Petronet LNG: Diversification unexplained!

6 Nov 2023 , 01:18 AM

Petronet LNG (PLNG) MD could not convince investors as to why the Rs207bn investment in PDH-PP + ethane storage is a strategic fit, assumptions on >16% IRR and related issues. That said, earnings trajectory and cash flows will remain unaffected until FY26 as construction activity will peak sometime in FY27 (CoD: Oct-2027). The massive UPF + cheap multiples (8x FY25) reflect concerns on capital allocation. The stock does not have any material re-rating trigger and will find support at 8% dividend yield (6% now).

Key questions unanswered: 

During analyst meet scheduled to explain decision to diversify in petrochemical project, PLNG MD A K Singh did not share any material information; key issues like why invest Rs207bn (>its current balance sheet) in PDH-PP unit (750KTA propylene + 500KTA PP) vs LNG terminal; what expertise does it have for seamless project execution; underlying assumptions for >16% IRR, and details of commercial contracts with Deepak group etc. remain unanswered. PLNG argued that since land is acquired at Dahej, technology partner identified (name not disclosed), key contracts in place, and finances in place, risk to timely completion and commercials seem low. It aims to complete the project by Oct-2027; propane for the project is to be secured from USA (no firm offtake contracts yet signed). The project also includes construction of an ethane storage tank; although details on the same were also not stated. 

No impact on earnings through FY26:

PLNG’s proposed investments will increase its commodity exposure, and enhance operating risk; as the construction activity picks up (>FY26), it may dampen the cash flows and return ratios. That said, the balance sheet remains healthy and can fund the aggressive investment (net cash: Rs78bn; OCF of >Rs40bn pa). Moreover, outlook on PLNG’s core regas business should improve through FY26, as the Kochi-Bangalore pipeline gets complete along with completion of Dahej terminal expansion (22.5m MT, up 29%). Overhang of Rs13bn TOP contracts persists, however analysts of IIFL Capital Services think, this issue may also be resolved through negotiations, as counter party default risk remains less (PSUs). 

No re-rating triggers in sight: 

PLNG stock has UPF markets for past 3 years for the muted earnings growth and issues over capital allocation. At 8x FY25 P/E, valuations reflect such risks to an extent, if not fully. Analysts of IIFL Capital Services think at 8% dividend yield, the stock will eventually find valuation support (vs 6% at CMP), and the stock doesn’t have any rerating triggers as of now.