%) Net debt/equity (%) Total debt/operating cash flow (x) Interest coverage ratio (x) Gross block turnover (x) RoCE (%) RoE (%) Source: Company, Ambit Capital research FY10 35.3 28.1 20.0 29.2 (8.0) 0.2 NA 1.4 38.1 28.6 FY11 28.2 22.3 14.9 26.9 44.4 1.2 29.6 1.5 33.2 28.4 FY12E 25.4 19.7 12.2 35.0 64.2 1.7 9.9 1.5 28.8 27.8 FY13E 22.7 17.8 10.7 35.0 65.8 2.0 8.9 1.5 25.8 26.0 FY14E 20.3 15.7 9.4 35.0 62.1 2.0 8.5 1.5 24.1 24.3
Valuation parameters
Year to March (` mn) Diluted shares (mn) FDEPS (`) CEPS (`) BV (`) DPS (`) Dividend yield (%) P/E (x) EV/EBITDA (x) P/B (x) Source: Company, Ambit Capital research FY10 140 15.4 20.9 59.0 4.5 1.3 22.6 12.6 5.9 FY11 140 18.6 25.9 71.7 5.0 1.4 18.7 10.8 4.8 FY12E 140 21.8 32.0 84.9 7.6 2.2 15.9 8.8 4.1 FY13E 140 23.9 34.8 99.4 8.4 2.4 14.5 8.1 3.5 FY14E 140 26.0 38.9 115.2 9.1 2.6 13.3 7.4 3.0
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Indraprastha Gas
44
Oil & Gas
February 23, 2012
Gujarat Gas
Bloomberg: GGAS IN EQUITY Reuters: GGAS.BO
SELL
Accounting: GREEN Predictability: RED Earnings momentum: RED INITIATING COVERAGE

Dayanand Mittal
On the backfoot
GGas might face challenges ahead due to its: (i) Rising dependency on LNG (owing to the decline in supply from the mature PMT field) while its limited exposure to the CNG/PNG business reduces its chances of incremental domestic gas allocation; (ii) Low pricing power given its presence in the Industrial segment and given the high taxes on CGD in Gujarat; and (iii) Its volume growth stagnating at 5% due to saturating demand from its key Industrial segment. We Initiate with a SELL. Competitive position: MODERATE Changes to this position: NEGATIVE
Recommendation
CMP: Target Price (12 month): Previous TP: Downside (%) EPS (CY12): Change from previous (%) Variance from consensus (%) `393 `369 NA -6% `25.2 NA -9%
GGas has relatively low allocation of domestic gas as only 18% of its sales come from the CNG/PNG segment. Moreover, the decline in supply from the matured PMT field and the lack of additional domestic gas allocation could result in GGass entire volume growth being met via import of LNG. Furthermore, the cost of LNG is higher for GGas due to its high dependence on LNG imports via spot contracts. To make things worse, the exit of BG Group could pose a threat to its ability to source LNG at competitive prices. GGas has relatively low pricing power as it is only marginally present in the cost competitive CNG segment. In fact, GGas is in the unenviable position of having to procure imported gas at a high cost and then sell it to price sensitive Industrial consumers who have considerable bargaining power. To make matters worse, the Gujarat Government imposes high taxes on CGD. GGass volume growth is stagnating at ~5% CAGR as its growth is primarily dependent on the saturated Industrial segment demand. As industry in Gujarat has been historically well served by gas, the demand from this segment is saturated. Higher growth for GGas would be contingent on winning bids for new cities. In the 3rd round of CGD bidding, GGas had bid for Bhavnagar CGD (potential demand of ~1mmcmd); the winner is likely to be announced by March 2012. Although GGas is trying to grow its CNG and PNG business, the firm lacks an aggressive capex plan to build a more extensive distribution network. Furthermore, the change of ownership, with the exit of BG, could further impact its capex plan. Valuation: Using a DCF-based model we value GGas at `369 (assuming cost of equity of 13.3% and perpetuity growth of 4% from CY23), implying CY12 P/E of 15.1x, EV/EBITDA of 10.0x and P/B of 4.5x. Due to low volume growth and pressure on its margins, we forecast CY11-CY14E earnings CAGR to be muted at 4%. That being said given that BGs 65% stake is up for sale (and given that this will be followed by a 26% open offer), a significant takeout premium could result in shares trading well above our fundamental valuation.
Exhibit 1: Key financials
Year to March Sales volume (mmcmd) Gross margin (`/scm) EBITDA (` Mn) EBITDA (%) EPS (`) RoCE (%) P/E (x)
Stock Information
Mkt cap: 52-wk H/L: 3M ADV: Beta: BSE Sensex: Nifty: `50bn/US$1,023mn `485/321 `36mn/US$0.7mn 0.8x 18,145 5,505
Stock Performance (%)

1M Absolute Rel. to Sensex 1.7 -6.7 3M 3.4 -9.6 12M 14.8 15.6 YTD 10.1 -7.3
Performance (%)
25,000 20,000 15,000 10,000
Sensex
550 450 350 250 150

