Gail's Weaker EBIT Highlights US LNG Price Risks: Fitch

Indian Gail’s 82% yr/yr decline in earnings before interest and taxes (EBIT) to rupees 4.8bn ($65mn) in the three months to June 30 (Q1) reflects price risks under Gail's long-term Henry Hub (HH)-linked LNG contracts from the US, Fitch Rating said in a note on August 23.

Gail, India's biggest gas marketing company, has contracts for the purchase of 5.8mn metric tons/year LNG with two US suppliers, deals that were signed between 2011 and 2014 when prices were elevated.

Negative EBIT of rupees 6.1bn in Gail's natural-gas marketing segment in Q1 was largely driven by losses on HH-linked US LNG volumes, Fitch said. “HH linked contracts expose Gail to price risk, especially during a low crude-price environment such as 1QFY21, when spot LNG was cheaper than the landed cost of HH-linked US LNG,” it added.

Part of losses were also due to a sharp drop in natural-gas prices, leading to inventory losses of rupees 2.5bn. 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.

Gail generally hedges most of its volume and price risk on near-term deliveries of US LNG to minimise losses and generate positive return, as reflected in its FY20 gas marketing EBIT of rupees 26.4bn.

“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, such as Gail, to provide some volume and price flexibility,” Fitch said.

India's natural-gas consumption dipped by around 15% in Q1, driven by pandemic-related lockdowns and a drop in Asian spot LNG prices to an all-time low of below $2/mn Btu.

Fitch expect the gas-marketing segment to generate negative EBIT of rupees 11.6bn in FY21, driven by 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. The recent increase in Asian spot LNG prices to above $3/mn Btu 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 volume,” Fitch said.