IPO Analysis: Mahanagar Gas

The Qualified Institutional Buyer (QIB’s) will be eligible for 50% of the offer, non-institutional for 15% and retail for 35%. The retail investors will be able to hence bid for 8,643,075 shares in the lots of 35.

The company is going for the secondary sale of shares as per the agreement with foreign promoters to go public after 20 years of investment. This makes the management decision to go public as an act of compliance rather than the sheer will. Also, the company was waiting for opportune time to enter market.

MGL is a city gas distribution (CGD) company supplying compressed natural gas (CNG) and Piped Natural gas (PNG) to Mumbai, adjoining areas and the Raigad district. In FY16, CNG and PNG businesses accounted for 71.05% and 28.95%, respectively, of total gas sales revenue.

Supply and demand dynamics

On the supply side, GAIL provides Natural gas to city gate stations located at Wadala, Mahape, Ambernath and Taloja through pipelines owned by GAIL. In terms of infrastructure within the city, Mahanagar Gas limited lays the pipeline and provides for the supply of PNG and CNG. 

CGD’s as per the guidelines come in the priority sector and can get 110% allocation so that it helps them to scale up the number of users and gain the same margins on new additions. Government plans to push the PNG users to ease the burden of LPG subsidy.

On the demand side, Mumbai has a population of 2.07crore with 50 lakh households and 67 lakh motor vehicles. Current penetration of MGL is close to 17% of this population for PNG and 13% for motor vehicles. This gives the idea of the scope of growth. However, we believe further growth is going to come from adjoining areas as congested areas pose as a major challenge to lay down the pipelines. We see growth coming with bidding for the smart cities which will provide a well planned layout with easy scalability. However, for smart cities the bidding price will be decided for 25 years and this can keep margins capped.

1) Commencement of gas supply to consumers in the Raigad district.

2) Conversion to CNG and new CNG variants: The number of CNG operated motor vehicles has grown steadily at a CAGR of 13.75% from March 31, 2009 to March 31, 2016 in Mumbai and its adjoining areas. (Source: PNGRB submissions). At current levels of petrol prices, CNG provides cost effectiveness  as a fuel.

3) PNGRB’s bidding round could be a large opportunity for growth with eleven geographical areas in Maharashtra and sixty geographical areas (GAs) in rest-of-India, offering multiple opportunities to MGL for expansion beyond Mumbai. The GAs in Maharashtra comprise of Ahmadnagar, Latur, Osmanabad, Ratnagiri, Nagpur, Solapur, Kolhapur, Satara, Chandrapur, Gadchiroli and Wardha. However, pricing remains a major criterion for the new bids as the bidder offering the lowest network tariff (70% weightage) and compression charge (30% weightage) will be chosen.

4) CNG across national corridors: The main bottleneck for CNG is the infrastructure for the refuelling systems, which if in place would provide more conversion of commercial motor vehicles.

Industry dynamics

City Gas Distribution (CGDs) companies serve primarily two markets – PNG users’ domestic and commercial’ and CNG for motor vehicles. The four key CGD companies: Indraprastha Gas Limited (IGL); Mahanagar Gas Limited (MGL); Gujarat State Petroleum Corporation Gas Limited (GSPC Gas); and Gujarat Gas Company Limited (GGCL) together account for 60% of the total sales volumes.

The industry is riddled with regulatory and infrastructure requirements. Petroleum and Natural Gas Regulatory Board (PNGRB) is the authority which governs the functioning of the CGDs. PNGRB has evoked the rights of exclusivity of operations in Mumbai and is under review, the decision scheduled   to be declared on June 17. Though odds are in favour of MNGL due to high infrastructure cost, we believe with more operators coming in the bordering areas, this can be a factor restraining the margins in coming five years.

As per the Proposed Unified Allocation Policy (UAP), applicable for all regimes, it has made CGD (CNG & domestic) as one of the priority sector and hence the emphasis is on more allocation to this priority sector as well as acquisition of more clients. Also, due to the continued regulated petrol and diesel prices, the benefits of drop in crude oil prices only partially flow to the consumers, making CNG still a good bet for the consumers.

The overall PNG users are approximately 31.8 lakhs which have grown at a CAGR of 15% over the last five years. Lately, the growth has decelerated to 10% in FY16 mainly due to lower petrol prices eroding the pricing edge of CNG. We believe growth higher than 15% in the industry is going to be derived from new geographies and smart cities’ projects.

For MGL, on the CNG side, the growth in customers of CNG has been above 10% over last five years though the growth has decelerated from high of 26% in 2014 to 12% in FY16.

The two close competitors of MGL are Indraprastha gas (IGL) and Gujarat Gas Company (GGCL). However, IGL has similar clientele’ of CNG and PNG vs Gujarat gas company which has more clients from commercial establishment. Hence, we will be comparing IGL and MGL. We see that MGL has higher market share related to residential users than IGL, however, the number of CNG stations are lower.

On the financial front, we see that MGL enjoys better growth and margins. We believe MGL enjoys better margins in PNG over IGL. However, over the last year, the performance of both these companies was impacted by the lower crude prices. MGL’s bottomline has remained however in the range of Rs300crore with margins above 15%.

MGL expects capex to be in the range of Rs 250 crore going forward, mainly due to expansion in Raigad district. Company believes it will be able to fund the same through cash.

Valuation:

We look at the valuation and see that MGL is available at P/E of 12.2x and 13.4x at the lower and upper band respectively; while IGL is trading at higher premium of P/E of 18.7x at share price of 620. We see that MGL has given ROE (Return on Equity) of above 20% over last 5 years, with FY16 ROE of 20.2%; while IGL’s current ROE is 17% in FY16. The book value per share for MGL is Rs 154 per share and hence P/B of 2.5x looks attractive vs P/B of IGL of 3.44x. We believe there is strong growth potential in adjoining areas of Mumbai, Raigad, and smart cities; thereby we would recommend bidding for getting listing gains to the tune of 15%. We would also suggest retail investors to invest over a three year period to enjoy long term gains.