Gujarat Gas
Feb-11 Jun-11 Oct-11 Feb-12
Cross cycle P/E band

CY09 2.88 3.71 2,795 19.7 13.6 26.0 29.0 CY10 3.36 4.35 4,156 22.5 20.2 36.1 19.5 CY11e 3.51 4.75 4,636 18.5 24.1 36.3 16.3 CY12e 3.72 4.70 4,856 16.4 25.2 34.5 15.6 CY13e 3.94 4.60 5,025 16.0 26.2 32.6 15.0
500 400 300 200 100 0 Feb-06 Feb-08 Feb-10 17x 15x 12x 9x 7x
Feb-12
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Gujarat Gas
Company Financial Snapshot

Profit and Loss (` mn)
Net sales Op. expenses EBIDTA Interest Expense Depreciation PBT Tax Adj. PAT Profit and Loss Ratios EBIDTA Margin % Adj PAT Margin % P/E (X) EV/EBIDTA (X) Dividend Yield (%) CY10 18,493 14,337 4,156 5 542 3,833 (1,243) 2,577 22.5 13.9 19.5 12.6 3.1 CY11e 25,030 20,395 4,636 1 586 4,410 (1,323) 3,074 18.5 12.3 16.3 11.0 3.7 CY12e 29,529 24,674 4,856 1 639 4,609 (1,383) 3,214 16.4 10.9 15.6 10.3 3.8
Company Background Gujarat Gas was formed in January 1980 with the primary objective of procuring and distributing natural gas to industrial, commercial and domestic consumers in Gujarat. It became the subsidiary of BG Group in 1997. Over the last five years, the company has expanded in southern Gujarat particularly in Surat, Ankleshwar and Bharuch. GGas, unlike other CGD players, supplies 80% of its gas to industrial customers given the large scale usage of gas in the industrial segment in Gujarat. It sources its gas primarily from the PMT field and also from Niko and Cairn Indias gas field. The remaining quantity is sourced from LNG via a mix of short term and spot contracts.
Balance Sheet (consolidated) (` mn)

Net Fixed Assets Capital WIP and capital inventory Investments Working Capital Cash Total Assets Shareholders fund Debt Total Liabilities Balance Sheet Ratios ROE % ROCE % Net Debt/Equity (%) Equity/Total Assets P/BV (X) CY10 6,359 1,298 5,831 (2,184) 94 11,397 8,591 2,074 11,397 31.5 36.1 23.0 0.8 5.9 CY11e 7,102 1,018 4,939 (2,553) 1,650 12,156 9,487 2,175 12,407 34.0 36.3 5.5 0.8 5.3 CY12e 7,763 1,018 4,445 (2,670) 2,696 13,252 10,463 2,282 13,503 32.2 34.5 (4.0) 0.8 4.8
Cash Flow (consolidated) (` mn)

CY10 Consolidated PAT + Depreciation + Deferred Tax Liability Cash profit - Increase in Current Assets + Increase in Current Liabilities Operating cash flow - Increase in Capex Free cash flow - Dividend + Debt raised - Investments Net cash flow + Opening Cash Closing Cash 2,590 542 109 3,241 153 574 3,663 1,079 2,584 1,802 520 1,350 14 79 94 CY11e 3,087 586 3,673 601 970 4,041 1,300 2,741 2,153 102 (892) 1,557 94 1,650 CY12e 3,226 639 3,866 417 534 3,982 1,300 2,682 2,250 107 (494) 1,046 1,650 2,696
Return ratios to moderate due to the capex plan and marginal decline in its margins
LNG to acquire majority share of its gas mix

100% 80% 60% 40% 20% 0% 8% CY08 13% CY09 26% CY10 37% 41% 45% 48%
40% 35% 30% 25% 20% 15% 10% 5% 0% CY10 ROCE CY11e CY12e CY13e CY14e ROE
4.5 4.0 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 Volume (mmcmd, RHS)
CY11e
CY12e
CY13e
CY14e
LNG
Domestic Gas
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Gujarat Gas
Exhibit 3: GGas SWOT analysis

