Stock Review: Gujarat Gas

 

The June '11 quarter results of Gujarat Gas were surprisingly strong, as the company undertook price hikes in anticipation of an increase in LNG costs that didn't happen. Still the company is facing challenges on volume growth and is unlikely to sustain current high margins going ahead. However, the scrip doesn't appear to face any correction risks.

For a city gas distribution company, the 67% profit growth reported by Gujarat Gas for the June quarter exceeded expectations. The company posted a strong 41% revenue growth to . 576.6 crore and improved operating profit margin by 180 basis points to 23.9%. Most of the company's revenue growth came from higher prices. It implemented an across-the-board price hike in April '11, which took the average sales realisation 35.6% higher y-o-y to . 19.1 per standard cubic meter (scm). In comparison, the volume growth was a paltry 1.8% to 302 million cubic meters.

The key question is whether the company will be able to maintain such margins, going ahead. Despite the company's monopoly status in its geography of operations, this appears tough. "Blended gross margins at . 5.9/scm increased by a sharp 46% y-o-y and 27% q-o-q (during the June quarter). With the company facing some consumer resistance, and volume growth suffering, we believe maintaining such high margins will be very difficult," noted a research report by Nomura.

With domestic natural gas supplies limited, the company's dependence on short-term LNG is increasing. It had reported a 37% jump in LNG volumes in the last quarter of 2010, as against an average of 26% for the whole of 2010. This is set to go up further, making it susceptible to raw material price volatility.

The scrip has gained nearly 10% in the last one month, while the BSE Sensex lost over 10%. Still the company's valuations doesn't appear excessive at around 18.5 times its earnings for trailing 12 months, considering the fact that its peer Indraprastha Gas is trading at 20.6 times its earnings. Thus, Gujarat Gas' scrip may not have any significant upside from here, but neither does it run any risk of a sharp correction.