Buy Indraprastha Gas; target of Rs 920: ICICI Direct

ICICI Direct's research report on Indraprastha Gas

Gross margins in the quarter increased to Rs 10.3/scm vs. Rs 9.2/scm in Q2FY16. However, it came in below our expectation of Rs 10.8/scm. Subsequently, EBITDA margins increased to 25.4% in Q2FY17 vs. 19.7% in Q2FY16. We expect margins to remain healthy, going ahead, due to the lowering of APM gas prices by 19% to $2.8/mmbtu (NCV basis) on October 1, 2016, which makes CNG more lucrative vs. liquid fuels. The pricing power of the company has helped it to maintain the gross spread over the years. Hence, we estimate gross margins at Rs 10.6/scm, Rs 10.6/scm and Rs 10.5/scm in FY17E, FY18E and FY19E, respectively, from Rs 9.6/scm in FY16, which would pave the way for profitable growth.

IGL provides an opportunity to own a company with a rare mix of volume growth and expanding margins, supported by subdued natural gas prices and supportive governmental initiatives. IGL’s sales volumes have grown at 8.1% CAGR in the last five years and are at 4.1 mmscmd in FY16. We believe IGL’s investment in Maharashtra Natural Gas (MNGL) (Rs 180.5 crore) is positive, giving it access to industrial gas demand in Pune, without much impact on its balance sheet. At 0.3 mmscmd, MNGL offers high growth potential. Also, investment of Rs 69 crore in Central UP Gas (CUGL), which is engaged in CGD in the cities of Kanpur and Bareilly, Unnao and Jhansi in Uttar Pradesh present a growth opportunity. We value IGL based on the DCF methodology to arrive at a target price of Rs 920 (WACC – 12%, terminal growth – 4%).