Strengths Weaknesses
Low cost domestic gas constitutes 63% of its CY11 gas mix, thereby lowering the weighted average cost of gas for GGas. Cost competitiveness of: (a) CNG versus petrol/diesel for the automobile segment, (b) gas versus alternative liquid fuels like naphtha, fuel oil etc. for the Industrial segment, and (c) ease of usage of PNG versus LPG in household/commercial segment, provides substantial opportunity for volume growth. This would also provide a degree of pricing power to GGas. A presence in the potential growth market in the Gujarat region gives GGas the first mover advantage to capture this opportunity.
As High-cost LNG comprised ~37% of its CY11 gas mix, and with no additional domestic gas expected to be allocated to GGas over the next 2-3 years, growth would have to be fuelled via import of high-cost LNG. This in turn will likely require frequent increases in end-gas prices. As industries in Gujarat has been well served with gas due to geographic proximity to the sources of gas supply, the scope for growth in gas consumption in the Industrial segment is limited to a CAGR of 4% compared with 13%-15% volume CAGR in the CNG and PNG segments. As ~82% of GGass volume is sold to the Industrial segment, it drags down the overall volume CAGR expectation for GGas to ~5%. As all gas purchased is denominated in US dollars while all gas sales are in rupee terms, depreciation in the rupee has a direct impact on GGass margins. Higher sales tax on gas in Gujarat compared with the other states reduces the relative attractiveness of the CGD business in Gujarat.
Threats
Opportunities
Increase in KG D6 gas production could result in commencement of gas supply to GGas, as it has been allocated 0.6mmcmd of KG D6 gas on a fallback basis. Pricing power in the CNG segment will strengthen if the Government sticks to its decision of deregulating petrol prices and re-regulating diesel prices. This will strengthen pricing power for the CNG business of GGas. The Governments proposed plan to cap subsidised LPG cylinders to 5-6 p.a. per household will help make PNG more competitive and boost its volume growth. This will strengthen pricing power for the PNG business of GGas. Winning CGD licences for new cities will support growth, as demand from the Industrial segment currently in its area of operations is saturated. GGas has already submitted bids for the setting up of a CGD network in Bhavnagar, the 6th fastest city in Gujarat, with a potential demand of ~1mmcmd; the winner is likely to be announced by March 2012.
GGas sources a majority of its domestic gas from the matured PMT field, production from which is declining. Hence, GGas runs the risk of a significant decline in allocations from the PMT field. As 82% of GGass sales are to the unregulated Industrial segment, GGas will be given lower priority over other CGD companies for incremental allocation of domestic gas. As LNG is sourced via a mix of short term and spot contracts, the prices of which are highly volatile, a sudden spurt in the cost of LNG would drive up the weighted average cost of gas thereby impacting margins. Exit of the BG group will likely raise questions about GGass ability to source LNG from the international market at a competitive price. GGas might not able to easily pass on the increase in gas costs due to stiff resistance from Industrial customers. Pricing power for distributors in the Industrial segment is not as strong as in the CNG segment, due to only 10%-25% cost competitiveness of LNG v/s alternative fuel for the Industrial segment compared with 40%-50% cost competitiveness of CNG v/s petrol. Weakness in the rupee would result in increasing the cost of gas for GGas and hence squeeze its margins. The PNGRBs proposed regulations for CGD companies with respect to marketing margins (based on costs incurred in the marketing business), could lead to a decline in return ratios for GGas.
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Gujarat Gas
Company background
Exhibit 1: GGas major shareholders
BG Group Aberdeen AMC GGas employee welfare stock option Sundaram AMC Templeton AMC Birla Sun Life AMC Source: Company 65.12% 11.66% 1.33% 1.16% 0.86% 0.71%
Gujarat Gas (GGas) was formed in January 1980 by the textile focused Mafatlal Group with the primary objective of procuring and distributing natural gas to the industrial, commercial and domestic consumers in Gujarat. GGas became a subsidiary of the BG Group in 1997 as it acquired more than 60% shares from Mafatlal and others and later increased its stake to 65.12%. During the last five years, the company has expanded in southern Gujarat and has exclusive distribution rights in the industrialized cities of Surat, Ankleshwar and Bharuch in Gujarat. Today, it supplies gas to more than 317,000 domestic, commercial and industrial customers and serves over 1,44,000 CNG users. The companys pipeline network is spread over 3,700km. Sourcing of gas: GGas taps its gas requirement from various sources such as PMT (Panna-Mukta-Tapti gas field), APM (administered price mechanism), Niko and Cairns Lakshmi field, with the supply from PMT constituting ~45% of its total supply. GGas sources the balance gas via a mix of short term and spot LNG contracts. Currently GGas has two short term LNG agreements with the BG group: (i) A 0.2mmcmd LNG supply agreement until December 2013; and (ii) A 1mmcmd LNG supply agreement until December 2012. The remaining LNG requirement is sourced from the spot market.
Exhibit 4: Gas sourcing mix for GGas (mmcmd)
Allocation Domestic gas: PMT, APM, Niko and Cairn Lakshmi field RIL KG D6 (0.61on fallback basis) Total domestic gas LNG Total
Source: GGas, Ambit Capital Research ... *for CY11
Exhibit 2: GGas growth in its network

