The procurement price of LNG from the US under long-term contracts is linked to Henry Hub natural gas prices, while its selling price is based on crude oil prices.
Although GAIL’s back-to-back gas contracts with customers and start of new fertiliser plants offer comfort in terms of volumes, margins will likely get impacted.
According to Varatharajan Sivasankaran, analyst at Systematix Group, “The start of five new fertiliser plants over the next 15 months would bring down GAIL’s US gas contract open position down to zero. However, the disparity between Henry Hub-based gas price and crude oil-linked selling price of the gas would hurt (its) profitability.”
In fact, the overall realisation of GAIL’s gas marketing segment would also come down amid lower crude oil and natural gas prices. The impact could be visible from June 2020 quarter onwards, as the selling price is typically linked to three-month average crude oil prices.
Further profitability pressure would stem from the LPG segment, prices of which are also linked to crude oil. For petrochemicals business, however, the negative margin impact would get mitigated to a large extent, with the lower cost of key inputs like naphtha. Also, a likely increase in gas transmission volume and inclusion of gas under goods and services tax should support GAIL’s performance.
But, with more pressure points than positives at this juncture, GAIL’s stock (~90.40) is unlikely to see a sharp uptick despite attractive valuation, unless crude oil prices rebound. At 6x its 2020-21 estimated earnings, GAIL
is trading at 49 per cent discount to its long-term one-year forward valuation.