ICICI Direct : Buy Petronet for a target of 78 within 3 to 6 Months

(BSE: 532522 | NSE: PETRONET | ISIN: INE347G01014)

ICICI Direct has recommened Petronet LNG at Current Market Price Rs 68 for a Target of Rs 78 with time frame of 3 to 6 months. It says Petronet LNG has a potential Upside of 20%

Company Background Petronet LNG is one of the fastest growing companies in the Indian energy sector, which has set up the country’s first LNG receiving and re-gasification terminal at Dahej in Gujarat. The company was incorporated in 1998 to import liquefied natural gas (LNG). The company was formed as a joint venture company by four oil and gas majors BPCL, GAIL, IOC and ONGC which together hold 50% of its equity capital. The company has set up LNG import and re-gasification facilities with a capacity to import, store and re-gasify 5 mmtpa of LNG at Dahej.

Investment Rationale : Re-gasification in full throttle : Petronet imports LNG on contracted and spot basis, re-gasifies it and sells it. With natural gas gaining acceptance among domestic user industries such as fertilizers and power generation companies, demand for higher-margin spot LNG is rising. The company processed 4.5 cargoes in Q1FY08 against one cargo in Q107. It re-gasified 78.62 trillion British thermal unit (btu) of gas in Q1FY08 against 63.15 trillion btu a year earlier. In Q1FY08, the company entered into an agreement with the Qatar- based RasGas for 1.25 mmtpa of natural gas for its Dahej terminal. Though this is a short-term contract from July 2007 to March 2008, it will generate confidence in the company’s ability to source higher natural gas volumes over the next few quarters.

Dabhol power plant to add to existing business : The Dabhol Power Plant is likely to start generating power using gas as feedstock from second week of August 2007. Petronet imports LNG from RasGas to its Dahej terminal, which after re-gasification will be transported through GAIL’s pipeline to Dabhol power project. For supply of gas, GAIL has already constructed a 577-km pipeline from Dahej. As Petronet cannot market its product directly to end users, it has entered into a gas sales agreement with GAIL, Indian Oil and BPCL. GAIL, which has a 12.5% stake in Petronet, is in talks with Sonatrach of Algeria to import of 2.5-5 million tonnes of LNG on long-term basis from 2010 once Dabhol plant’s LNG receipt facility is fully completed. By December 2007, we believe the gas off-take would see more traction as Dabhol’s 740-MW Block-II would switch to gas in two weeks time, while a similar capacity Block-III would come on gas after eight weeks. The 670-MW Block-I is scheduled to go on gas from December 15, 2007.

Assured supply contract :The company has contracted RasGas to supply up to 5MMTPA of LNG for a 25-year period. Petronet would re-gasify the LNG into natural gas and the entire quantity will be sold to GAIL, IOC and BPCL in the ratio of 60:30:10. Petronet is, therefore, assured of supply and a ready customer base.

Capacity addition, new contracts earning accretive :The company has embarked upon the expansion of Dahej LNG terminal of 12.2 million MT. This would involve construction of additional LNG storage tank, pumps, vaporizers, send out and metering systems. The company has commenced activities for setting up LNG receiving & re-gasification terminal at Kochi of 2.5 million tonnes per annum nominal capacity, with provision for expansion to 5 million tonne per annum. Petronet’s Dahej capacity expansion project is on track and is likely to be commissioned during FY09. The Dahej expansion would lead to the doubling of the capacity to 12.2 million tonne. But, the Kochi terminal seems to be delayed and is likely to be ready for commercial operations by January 2011. PLNG has recently signed a contract with RasGas to supply 1.2mn MT of LNG.

Risk & Concern

(1) A number of private players are ready to enter the LNG segment. They include MNC majors such as Shell and British Gas. This would lead to a dilution of Petronet’s monopoly status.

(2) Any delay in the start of power production from gas at Dabhol power plant may impact the company’s performance. Further, any delay in payment by the client may also impact the financials. For example, GAIL transported gas to Dabhol plant in July but the power plant could not get the gas supplies as Ratnagiri Gas and Power Pvt Ltd (RGPPL – the firm that owns the Dabhol power plant) could not provide guarantees for payment for the fuel. GAIL withheld gas supplies due to nonsubmission of letter of credit of Rs 33 crore by RGPPL. RGPPL could not furnish the L/C as it had not got a similar guarantee from its sole customer Maharashtra State Electricity Board for purchase of power.

(3) The current agreed price between Petronet and RasGas is valid only for the first five years. Both these factors could
affect the margin in a competitive market situation.

Financials :Sales grew at a CAGR of more than 68% over FY05-07. In FY07, the company reported top line of Rs 5,509 crore and bottom line of Rs 313.25 crore. We expect top line to grow at a CAGR of over 17.5% over FY07-09E to more than Rs 7,500 crore and bottom line at a CAGR of over 20% to more than Rs 450 crore. We expect RoNW to improve from 20% in FY06 to 22% in FY09E. In Q1FY08, the company reported good numbers helped by enhanced utilization at its Dahej capacity and an increase in spot cargoes processed on a y-o-y basis leading to an expanded re-gasified quantity. During the same period, operating profit grew an impressive 56.6% y-o-y to Rs 204.9 crore, while income from operations improved 52.2% to Rs 1551.02 crore. The operating profit margin also expanded 40 basis points y-o-y to 13.2% during the quarter.

Valuations :With an impressive financial record and good opportunity ahead in the form of increase in gas off-take, we believe that the stock is an excellent investment bet. Further, with volatile crude oil prices, we believe gas is going to be one of the substitutes, and help Petronet sustain in the sweet spot. At the current price of Rs 65, the stock is trading 10x FY09E EPS and at an EV/EBIDTA of 7x. We rate the stock an outperformer with a target price of Rs 78 (13x FY09E EPS) in six months, which represents an upside of 20%.

Technical Outlook :On the charts, the stock has formed a rounding bottom. It broke above the multiple resistance line of Rs 59.25 with good volumes, suggesting a bullish breakout. It is currently consolidating with momentum indicators in overbought zones. Further, the short-term averages have begun consolidating after a sharp spurt. The stock can be accumulated at current levels before the next leg of momentum begins.

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Source ICICI Direct research Report (Every week, the ICICIdirect research team selects a stock based on fundamental and/or technical parameters, which is likely to give a return of 20% or more over a 3-6 month perspective.)

Investment in equity shares has its own risks. Sincere efforts have been made to present the right investment perspective.The information contained herein is based on analysis and up on sources that we consider reliable. I, however, do not vouch for the accuracy or the completeness thereof. This material is for personal information and I am not responsible for any loss incurred based upon it.& take no responsibility whatsoever for any financial profits or loss which may arise from the recommendations given in this blog.