Jan 1980 Jun 1988 Incorporation of GGas Signed JV with Mafatlal group for supply of gas in Gujarat Commissioning of network and supply of gas in Ankleshwar Commissioning of network at Bharuch Commissioning of network at Surat Rights-cum-public issue Started CNG operations Reached 100,000 customer mark Started transmission business Achieved 1mmcmd of gas sales Commissioned 6 new CNG stations Touched 3mmcmd of gas sales Reached 20+ CNG stations Touched the 200,000 PNG and 50,000 CNG customer mark BG Group decides to exit the company.
Sep 1989 Apr 1990 Sep 1991 Oct 1991 Feb 1992 Dec-99 Jan 2001 Nov 2002 Nov 2004 Dec 2005 Dec 2006 Nov 2007 Nov 2011
Actual supply* 2.20 0.00 2.20 1.31 3.51
2.83 0.61 (A) (B) (C=A+B) 3.44
During CY11 the company transmitted ~3.47mmcmd of gas across various segments such as CNG, domestic and Industrial PNG. But, unlike other city gas distribution (CGD) players, GGas supplies the bulk of its gas to industrial customers. In CY11, industrial customers accounted for about 82% of its gas volumes while the more cost competitive CNG segment accounted for only 11% of its gas sales volumes with PNG accounting for the rest.
Exhibit 5: GGas gas sourcing and customers
Source: Company
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Gujarat Gas Profits during CY09-CY11 grew at 33% CAGR due to volume growth of 17% in CY10 (after it reported negative volume growth during CY08-CY09). Furthermore, the company was able to improve its EBITDA margin to `3.4/scm in CY10 and to ~`3.7/scm in CY11 from `2.7/scm in CY09. Hence the return ratios strengthened during CY10-CY11 to +30%. EBITDA margin declined in CY11, but that is more mathematical in nature, as the increase in gas cost has resulted in an increase in the selling price of gas with margins remaining stable in absolute terms.
Exhibit 6: PAT tracks volume growth
3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 CY07 CY08 CY09 CY10 CY11 PAT (Rs Bn) 3.5 3.0 2.5 2.0 1.5 1.0 0.5 0.0 Sales volume (mmcmd, RHS)
Exhibit 7: GGas return ratios
40% 35% 30% 25% 20% 15% 10% 5% 0% CY07 ROCE CY08 CY09 ROE CY10 CY11
25% 20% 15% 10% 5% 0% EBITDA margin
Growth plans
GGass volume growth is primarily dependent on the saturated Industrial segment demand. Industries in Gujarat have been well served with gas for the last couple of decades due to its proximity to the source of gas supply and pipeline connectivity, thus the demand from this segment would see only a 3%-4% volume CAGR. Although GGas is trying to grow its CNG and PNG business, the firm lacks an aggressive capex plan to build a more extensive distribution network. GGas plans to incur capex of approximately `1.5bn p.a. over the next three years for expansion within its existing operational area. Hence higher growth for GGas would be contingent on winning bids for new cities. In the 3rd round of CGD bidding, GGas had bid for Bhavnagar CGD (potential demand of ~1mmcmd); the winner is likely to be announced by Mar 2012. If it were to win the bid for Bhavnagar, then it would require incremental capex of `1.0bn to 1.2bn annually for the first five years.
BGs exit to raise questions about LNG import capability of GGas

In December 2011, the BG group announced its decision to divest its 65.12% stake in GGas following a review of its global portfolio. BG is currently looking for a buyer. BGs decision to exit GGas was following its strategic decision to exit from all non-core businesses as it needs to invest in its core E&P business. GGas currently gets LNG via a mix of short term (2-3 year) and spot contracts from BG group's global LNG portfolio. Therefore the exit of BG will mean that GGas will have to enter into an agreement with a third party in order to source LNG. This could pose a threat to its LNG sourcing capabilities. Furthermore, a change of ownership, with the exit of BG, could further slow down the capex plans of GGas.
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Gujarat Gas
Assumptions and estimates

