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The MoPNG (Ministry of Petroleum & Natural Gas) has notified the price for domestic gas production for Oct 2022-March 2023 (link) and the price ceiling for domestic production from difficult fields (link). Domestic gas price has been raised to US$8.57/mmbtu (from US$6.1) and difficult field ceiling has been raised to US$12.46/mmbtu (from US$9.92). Delivered price will be higher by ~12% owing to conversion to net calorific value (NCV). The NCV price of US$9.6/mmbtu and NCV price ceiling of US$14/mmbtu is the highest ever price notified since this pricing formula was put in place. However, the price is still lower than our and street estimates of US$9.2- 9.3/mmbtu (GCV) and US$10.3/mmbtu (NCV), respectively

Margins to be under pressure, with limited leeway to pass on the costs:

Both from the perspective of economics (comparison to petrol/diesel prices and LPG) and government priorities (OMCs being restricted from raising petrol/diesel prices is a clear parallel), we believe passing on the full impact of these higher prices will be a challenge for CGDs. Our rough-cut estimates suggest that for Q3FY23, domestic and CNG prices will need to be raised by ~Rs6.2/scm and ~Rs9-12.5/kg to fully pass on the impact of these high input costs. At best, we see only a slow gradual pass through of these costs over Q3 and even then we expect margins to fall to Rs8.8-13.5/scm (vs Rs13.9-25/scm in Q1FY23) for domestic and Rs8-10/scm (vs Rs15.8-23/scm in Q1FY23) for CNG segments in Q3FY23 for the 3 CGDs -IGL, GGL & MGL. 

 The Kirit Parikh Committee can be a salve for these times:

With the government’s intent on easing the pressure of rising international gas benchmarks on domestic gas price, an expert committee headed by Mr Kirit Parikh has reportedly been looking at setting a ‘fair price to consumer’ (link here) and the implication clearly is to moderate gas prices for both CGDs and by extension the consumers. For Q4FY23, therefore, we see a reduction in the effective gas costs by ~15% from Oct 2022 declared prices as the revised formula is put in place, which is likely to cap prices at an effective range of US$6.5- 7/mmbtu. Margins, therefore, can see an uptick, as along with lower domestic costs, spot LNG prices are also expected to moderate post the passage of winter demand peak by January 2023

CGD:

We remain structurally positive on the CGD space, with IGL, MGL and GGL being our preferred pecking order over the next 12 months. While the long term volume potential remains the strongest for GGL, given its portfolio of new and recently commissioned areas and the demand potential from the same, uncertainty on margin resilience creates risk on earnings for the next 12 months. IGL and MGL, with 70% of their volumes from domestic and CNG segments, have margins at a more stable trajectory, given the priority of the government to keep input costs and end prices for households/CNG segments at manageable levels.

Valuations of 17.7/9.3/26.3 FY24E PER for IGL/MGL/GGL and 11.1/4.0/15.3 EV/EBITDA, respectively, remain comfortable. We see material upsides of 32.3 and 17.2% for IGL and MGL, respectively, underpinning our BUY rating. GGL’s upside gets limited by near-term price economics of gas vs propane, weak demand at Morbi and slower ramp up from newer areas. Reiterate ADD.

 Key risks: Upside risks:

i) CGDs are able to pass on the increase in input gas price to customer, ii) revision in pricing formula leads to higher decrease in gas price, iii) decrease in international LNG prices. Downside risks: i) Inability to pass on domestic gas price increases, ii) stronger LNG prices, iii) sharper-than-expected fall in alternate fuel prices for CNG (petrol/diesel).

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