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Higher gas price impacts margins…

About the stock: Mahanagar Gas (MGL) is a city gas distribution company and operates in Mumbai, its adjoining areas and Raigad district, Maharashtra.

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

* It has historically reported high gross margins and return ratios

Q2FY22 Results: MGL reported results that were lower than estimates on profitability front.

* Revenue was up 65.3% YoY to | 907.6 crore, driven by sales volume growth of 50.7% YoY and higher realisation at | 31.6/scm

* Gross margins fell | 1.7/scm YoY (and | 3.9/scm QoQ) to | 15.6/scm on account of sharp increase in gas costs. EBITDA increased 36.5% YoY to | 301.8 crore

* PAT was at | 204.3 crore, up 41.5% YoY

What should investors do? MGL’s CNG sales volume surpassed pre-Covid level and is expected to grow further. However, margins are likely to reduce from higher levels in the medium term owing to high gas costs.

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

Target Price and Valuation: We value MGL at | 1120 i.e. 11x P/E on FY23E EPS

Key triggers for future price performance:

* MGL is a beneficiary of India’s aim to increase the share of natural gas in the energy mix from 6% to 15% by 2030

* On account of competitive advantage against traditional auto fuels, MGL has potential for further sales volume growth in Mumbai and adjacent areas

* MGL hiked prices in Q3FY22E to partially pass on higher costs to customers. Further price hikes will be important to watch out

* Debt free balance sheet and consistent dividend payout

Alternate Stock Idea: Apart from MGL, 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 a target price of | 175

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