Exhibit 8: Assumptions
CY09 Gas volume break-up (mmscm) Industrial segment CNG Domestic and commercial Total gas sold Internal consumption & loss Total gas purchased Total gas sold (mmcmd) Total gas purchased (mmcmd) Gas sales volume growth YoY Industrial segment CNG Domestic and commercial Overall Gas sales volume composition: Industrial segment CNG Domestic and commercial Gas sourcing & cost break-up Gas sourcing mix (mmcmd) GAIL PMT GAIL APM Niko, Cairn Lakshmi field RIL KG D6 RLNG Total gas purchased Gas cost (US$/mmbtu) GAIL PMT GAIL APM Niko, Cairn Lakshmi field RLNG Weighted average gas cost Overall margins (`/scm) Realisation 13.40 14.96 19.47 14.72 4.75 0.92 3.67 0.46 -0.28 3.49 1.04 2.45 21.73 17.03 4.70 1.08 3.63 0.48 -0.29 3.45 1.03 2.42 21.83 GGas to pass on a majority of the increase in gas cost to its consumers to maintain a gross margin of `4.5/scm Based on changes in gas sourcing mix and its cost Assume gross spread to stabilise at `4.5/scm Operating expense based on growth plans and inflation Expect EBITDA to stabilise at ~`3.5/scm Based on the capex plan and historical depreciation rate 839 104 92 1,035 16 1,051 2.84 2.88 7.2% 14.3% 11.1% -5.0% 81% 10% 8% 1,005 122 85 1,212 16 1,228 3.32 3.36 19.8% 17.3% 6.3% 17.1% 83% 10% 7% 1,035 138 94 1,267 16 1,283 3.47 3.51 3.0% 13.0% 10.0% 4.5% 82% 11% 7% 1,077 159 106 1,341 16 1,357 3.67 3.72 CAGR of 4% during CY12-15E due to saturation of Industrial segment in Gujarat. 182 CAGR of 15% during CY12-15E, given low penetration. CAGR of 13% during CY12-15E, given its low base and high 119 growth potential. 1,421 16 Gradual decline (~1.2% of sales) on economies of scale. 1,438 3.89 3.94 1,120 CY10 CY11E CY12E CY13E Comments
4.0% 4.0% 15.0% 15.0% 13.0% 13.0% 5.9% 6.0% 80% 12% 8% 79% Industrial segment to still dominate the gas sales mix 13% CNG segment to grow due to low base 8%
1.50 0.14 0.56 0.00 1.31 3.51 6.50 5.50 5.00 13.00 8.65
1.49 0.14 0.56 0.00 1.53 3.72 6.50 5.50 5.00 15.00
1.47 Supply from PMT field to gradually decline 0.14 Govt has allocated 0.14mmcmd of APM gas to GGas. Supply of ~0.16mmcmd from Niko and ~0.40mmcmd from 0.56 Cairn India's Lakshmi field 0.00 No supply from KG D6 due to decline in gas production 1.77 Balance gas is sourced via LNG imports 3.94 6.50 5.50 5.00 15.00
Delivered price of PMT gas to GGas Delivered price of APM gas to GGas Delivered price of gas to GGas LNG sourced via a mix of short term and spot contracts Gas cost will gradually increase due to increase in the 9.74 10.07 proportion of high-cost LNG in the gas supply mix
Average cost of gas 9.69 10.61 Blended gross spread 3.71 4.35 Net other expense/ (income) 0.96 1.01 EBITDA 2.70 3.43 Depreciation 0.46 0.45 Interest exp net of other income -0.26 -0.18 PBT 2.50 3.16 Tax 0.81 1.03 PAT 1.69 2.14 Balance sheet and cash flow assumptions: (` mn) Gross fixed assets Gross debt and customer deposit Cash balance Operating cash flow Capex Free cash flow 9,140 1,554 79 3,164 1,433 1,731
17.23 4.60 1.07 3.55 0.49 -0.32 3.38 1.01 Taxes as per the normal applicable tax rate 2.37 Expect PAT/scm to stabilise ~`2.3-2.4/scm
10,191 11,491 12,791 14,091 2,074 94 3,663 1,079 2,584 2,175 1,650 4,041 1,300 2,741 2,282 2,696 3,982 1,300 2,682
Gross fixed asset to grow due to setting up of new CNG stations and expansion of PNG network 2,394 Capex funded via internal accruals and customer deposits 3,782 4,158 Marginal growth in operating cash flow to continue Capex plan of `1.5bn p.a. over the next 3 years for 1,300 expansion within the existing cities 2,858 Moderate capex plan to result in marginal growth in FCF
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Gujarat Gas
Exhibit 9: Ambit v/s consensus table
Consensus Revenue (` mn) CY12 CY13 EBITDA (` mn) CY12 CY13 PAT (` mn) CY12 CY13 EPS (`) CY12 CY13
27.6 28.9 25.2 26.2 -10 -9 3,586 3,695 3,226 3,356 -10 -9 5,436 4,856 -11 28,870 30,842 29,529 31,441 2 2
Ambit
Divergence %
Comments
Due to marginally higher assumption for the cost of LNG Due to our assumption of EBITDA/scm to stabilise at ~`3.5/scm, compared to `3.67/scm earned during CY11 (to factor in its higher dependence on LNG and potential regulatory risk).
5,658
5,025
-11
Due to the reasons cited above
Due to the reasons cited above
As volume growth is expected to stagnate at ~5% and given the rising pressure on its margins, we forecast CY11-CY14E earnings CAGR to be muted at 4%. We have assumed EBITDA/scm to stabilise at ~`3.5/scm, compared with `3.67/scm earned during CY11, to factor in GGass higher dependence on LNG.
Exhibit 10: Muted earnings growth on the back of stagnating volume growth
`/share 30 24 18 12 6 0 CY09 CY10 Recurring EPS
% 50 40 30 20 10 0 CY11 CY12e EPS growth CY13e
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Gujarat Gas
Absolute valuation
Using a DCF-based valuation methodology, we arrive at a valuation of `369, which implies a CY12 P/E of 15.1x, EV/EBITDA of 10.0x and P/B of 4.5x. Our DCF is based on explicit earnings forecast until CY16, and after that we model 5% volume growth to CY22. Post that we have assumed a terminal growth of 4%. We have used a WACC of 11.1% for our DCF valuation (based on a cost of equity of 13.3%).
Exhibit 11: DCF valuation for GGas
Terminal FCF (` mn) Terminal growth rate WACC (%) Terminal value (` mn) PV of terminal value (` mn) PV of cash flow (` mn) Enterprise value (` mn) Net debt (CY11 end) (` mn) Equity value (` mn) No of shares Valuation (`) CMP (`) Downside (%)
Source: Ambit Capital research 4,943 4% 11.1% 72,401
(A) (B) (C=A+B) (D) (E=C-D) (F) (G=E/F)
25,493 22,496 47,988 601 47,388 128 369 393 -6%
Exhibit 12: WACC assumptions

