Mahanagar Gas IPO offers decent bet in city gas distribution sector


Mahanagar Gas Ltd’s (MGL) 25% offer for sale values the city gas distributor at a market capitalization of Rs.4,158 crore at the higher end of the price band of Rs.380-421 per share. On the other hand, rival Indraprastha Gas Ltd’s (IGL) market capitalization on Friday was Rs.8,643 crore.

It makes sense to compare MGL and IGL as they are engaged in similar businesses. MGL supplies natural gas in Mumbai and adjoining areas, whereas IGL operates in Delhi and the National Capital Region.

But IGL’s valuations are higher. For perspective, MGL’s price-to-earnings ratio of Rs.380-421 works out to 12.1-13.4 based on fiscal 2016 diluted earnings per share. In contrast, IGL’s price-to-earnings ratio is 18.6.

What explains the gap?

IGL is relatively bigger with its FY16 sales volume at 4 million metric standard cu. m per day (mmscmd), whereas the measure for MGL was 2.43 mmscmd.

The adjacent table shows how MGL stacks up against IGL on certain key parameters.

The recent notifications banning diesel vehicles and the mandatory conversion of all taxis to compressed natural gas (CNG) have provided a strong thrust to volume growth for IGL, pointed out Prayesh Jain of IIFL in a report.

“In the absence of such a regulatory push in Mumbai, we believe MGL will trade at a discount to IGL,” adds Jain.

Nonetheless, MGL’s comparatively better return on equity and higher dividend payout makes the discount in valuation look a bit unwarranted. According to Antique Stock Broking Ltd calculations, MGL’s dividend payout for FY15 and FY16 stood at 52% and 51%, respectively, whereas that of IGL was much lower at 22% and 20%, for the same period.

In general, there is enough thrust from the government for the city gas distribution (CGD) sector, given CNG’s favourable economics versus competing fuels such as petrol and diesel and the fact that natural gas is more environment-friendly. In fact, in 2014, the government increased allocation of administered price mechanism gas for supplying to CGD entities, for sale to the priority sector. And what’s more, this gas is cheaper than imported liquefied natural gas.

Still, lower crude prices diminished CNG’s appeal and that took a toll on MGL’s performance last year. Even as year-on-year total operating revenue growth was 25% and 11% in FY14 and FY15, respectively, the measure declined 0.8% in fiscal 2016.

Also, MGL’s net profit has been rather consistent at Rs.300 crore each for past four years and the lack of growth is far from inspiring.

Higher operating costs are one reason to blame.

Still, a discount in valuations and better dividend prospects do leave some scope for listing gains.

Meanwhile, MGL will not receive any proceeds from the offer. That’s because GAIL (India) Ltd and BG Asia Pacific Holdings Pte Ltd (now owned by Royal Dutch Shell Plc) will sell a 12.5% stake each, thus diluting their stake to about 32% each. The issue opens on Tuesday.