UBS Securities bullish on GAIL’s profitability and potential stock re-rating; raises target price by over 26%

Given the better outlook for the gas transmission industry (8% volume CAGR over FY23–26E), investors have seen a 50% increase in GAIL's share price in the last six months. Brokerage UBS Securities India Private Ltd, however, feels that the consensus has not yet properly taken into account the possible upside to tariffs and downside to expenses for the gas transmission industry in FY25–26 as compared with FY24.

According to UBS Securities, the gas trading company's worth may rise further due to its stable and robust profitability. Although petchem company margins are currently below average, the segment's performance in FY25–26E might be affected by declining feedstock LNG prices.

"GAIL is trading at 30% and 8% discounts to its 10-year average PE and EV/EBITDA, respectively, indicating risk reward remains attractive. We reiterate our Buy rating and raise our price target to ₹190 (26.67% higher from previous ₹150), valuing the stock at 10.0x FY26E consolidated PE," the brokerage said in its report.

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Scope of expansion in transmission EBITDA; on the lookout for long-term deals

As for the long-term benefits of recent regulatory reforms and the integration of GAIL's pipelines, UBS Securities believes investors still don't completely understand them. The regulators' earlier estimations of tariffs took reduced petrol prices into account, so tariffs stand to benefit even more from the next review.

However, considering the run rate in previous quarters, the brokerage has increased its projections for gearbox costs, which results in a decrease in FY24-26E profits.

"We highlight there are downside risks for our FY25-26 transmission cost estimates in the recent softening of LNG prices. Our FY25-26E gas transmission EBITDA are still 9-14% ahead of consensus.

A higher earnings contribution from the more stable transmission business (about 50% of segment EBITDA in FY25-26E versus 34% in FY22-23) could spur a stock re-rating. Also, GAIL has recently signed a long-term LNG contract and is continuing negotiations for other deals, in line with our constructive view on India's gas demand," the brokerage said.

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Is gas trading earnings sustainable? Can petchem earnings recover?

According to UBS Securities, FY25–26 gas trading EBITDA is expected to reach ₹45 billion. This is primarily due to GAIL's ability to deploy all of its US LNG in India, the removal of pricing basis risk for the majority of the LNG portfolio, and forward curves for Henry Hub (HH) and Brent that show sustainable profits over the long term.

“Also, a recent green shoot is the softening of global prices for LNG, a feedstock for petchem. After a disappointing FY23-24, lower LNG prices could help regain the petchem business's profitability amid higher plant utilisation,” the brokerage said. 

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Disclaimer: The views and recommendations above are those of individual analysts, experts and broking companies, not of Mint. We advise investors to check with certified experts before making any investment decision.