Risk free rate Risk premium Beta Cost of equity Cost of debt (interest-free refundable customers deposits) Target debt/equity ratio WACC
8.0% 7.0% 0.8 13.3% 0.0% 20% 11.1%
We expect RoCE to decline to sub-30% based on stagnating volume growth and rising pressure on its margins due to increased usage of LNG.
Exhibit 13: Rising capacity utilization results in high RoCE
(` bn) 2.6 2.2 1.8 1.4 1.0 CY12e CY13e CY14e CY15e CY16e CY17e CY18e CY19e CY20e CY21e CY22e PV of FCFF
40% 30% 20% 10% 0% WACC (RHS) ROCE (RHS)
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Gujarat Gas
Bull and bear case valuations

Our bear case valuation of `308/share is after factoring in the following concerns: PMT gas allocation reduces by 5% resulting in increased dependency on highcost LNG, impacting gross margin by 2% Regulation on marketing margin lowering gross margin by 5%. Sales volume being 2% lower than our expectation
Our bull case valuation of `404/share is after factoring in the following optimism: Commissioning of part supply of 0.6mmcmd of KG D6 gas allocated to GGas on a fallback basis, improving its ability to absorb the high-cost LNG No threat from marketing margin regulation leading to our gross margin expectation being higher by 2%, as we have conservatively factored in lower margins Sales volume being 1% higher than our expectation.
Exhibit 14: Bull-bear case valuation for GGas (`/share)

450 400 350 300 250 200 Bear case PMT gas allocation decline by 5% 2% lower Marketing sales volume margin regulation lowering gross margin by 5% Base case Supply of KG D6 gas allocated to GGas No threat from marketing margin regulation 1% higher sales volume 308 31 12 18 369 12 13 10 404
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Gujarat Gas
Relative valuation
At the current market price, GGas is trading at: (a) 1-year forward EV/EBITDA of 10.3x, 24% higher than its own 5-year average multiple of 8.3x; (b) 1-year forward PE of 15.6x, 28% higher than its 5-year average multiple of 12.2x; and (c) 1-year forward PB of 4.8x, 41% higher than its 5-year average multiple of 3.4x. GGas is trading at a PE multiple in line with IGL. But GGas trades at 15% premium to IGL on the PB and EV/EBITDA multiples despite its volume growth stagnating at ~5% and resulting in muted earnings growth of 4.4% over CY11-CY14E. This is despite its pricing power being under risk due to its higher dependence on LNG.
Exhibit 15: GGas 1-year forward PB band (`)

500 400 300 200 2x 100 0 Feb-06 Feb-08 Feb-10 Feb-12 1x 5x 4x 3x
Exhibit 16: GGas 1-year forward PE band (`)

500 400 300 200 100 0 Feb-06 Feb-08 Feb-10 Feb-12 17x 15x 12x 9x 7x
Exhibit 18: Explanation for our flags on the cover page

Segment Accounting Score GREEN Comments In our forensic accounting model (see our January 2012 forensic thematic for details on how this model works), GGas has a relatively high score (8.8 compared to the utilities sector average of 6.6) High proportion of LNG in its gas mix and likelihood of decline in domestic supply due to mature PMT field would result in significant surge in its gas cost. But given the stiff resistance it faces from Industrial segment to which it sells ~82% of its volumes, it might not be able to pass on the entire increase in gas cost which may result in unpredictable nature of its earnings. Further the Governments directive to PNGRB to regulate marketing margin of all gas marketers based on the cost incurred in marketing business, raises concern of potential regulation of its marketing margin. Earnings Momentum RED Bloomberg earnings momentum suggest a 2% decrease in CY12 earnings during the last 4 weeks due to concern about regulation of marketing margin and factoring in of margin risk due to rupee depreciation.
Predictability
RED
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Gujarat Gas
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Gujarat Gas Balance sheet

