Macquarie Research:: Indian utilities: Coal supply How can coal stockpiles be rising?

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Indian utilities: Coal supply
How can coal stockpiles be rising?
Event
 We recently had an interesting meeting with Coal India (COAL IN, Rs302,
Neutral, TP: Rs340) in Kolkata. In short, imported coal demand is
cannibalising CIL‟s rail infrastructure and ability to dispatch domestic coal,
while linkage plants could get less than 50% of contracted quantity under
FSAs (Fuel Supply Agreements). For plants dependent on linkages, it makes
us even more bearish, with potential upside to our merchant power price
forecasts.

Impact
 Stockpiles, railways and the irony of imports – more is less: CIL coal
stockpiles are expected to be 67-68mt by end- FY11 after starting the year at
63mt. If such a high demand-supply gap exists, why are stockpiles
increasing? CIL pointed to lack of rail infrastructure and imports taking priority
for rakes. This has created an ironic scenario where the coal shortage is
seeing an increase in demand for imported coal, which in turn is cannibalising
domestic coal‟s rail supply, creating further „linkage delivering risk‟ and
increasing the average cost of delivered coal. CIL noted at its analyst meet
yesterday that the share of road evacuation also cannot be increased.
 FSAs with 50% supply guarantees could be the bull case: Highlighting
that although the consensus view appears to be that CIL will only sign FSAs
guaranteeing 50% of contracted quantity before paying penalties, in reality
CIL may only pay penalties up to 50% depending on the aggregate demandsupply
gap. That is, if the demand/supply gap widens, the rate at which CIL
has to pay a penalty will reduce.
 How protected is NTPC? CIL appears intent on delivering coal to NTPC
under contracts that ensure 90% delivery, which it noted, is in place for
NTPC‟s plants in operation pre-FY10. While 100% of FSAs for plants
commissioned beyond this has been provisioned, indigenous coal may only
make up to 50% of total supply and, beyond this, NTPC can either import or
wait for CIL to import the coal. It should be noted that NTPC has a
logistical edge in current projects due to a higher number of pithead
plants. However, the location of NTPC's plants commissioned after FY09 and
plants expected to be added in the next 18 months is pithead: 26%, Load-
Centre: 44%, Coastal: 30%.
 How will CIL allocate coal? Logistics the only variable, pithead wins: The
shortage will be a sectoral impact on all generators - the only variable being
logistics. Noted that even now coal allocations are not uniform from a given
coal mine – a specific coal mine will deliver more to those with superior
logistics (pithead plants). This was supported by our recent survey
of Central/State generators, “Beats from the Busbar” on 2nd Feb 2011.
Outlook
 Underweight Indian utilities. Prefer stocks with a competitive fuel position
(see Fig 2 for stock details) - Adani Power (18% upside to TP) and Tata
Power (+20% upside) At these prices, JSW Energy (+14% upside), with a
higher-risk strategy, is looking more interesting, with high merchant exposure
and at least the ability to source coal (imported based plants).