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Gross margins drive profitability…

About the stock: Indraprastha Gas (IGL) is one of India’s largest city gas distribution companies and primarily operates in the NCT of Delhi.

* CNG sales contribute more than 70% of its total sales volume

* Sales volume grew at 9% CAGR in FY17-22

Q1FY23 Results: IGL reported Q1FY23 results that were better than estimated on the profitability front driven by gross margins.

* Revenue increased 154% YoY to | 3193.9 crore due to higher volume as well as realisation. Sales volume grew 48.4% YoY to 7.9 mmscmd

*Gross margin was flattish YoY at | 14.1/scm (our estimate: | 13/scm). EBITDA was at | 617.5 crore, up 62.1% YoY (I-direct estimate: | 526.9 crore)

* PAT was at | 420.9 crore, up 72.3% YoY (I-direct estimate: | 349.3 crore)

What should investors do? In the current quarter, pooled gas price has increased QoQ and spot gas price is trading at elevated levels. Competitive advantage against traditional fuels is likely to deteriorate in near to medium term

* We change our rating from BUY to HOLD on the stock

Target Price and Valuation: We value IGL at | 415 (standalone at ~| 386 i.e. 19x P/E on FY24E EPS and investments at ~| 29)

Key triggers for future price performance:

* IGL will continue to benefit from stricter environmental regulations in NCR and India’s aim to increase the share of natural gas in the energy mix

* Gas sourcing costs/price hikes will be key monitorable in the near term

* Debt free balance sheet

Alternate Stock Idea: Apart from IGL, in our oil & gas coverage we also like Gail

* Gail is India’s leading gas transmission company, which is a beneficiary of increasing gas consumption. Stable volume growth along with higher profitability from gas trading, petchem and LPG segment due to higher oil prices will add value

* BUY with target price of | 160

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