Year to March (` mn) Share capital Reserves and surplus Shareholders funds Deposit from customers Unsecured loans Total debt Deferred tax liability Minority interest Capital employed Gross fixed assets Accumulated depreciation Net fixed assets Capital WIP and capital inventory Net assets Investments Current assets without cash Current liabilities Net working capital Cash and bank balance Capital deployed
CY09 401 7,396 7,796 1,554 1,554 560 52 9,962 9,140 3,331 5,809 1,356 7,165 4,481 1,714 3,476 (1,763) 79 9,962
CY10 401 8,191 8,591 2,074 2,074 669 63 11,397 10,191 3,832 6,359 1,298 7,657 5,831 1,866 4,051 (2,184) 94 11,397
CY11E 401 9,087 9,487 2,175 2,175 669 76 12,407 11,491 4,389 7,102 1,018 8,120 4,939 2,467 5,020 (2,553) 1,650 12,407
CY12E 401 10,063 10,463 2,282 2,282 669 88 13,503 12,791 5,028 7,763 1,018 8,781 4,445 2,885 5,554 (2,670) 2,696 13,503
CY13E 401 11,078 11,478 2,394 2,394 669 101 14,643 14,091 5,718 8,373 1,018 9,391 4,001 3,068 5,849 (2,781) 3,782 14,643
Income statement
Year to March (` mn) Sales volume (mmcmd) Gross margin (`/scm) EBITDA (`/scm) Net revenue Total expenditure EBIDTA EBITDA (%) Depreciation EBIT EBIT (%) Interest expense Other income PBT Current tax Deferred tax Effective tax (%) PAT Recurring PAT PAT growth (%) Recurring EPS (`)
CY09 2.88 3.71 2.70 14,197 11,402 2,795 19.7 474 2,321 16.4 1 266 2,586 (774) (62) 32 1,742 1,742 8% 13.6
CY10 3.36 4.35 3.43 18,493 14,337 4,156 22.5 542 3,614 19.5 5 224 3,833 (1,176) (67) 32 2,577 2,577 48% 20.2
CY11E 3.51 4.75 3.67 25,030 20,395 4,636 18.5 586 4,050 16.2 1 361 4,410 (1,323) 30 3,074 3,074 19% 24.1
CY12E 3.72 4.70 3.63 29,529 24,674 4,856 16.4 639 4,216 14.3 1 394 4,609 (1,383) 30 3,214 3,214 5% 25.2
CY13E 3.94 4.60 3.55 31,441 26,416 5,025 16.0 690 4,335 13.8 2 461 4,794 (1,438) 30 3,343 3,343 4% 26.2
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Gujarat Gas Cash flow statement

Year to March (` mn) Consolidated PAT + Depreciation + Deferred tax liability Cash profit - Increase in current assets + Increase in current liabilities Operating cash flow - Increase in capex Free cash flow - Dividend + Debt raised - Investments Net cash flow + Opening cash Closing cash Source: Company, Ambit Capital research CY09 1,750 474 62 2,286 189 1,066 3,164 1,433 1,731 1,209 280 924 (146) 225 79 CY10 2,590 542 109 3,241 153 574 3,663 1,079 2,584 1,802 520 1,350 14 79 94 CY11E 3,087 586 3,673 601 970 4,041 1,300 2,741 2,153 102 (892) 1,557 94 1,650 CY12E 3,226 639 3,866 417 534 3,982 1,300 2,682 2,250 107 (494) 1,046 1,650 2,696 CY13E 3,356 690 4,046 184 295 4,158 1,300 2,858 2,341 112 (445) 1,086 2,696 3,782
Ratio analysis
Year to March (%) EBITDA margin (%) EBIT margin (%) Net profit margin (%) Dividend payout ratio (%) Net debt/equity (%) Total debt/operating cash flow (x) Interest coverage ratio (x) Gross block turnover (x) RoCE (%) RoE (%) Source: Company, Ambit Capital research CY09 19.7 16.4 12.3 59.5% 18.9% 0.7 1,707 1.6 26.0 23.2 CY10 22.5 19.5 13.9 59.8% 23.0% 0.6 782 1.8 36.1 31.5 CY11E 18.5 16.2 12.3 60.0% 5.5% 0.6 2,933 2.2 36.3 34.0 CY12E 16.4 14.3 10.9 60.0% -4.0% 0.6 2,911 2.4 34.5 32.2 CY13E 16.0 13.8 10.6 60.0% -12.1% 0.6 2,852 2.4 32.6 30.5
Valuation parameters
Year to March (` mn)
Diluted shares (mn) FDEPS (`) CEPS (`) BV (`) DPS (`) Dividend yield (%) P/E (x) EV/EBITDA (x) P/B (x) Source: Company, Ambit Capital research
CY09
128 13.6 17.3 60.8 8.1 2.1% 29.0 18.6 6.5
CY10
128 20.1 24.3 67.0 12.1 3.1% 19.5 12.6 5.9
CY11E
128 24.0 28.5 74.0 14.4 3.7% 16.3 11.0 5.3
CY12E
128 25.1 30.0 81.6 15.1 3.8% 15.6 10.3 4.8
CY13E
128 26.1 31.5 89.5 15.7 4.0% 15.0 9.8 4.4
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Gujarat Gas
Note:
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Gujarat Gas
Institutional Equities Team

