GAIL's weaker EBIT highlights US LNG price risks: Fitch

Singapore, Aug 24 : Fitch Ratings says GAIL India Ltd's 82 per cent year-on-year plunge in earnings before interest and taxes (EBIT) to Rs 480 crore in the first quarter of the financial year ending March 2021 was weaker than the agency's expectations and reflects price risks under GAIL's long-term Henry Hub (HH)-linked liquefied natural gas (LNG) contracts from the United States.
GAIL's regulated gas transmission segment was the least affected by the coronavirus pandemic-related lockdowns and helped generate an overall positive EBIT margin over the quarter.
Negative EBIT of Rs 610 crore in GAIL's natural-gas marketing segment in Q1 FY21 was largely driven by losses on HH-linked US LNG volumes. Part of losses were also due to a sharp drop in natural-gas prices, leading to inventory losses of Rs 250 crore.
HH linked contracts expose GAIL to price risk, especially during a low crude-price environment like Q1 FY21 when spot LNG was cheaper than the landed cost of HH-linked US LNG.
GAIL generally hedges most of its volume and price risk on near-term deliveries of US LNG to minimise losses and generate a positive return, as reflected in its FY20 gas marketing EBIT of Rs 2,640 crore.
However, the remaining unhedged volume risk increases during times of weak demand and low spot prices, potentially leading to losses and lower offtake, even for volume contracted with customers as they may require gas marketers like GAIL to provide some volume and price flexibility.
India's natural-gas consumption dipped by around 15 per cent in Q1 FY21, driven by pandemic-related lockdowns and a drop in Asian spot LNG prices to an all-time low of below two dollars per million British thermal units (MMBTUs).
"We expect the gas-marketing segment to generate negative EBIT of Rs 1,160 crore in FY21, driven by our expectation of lower spot LNG prices which are linked to our crude-price estimates. This will make it difficult for GAIL to fully mitigate price risk on its US LNG volume," said Fitch.
The recent increase in Asian spot LNG prices to above three dollars per MMBTU should limit the extent of the losses but a potentially slower demand recovery post lockdown is likely to keep the margin in the red.
India's LNG demand will also be affected by lockdown-related delays in commissioning fertiliser plants to which GAIL aims to sell some of its US LNG volumes.
The weaker profitability in the gas-marketing segment is likely to increase GAIL's net leverage. "Still, GAIL's financial profile should remain commensurate with its standalone credit profile of 'bbb' and we expect the segment's EBIT margin to turn positive in FY22, supported by a rise in crude-linked spot LNG prices and a demand recovery."
GAIL's natural-gas transmission segment EBIT was relatively stable at Rs 720 crore with the EBIT drop broadly in line with a dip in India's natural gas consumption.
"We expect EBIT from the gas-transmission segment to increase to Rs 3,380 crore in FY21 supported by a gradual recovery in natural-gas demand after the lockdowns cease and GAIL commissions new pipelines," said Fitch.