No commodity risk - Back to Back mirror agreement

PLL is a bulk supplier of imported LNG which is re-gasified and delivered at the GAIL’s HVJ pipeline. PLL enters into back-to-back long term purchase and sales agreements. The sale of LNG to be imported by the company is fully tied up through Gas Sales and Purchase Agreement (GSPA) on a take or pay basis. The price of natural gas (NG) would be actual cost of LNG at the import exchange rate, taxes and duties on the import of LNG, shipping & insurance charges and the Regasification rate.

No currency risk for long term contracts

Revenues of PLL consist of 2 parts, fixed charges (in INR terms) and fuel charges (in USD terms). Fixed charges cover re-gasification cost while fuel charges cover gas payments (RasGas) and transportation costs. The long term contract with RasGas is linked to average price of Japanese crude cocktail (JCC) prices and calculated using a classified formula. The shipping and insurance costs ~USD0.29/mmbtu while a custom duty of 5.15% is applicable on the LNG import. Re-gasification charge, which is essentially the contribution for PLL, has an escalation of 5% in the beginning of every calendar year as per the agreements with the off-takers.

ROBUST FINANCIALS

Growth to continue – Capacity expansion and Parental support

On the back of increased capacity and slow ramp-up of RIL-KG D6, volumes for PLL are expected to show healthy growth going forward. We expect volumes to grow at a CAGR of ~14% from FY10 to FY14. Net sales should grow at a much higher rate of ~33% on the back of higher regasification charges and increasing linkages of gas price with JCC index. GAIL, one of the promoters of Petronet LNG has doubled the capacity of its HVJ pipeline (off-take point for PLL-Dahej terminal) and laying Kochi-Mangalore-Bangalore pipeline (off-take point for PLL-Kochi terminal) which is expected to get commissioned along with commissioning of PLL’s Kochi terminal.

Margins to increase in absolute terms

As per the current agreement with RasGas, cost of LNG will be gradually linked to JCC in the 60months period from Jan’ 09 to Dec’ 13. As a result of this, we will see gas cost increasing gradually due to strong crude prices. Higher gas cost will result in higher net sales and lower EBITDA margin (higher denominator impact), however, in absolute terms EBIDTA/ mmbtu should increase in coming years.

Strong cash flow from operation to support capex

Petronet LNG is increasing its capacity from 10mmtpa (FY10) to 17.5mmtpa (FY15). The company is incurring total capex of ~Rs50bn in the five year period to achieve this target. Total capex for Kochi 5mmtpa capacity should be ~Rs40bn for which management has guided debt of ~70%. Remaining capex will be funded through internal accruals as company is generating robust cash flows from operations. Net debt/ equity is likely to peak in FY12 at 1.3x and should gradually decrease.

RECOMMENDATION

For our DCF, we have taken risk free rate of 8%, market premium of 6% and terminal growth rate of 3%. Beta for PLL stands at 0.92. At the CMP of Rs118, the stock is trading at P/E of 12.0 & 11.5 and EV/EBITDA of 9.0x and 7.6x respectively for FY12 and FY13. We initiate coverage on PLL with a ‘BUY’ recommendation and a price target of Rs143 based on DCF (upside +22%) with a 12 month time horizon.