Saurabh Mukherjea, CFA Research Analysts Aadesh Mehta Anand Mour Ankur Rudra, CFA Ashvin Shetty Bhargav Buddhadev Chandrani De, CFA Chhavi Agarwal Dayanand Mittal Gaurav Mehta Hardik Shah Krishnan ASV Nitin Bhasin Pankaj Agarwal, CFA Parita Ashar Puneet Bambha Rakshit Ranjan, CFA Ritika Mankar Mukherjee Ritu Modi Shariq Merchant Sales Name Deepak Sawhney Dharmen Shah Dipti Mehta Pramod Gubbi, CFA Sarojini Ramachandran Production Sajid Merchant Kausalya Vijapurkar Production Editor (022) 30433247 (022) 30433284 sajidmerchant@ambitcapital.com kausalyavijapurkar@ambitcapital.com Regions India / Asia India / Asia India / Europe India / Asia UK Desk-Phone (022) 30433295 (022) 30433289 (022) 30433053 (022) 30433228 +44 (0) 20 7614 8374 E-mail deepaksawhney@ambitcapital.com dharmenshah@ambitcapital.com diptimehta@ambitcapital.com pramodgubbi@ambitcapital.com sarojini@panmure.com Industry Sectors Banking / NBFCs FMCG Technology / Telecom / Education Automobile Power / Capital Goods Metals & Mining Construction / Infrastructure Oil & Gas Derivatives Research Technology / Education Services Banking Construction / Infrastructure / Cement NBFCs Metals & Mining / Media / Telecom Power / Capital Goods Mid-Cap Economy Cement Consumer Desk-Phone (022) 30433239 (022) 30433169 (022) 30433211 (022) 30433285 (022) 30433252 (022) 30433210 (022) 30433203 (022) 30433202 (022) 30433255 (022) 30433291 (022) 30433205 (022) 30433241 (022) 30433206 (022) 30433223 (022) 30433259 (022) 30433201 (022) 30433175 (022) 30433292 (022) 30433246 E-mail aadeshmehta@ambitcapital.com anandmour@ambitcapital.com ankurrudra@ambitcapital.com ashvinshetty@ambitcapital.com bhargavbuddhadev@ambitcapital.com chandranide@ambitcapital.com chhaviagarwal@ambitcapital.com dayanandmittal@ambitcapital.com gauravmehta@ambitcapital.com hardikshah@ambitcapital.com vkrishnan@ambitcapital.com nitinbhasin@ambitcapital.com pankajagarwal@ambitcapital.com paritaashar@ambitcapital.com puneetbambha@ambitcapital.com rakshitranjan@ambitcapital.com ritikamankar@ambitcapital.com ritumodi@ambitcapital.com shariqmerchant@ambitcapital.com Head of Equities (022) 30433174 saurabhmukherjea@ambitcapital.com
59
Gujarat Gas
Explanation of Investment Rating

Investment Rating Expected return (over 12-month period from date of initial rating) >5% <5%
Buy Sell
Disclaimer
This report or any portion hereof may not be reprinted, sold or redistributed without the written consent ot Ambit Capital. AMBIT Capital Research is disseminated and available primarily electronically, and, in some cases, in printed form.
Additional information on recommended securities is available on request.

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Gas Companies - Ambit - Feb 2011

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Gas Companies - Ambit - Feb 2011

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February 23, 2011

Oil & Gas

Dawn for a new utility sector

Competitive advantages snapshot

Source: Ambit Capital research Note:

Oil & Gas

Ambit Capital Pvt Ltd

Oil & Gas

A brief history of CGD in India

Exhibit 1: Sectorwise gas consumption breakdown

Source: BP Statistical review 2011

Ambit Capital Pvt Ltd

Oil & Gas

The CGD supply chain in India

Source: Ambit Capital research

Source: Ambit Capital research

Ambit Capital Pvt Ltd

Oil & Gas

Source: Ambit Capital research.

Source: GGas, Ambit Capital research

Ambit Capital Pvt Ltd

Oil & Gas

Regulation of the CGD sector

Source: Ambit Capital research.

Regulation for existing cities

Ambit Capital Pvt Ltd

Oil & Gas

Source: PNGRB, Ambit Capital research

Regulation for new cities

Exhibit 9: Bidding criteria for a new CGD network

Note 1: *Present value to be calculated using a discount rate of 14%

Ambit Capital Pvt Ltd

Oil & Gas

Bargaining power of suppliers

Bargaining power of buyers

Ambit Capital Pvt Ltd

Oil & Gas

Sources of competitive advantage

Gas sourcing ability, Pricing power, and Volume growth potential.

(A) Gas sourcing ability

LNG sourcing capability

Total Source: IGL, GGas, Ambit Capital research. Note:

Source: MoPNG, Ambit Capital research, *during end January 2012

Ambit Capital Pvt Ltd

RILs NEC gas CBM gas

GSPC gas Total

Source: Infraline, RIL, ONGC, GSPC, OIL, Ambit Capital research

Existing domestic gas allocation

Ambit Capital Pvt Ltd

Oil & Gas

Source: Infraline, IGL, GGas, Ambit Capital research

Exhibit 15: FY11 gas sourcing breakdown (mmcmd)

Ambit Capital Pvt Ltd

Oil & Gas

Incremental domestic gas allocation

LNG sourcing capabilities

Ambit Capital Pvt Ltd

Oil & Gas

(B) Pricing power

A presence in states with favourable tax policies

Key business segments

Ambit Capital Pvt Ltd

Petrol 65.64 41.93 45.53 50.75 63.79

(G=E/F) (H=G-D) (I=H/G) (J) (L=HK) (M=A/L12) (N=A/H)

(G=E/F) (H=G-D) (I=H/G) (J) (K=J300) (L=HK) (M=A/L*12) (N=A/H)