Shares of GAIL have increased by over 25 per cent in the past five months. The shares increase after an increase in pipeline tariffs which strengthen the hopes that the country's largest gas transmission company will report better earnings in the future.
Investors however should also need to consider the possible loss that the company will bear on its US gas contracts due to the current mismatch between the contract price and the spot price of gas persists in the future.
GAIL had recently signed two term contracts, which would procure total 5.8 million metric tonnes per annum of gas with supply starting 2018. Currently the benchmark for the US gas price, the landed cost of the gas will be at 75% premium to the spot gas rate according to the present level of Henry Hub price.
According to the Economic Times report, If this difference persists when the gas is delivered two years later, it will be difficult for GAIL to sell costlier gas to domestic clients because they may prefer to source cheaper gas from other suppliers.
The final gas pricing will be a function of several factors including the difference between the benchmark price and spot rate as well as trend in crude oil price. However, the risk is high since GAIL has not secured customer tie-ups for US contracts.
This is unlike its long-term contract with Qatar-based RasGas Company which is under back-to-back arrangement. The event may also offset the benefit of higher tariffs for the company's five gas pipelines.
In addition, Bloomberg reported that NTPC is seeking to terminate the long-term gas supply contract with GAIL due to higher price. It means there is a potential risk to GAIL's earnings due to supply of high-priced gas contracts amid a glut in global LNG market.