Sector Update - Transmission: Prabhudas Lilladher

Transmission
Order flow to pick up
We hosted major Transmission line companies (KEC Kalpataru, Jyoti) for an
investor conference. Following are the key takeaways on the industry.
 Order inflow to pick up significantly: Recently, Power Grid Corporation
of India (PGCIL) announced its plan to spend ~Rs600bn on nine High
Capacity Transmission Corridors (HCTC). We understand that order
tendering for HCTC will start in the current year and is expected to span
over the next 2-3 years. This will create additional opportunities worth
~Rs70bn per annum for Transmission Line companies over and above the
normal PGCIL capex of ~Rs40-45bn per annum on Transmission line. State
Electricity Boards (SEBs) are also spending ~Rs40-50bn per annum.
Private players are also expected to spend close to ~Rs100bn over the
next 2-3 years on transmission line projects. The strong spending
momentum by SEBs and private players is reducing the dependency on
power grid for most of these players. Besides, International markets like
Africa and Middle East are also opening up a lot of opportunities for
these companies. We believe that, given the size of opportunities, order
flow for most of these companies could surprise on the upside.
 Some sanity could return to competition: Though the competitive
intensity in the industry has increased over the past year and half,
margins are unlikely to get affected significantly from hereon, as the pie
is getting bigger due to strong capex momentum from PGCIL, SEB’s and
private players. Also, PGCIL is slowly getting back to two envelope
systems, where technical bids are opened first and financial bids are
opened only for those who are technically qualified. Inorder to control
the risk of new players bidding aggressively and accumulating more
projects than they can deliver, PGCIL has put a cap of three projects per
vendor for lot of new players. The marginal player is likely to die down
over time and competitive intensity could stabilize, which will aid
margins.
 BOT/BOOT projects: Given the thrust to encourage private participation
in transmission space, more and more projects will be offered on
BOT/BOOT mode. Many of the bigger players in the industry will try and
participate in these projects. Though investment in BOT projects could
dilute return profile in the near term to an extent, having an equity
stake will open up additional avenues for order book growth for the
company, as through equity stake, it can assure EPC order for the
project. Also, it adds a steady revenue stream and reduces volatility in
business.
 The stocks have underperformed the capital goods index over the past
six months, mainly on account of slower order flow in the industry. With
a pick-up in the order flow over the next few months, we expect this
stock to outperform and maintain our positive stance on the sector. We
continue to maintain our ‘BUY’ rating on KEC International and Jyoti
Structures and ‘Accumulate’ rating on Kalpataru Power.