Indraprastha Gas - huge negative - analysis

PNGRB has notified the network charges and compression tariffs for IGL’s network – 60% lower than the demanded tariffs

PNGRB today notified the network charges and compression tariffs for IGL’s network, the same comes as a significant negative surprise to us. The tariffs are around 60% lower than the IGL’s bid. Against the tariffs filed by IGL of Rs8.7/scm, PNGRB has notified the tariffs of Rs3.4/scm. Our earlier interaction with IGL had highlighted that difference in the estimates of company and PNGRB’s consultant of around Rs1.5/scm, thus the difference of Rs5.3/scm comes as a major surprise. IGL’s management has not specified the future course of action to be taken with regards to the PNGRB tariff. We believe, the future earnings of the IGL would be largely a function of the marketing margins (not regulated by PNGRB currently) allowed to be earned on the sales of the natural gas. We expect a major gap down for IGL in the tomorrow’s trading sessions. We will update our view on the stock based on the management interaction, thus we currently rate the stock as under-review.



IGL regulated tariffs at Rs3.4/scm as against demand of Rs8.7/scm

As per the PNGRB notification, the regulator has pegged the network tariffs to be charged by IGL at Rs38.58/mmbtu(1.4/scm). Similarly, the compression charges are fixed at Rs2.75/kg(2.1scm). The combined regulated tariff of Rs 3.4/scm is lower than IGL’s proposal of INR8.7/scm. The order states that IGL will need to reduce consumer prices to the extent of difference between IGL’s proposal and those fixed by the regulator. As the tariffs are from the retrospective date, the regulator would decide the modalities of refund of excess charges from 01‐Apr‐2008 till date at a later date. IGL has sold around 3065scm(over FY09-FY12E), a refund of Rs4,899mn (assuming marketing margins at Rs2/scm) is likely to result in 40% reduction in the FY12E expected networth of Rs12,113mn.


Likely impact on financials

For 9mFY12, IGL has reported gross margins of Rs8.0/scm. Assuming marketing margins of Rs2.0/scm, the implied network and compression charges earned by IGL stands at Rs6.0/scm. The regulator now prescribes the same now at Rs3.4/scm, thus a reduction of Rs2.6/scm. Thus, PNGRB tariffs are ~43% lower than the current network and compression charges earned by IGL. EBITDA and profitability estimates in such a scenario would stand reduced by ~42-43% and 64%-69% respectively for FY13E-14E. Similarly, if the marketing margins earned by IGL stands at Rs3.0/scm, the implied network and compression charges earned by IGL stands at Rs5.0/scm. PNGRB tariffs in such a scenario stands at ~26% lower than the current network and compression charges earned by IGL. EBITDA and profitability estimates in such a scenario would stand reduced by ~26% and 38%-42% respectively for FY13E-14E. We currently maintain our estimates pending clarity over the likley marketing margins to be charged by IGL


Key unresolved question from the PNGRB order

Questions over the marketing exclusivity of the IGL and retrospective application of tariffs: As per the PNGRB regulations = Margins for the current CGD units are segmented into three heads, network tariff, compression tariff and marketing margins.

CGD Margins = Network Tariff (levelised tariffs for 25 years based on 14% post tax IRR) + Compression Station Tariff (levelised tariffs for 25 years based on 14% post tax IRR) + Marketing Margins(unregulated)

Thus, PNGRB has an authority to fix the tariffs for the network and compression activity, it does not have any mandate over the marketing margins (till natural gas is notified as a declared goods). Moreover, as the marketing margins are integral part of any retailing business(gas retailing being no exception), PNGRB’s order stating reduction in selling price to adjustments for network tariffs and compression is difficult given the fact that IGL could state that it had earned higher marketing margins in past.

Reduction based on the difference in selling price based on IGL’s submission and PNGRB notification: The order says, “The difference between the network tariff and compression charges for the CNG submitted by IGL and that determined by the board as given by the table above would be reflected through appropriate reduction in selling price from the date of issuance of this order”. We believe, IGL submission of total compression and network tariff of Rs8.7/scm is based on the future capex and opex requirements, however the current margins of IGL stands at Rs8.0/scm, which is lower than the submitted tariffs of Rs8.7/scm. Thus, asking IGL to refund the differnce between tariffs sought and tariffs approved looks questionable.

How can PNGRB tariffs suffice marketing Costs and return on investment: IGL’s operating expenditure has averaged at around Rs2.48/scm over FY2009-FY2012. The same is likely to stand at around Rs2.82/scm,Rs2.95/scm and Rs3.07/scm in FY12E-FY14E. Thus, the network tariffs and compression charges of Rs3.4/scm would only be covered large part of the operating expenditure. Under such an scenario, we believe IGL would struggle to make normative returns on the capital and will get heavily disincentive to make further investments in the business.