JSW Energy ( down to Sell; 12-m TP: Rs105): Goldman Sachs

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JSW Energy (JSWE.BO; down to Sell; 12-m TP: Rs105)
Source of opportunity
 We downgrade JSW Energy to Sell from Neutral and lower our
SOTP-based target price to Rs105 (from Rs135) implying a potential
downside of 14%.
 We believe JSW is highly leveraged to merchant power prices and
has earnings sensitivity of 25% for a 10% change in merchant prices.
While we maintain merchant prices of Rs4/unit for FY12E, we
believe Bloomberg consensus still factors in about Rs5/unit for
FY12. We are 40%/47% below consensus estimates on FY12E/FY13E.
 While JSW Energy has tied up its capacity till March 2011 at Rs5.5/unit,
we believe the capacity earmarked for the short- term market will be
commissioned by March 2011 and we expect supply to increase by
30% in FY12E. We therefore believe that merchant prices will trend
down to Rs4/unit in FY12E.
 Unlike its peers, we believe JSW Energy does not have the required
volume growth beyond FY12 to offset the decline in merchant rates.
We expect significant volume growth only in FY16 and these projects
are still in the early phase of the execution cycle.
 We believe the stock’s current market price already reflects the top
quartile CROCI returns of the company. With decline in merchant
rates FY13E onwards, we expect cash returns to decline in FY13E.
Catalyst
(1) Decline in the short term rates over the next two quarters; 2)
Commissioning of capacity earmarked over the short term leading to
increase in supplies; 3) JSW entering into contracts for its Ratnagiri
power plant at short term rates less than Rs5/kwh.
Valuation
We reduced our earnings estimates by 3%/-24%/-36% for FY11E/FY12E/
FY13E on account of 6%/14% decrease in merchant price assumptions
for FY12E/FY13E and account for delays in volume growth due to the
delay commissioning of its Ratnagiri plant. Our revised 12-month SOTPbased
target price is Rs105 (from Rs135 as we roll over to FY12E and
revise our merchant power assumptions).The stock looks expensive on
both P/E and P/B multiples relative to its peers (see Exhibits 20, 21 & 24).
Key risks
(1) Commissioning of the project earlier than our expected timelines; 2)
Entering into attractive PPA rates on a long term mechanism; 3)
Securing overseas coal resources.