Renewable Trends Will Squeeze India's Natural Gas Margins

Key Takeaways

• Transition to renewables and tightening regulations threaten long-term demand, eroding Gujarat Gas's core revenue streams and shrinking profitability.
  
• Volatile input costs, aggressive diversification, and rising competition create risks for margin stability, capital returns, and future earnings growth.
  
• Expansion in CNG, diversification into new energy segments, cost improvements, and digital initiatives are driving robust demand, operational efficiency, and long-term earnings resilience.

Catalysts

Engages in the distribution of natural gas in India.

• The accelerating shift towards renewable energy sources and electrification, such as solar, wind, and electric vehicles, is expected to significantly reduce India's long-term natural gas demand, eroding Gujarat Gas's core revenue streams and limiting growth in both household and industrial consumption.
  
• Intensifying regulatory scrutiny, with the looming prospect of higher carbon taxation and stricter emissions rules on fossil fuels, threatens to make natural gas less cost-competitive, placing persistent pressure on Gujarat Gas's net margins and profitability over the coming years.
  
• Persistent volatility in global LNG and propane prices-combined with Gujarat Gas's limited ability to pass on these costs due to price-sensitive end markets and active competition-will likely result in ongoing margin compression, directly impacting the company's operational earnings and cash flow generation.
  
• The company's aggressive expansion plans into new business lines, such as propane and LPG distribution, expose it to established competition with thinner margins, lack of infrastructure exclusivity, and uncertain demand, raising the risk of underwhelming returns on capital and muted earnings growth.
  
• Growing competition from large conglomerates and state entities entering the City Gas Distribution sector threatens Gujarat Gas's market share and pricing power, while slow or inconsistent government incentive rollouts for natural gas could stall volume growth and suppress revenue potential across its core markets.

Gujarat Gas Future Earnings and Revenue Growth

Assumptions

• This narrative explores a more pessimistic perspective on Gujarat Gas compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts.
• The bearish analysts are assuming Gujarat Gas's revenue will grow by 4.9% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 7.2% today to 7.5% in 3 years time.
• The bearish analysts expect earnings to reach ₹13.7 billion (and earnings per share of ₹19.95) by about August 2028, up from ₹11.5 billion today. The analysts are largely in agreement about this estimate.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 25.1x on those 2028 earnings, down from 25.8x today. This future PE is greater than the current PE for the IN Gas Utilities industry at 16.2x.
• Analysts expect the number of shares outstanding to decline by 0.1% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 12.73%, as per the Simply Wall St company report.

Gujarat Gas Future Earnings Per Share Growth

Risks

• The company is experiencing strong and consistent growth in its CNG segment, with CNG sales rising 12% year-over-year and infrastructure expanding rapidly, supporting stable and growing revenue streams for the long term.
  
• Ongoing expansion in new and existing geographies, coupled with a rising customer base in both domestic and commercial segments, indicates robust demand and ample room for volume and revenue growth over several years.
  
• Management remains optimistic about securing long-term LNG contracts at favorable rates due to increasing global LNG supply, which could reduce input costs, help recapture Morbi volumes, and improve net margins.
  
• Strategic diversification of energy offerings, including entry into the propane distribution business-targeting 25% of a large industrial market-positions Gujarat Gas to capture additional industrial customers, thereby reducing dependence on any single segment and supporting overall earnings resilience.
  
• Implementation of digital transformation initiatives, increased operational efficiencies through digitization and AI, and a technology-focused approach are expected to gradually improve operating leverage and enhance net margins and profitability over time.

Valuation

• The assumed bearish price target for Gujarat Gas is ₹350.0, which represents the lowest price target estimate amongst analysts. This valuation is based on what can be assumed as the expectations of Gujarat Gas's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of ₹615.0, and the most bearish reporting a price target of just ₹350.0.
  
• In order for you to agree with the bearish analysts, you'd need to believe that by 2028, revenues will be ₹183.5 billion, earnings will come to ₹13.7 billion, and it would be trading on a PE ratio of 25.1x, assuming you use a discount rate of 12.7%.
  
• Given the current share price of ₹430.05, the bearish analyst price target of ₹350.0 is 22.9% lower. Despite analysts expecting the underlying buisness to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.