Why city gas distribution stocks are feeling low on energy

City gas distribution stocks are feeling the heat this week. Shares of Indraprastha Gas Ltd (IGL), Mahanagar Gas Ltd (MGL) and Gujarat Gas Ltd have declined in the range of 6-8% since Friday. Concerns over competition and the resultant adverse impact on profitability have weighed on investor sentiment.

In a conference call with investors and analysts on Monday, the Petroleum and Natural Gas Regulatory Board (PNGRB) explained more about the need to introduce common carrier (competition) in the CGD sector. Last year, PNGRB had released a draft regulation on open access in CGD, which facilitates the entry of third party marketing entities in areas operated by other CGD companies. The move is expected to protect consumer interest and boost gas penetration in the country.

Earlier this week, PNGRB said on the call that it is looking to would publish regulations allowing competition in CGD areas where exclusivity period is over in end July 2020 or early August 2020. PNGRB added it does not foresee pending legal disputes being a hindrance in this matter.

Incumbents would have to provide at least 20% of capacity for common carriers to encourage competition. Of course, higher competition would be an adverse development eating into volume growth and also impacting margins of city gas distributors.

According to Nitin Tiwari, analyst at Antique Stock Broking Ltd, “There is an imminent impact on margins at the least, to begin with and also subsequently on market share should the size of opportunity for competition grows beyond the baseline of 20% as mandated in draft guidelines.”

That’s not all. Tiwari points out, “The oil marketing companies (OMCs) would most likely find it easier to ramp up in the CNG space given their ubiquitous ownership of fuel outlets. Eventually, this can end up being a big risk for MGL and IGL.”

OMCs include Bharat Petroleum Corp. Ltd, Hindustan Petroleum Corp. Ltd and Indian Oil Corp. Ltd.Some analysts feel the implementation of open access in CGD could be challenging and as such, more gradual in nature.

“We think the actual implementation could still be challenging,” said Pratik Chaudhuri, analyst at Jefferies India Pvt. Ltd. “This would affect margins in only 20% of fully utilized volumes. Every 10% change in gross margin on 20% of volumes impacts the earnings per share of CGD companies by 3-4%,” wrote Chaudhuri in a report on 7 July.

Given that the CGD sector is in nascent stage in India, competition in the space may dampen investments in the sector.