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Adani Power
Execution Picking Up; Stay OW
What's Changed
Price Target Rs158.00 to Rs141.00
F2011 EPS Down 23%
F2012 EPS Down 19%
Investment conclusion: We maintain our Overweight
rating on Adani Power with a price target of Rs141,
which implies 15% upside from current levels. We
continue to view Adani Power as one of the best ways to
play the growth in the Indian power sector. The stock
has outperformed the Sensex by 9% YTD, however,
valuations look attractive as the shares trade at 8.3x
F2012 P/E and 9x EV/EBITDA on our estimates.
F3Q11 EBITDA 15% lower than estimates: Adani
Power reported F3Q revenue of Rs5 bn (up 115% YoY),
EBITDA of Rs2.7 bn (up 115% YoY), and profits of
Rs1.1 bn (up 51% YoY). Reported profit was 30% lower
than our estimate due to a Rs155 mn provision created
for customs duty that was not passed through to tariffs
and an excess deferred tax provision of about Rs300 mn.
Average realization during F3Q was Rs2.93/unit, while
the merchant realization was Rs3.9/unit.
Earnings revised down, largely to build in lower
merchant rates: We lower our F2011 EPS estimate by
23% due to lower merchant assumption of Rs4.8/unit
(from Rs5/unit prior) and to factor in actual commercial
date of operation for unit 4 of Mundra I and II and for unit
1 of Mundra III. We lower our F2012e EPS by 19%
primarily to build in a lower merchant realization of
Rs4.4/unit versus Rs5/unit earlier.
Potential triggers: We expect the share price to react
positively to the commissioning of plants under
construction, new project announcements, and further
domestic fuel supply agreements. However, project
delays could hurt cash flows
Investment Thesis
• Poised to be one of India’s largest
private sector power generators.
• Advanced progress on power portfolio
and rapid near-term addition of
capacity increase earnings visibility.
• Healthy mix of PPA and merchant
(spot market) power sales as well as a
considerable spread between tariffs
and cost of generation can boost IRR
for the power portfolio.
• Strong vertical integration of the
Adani group (with presence in coal
trading, coal mining, power trading,
and shipping) is likely to provide
synergies to the power business.
• Government impetus to improve
private sector participation in the
industry.
• Regulatory regime improving in India.
Key Value Drivers
• Capacity and commissioning
timelines.
• PPA sales and merchant tariffs.
• Coal costs.
• Tax exemptions.
Potential Catalysts
• Equipment ordering for Dahej,
Chhindwara and Bhadreshwar
projects.
• Possible resolution on allocation of
coal mines for the Tiroda power plant.
• Clarity on captive coal supplies from
Australia and Sumatra.
Key Risks
• Lower coal supply than that
committed to by suppliers.
• Lower calorific value coal from Adani
Enterprises Limited (AEL).
• Commissioning delays.
• Changes in Indian/Indonesian
regulations.
Investment Case
We maintain our Overweight rating on Adani Power with a price
target of Rs141 which implies 15% upside from current levels.
Our price target is based on a probability weighting of 80% for
our base case (70% earlier) and 20% for our bull case (30%
earlier). We have marginally reduced the weighting for the Bull
Case, as we believe the stock will be driven by the execution of
projects over the next 12 months and related operational
efficiencies that are factored in our Base Case fair value. In our
view, improving operational efficiencies and commissioning of
additional units will increase confidence in earnings, thereby
driving stock performance.
In our view, quarterly results are less relevant given that
operations are still significantly small. Nonetheless, Adani
Power reported F3Q11 revenue of Rs5 bn (up 115% YoY),
EBITDA of Rs2.7 bn (up 115% YoY), and profit of Rs1.1 bn (up
51% YoY). While profit was 30% lower than our estimate, the
following adjustments are necessary:
1. The company provisioned Rs155 mn of customs duty for
sales made to GUVNL (Gujarat state-run power company)
under the new notification issued by the government with
regard to sales made from an SEZ to a Domestic Tariff
Area. While this will be a pass through as it is a change in
law, the company has decided to be conservative by
recognizing this as revenue only when it receives
clearance from the Gujarat Electricity Regulatory
Commission.
2. The company made an excess deferred tax provision of
about Rs300 mn due to different depreciation rate
assumptions for income tax purposes. It is important to
note that this provision does not impact cash flows.
Adjusting for these, reported profit would have been about
Rs1.5 bn, and therefore in line with our estimate.
Other key F3Q11 highlights
• Plant availability during F3Q was 95%, however, PLF was
lower at 85% due to grid backdown.
• Average realization during F3Q was Rs2.93/unit in which
the merchant realization was Rs3.9/unit.
• Fuel cost per unit (on sales volume) was Rs1.04/unit, a big
sequential improvement from Rs1.18/unit in F2Q11.
We have lowered our F2011 EPS by 23% due to the following:
• Lower merchant realization assumption of Rs4.8/unit
versus Rs5/unit earlier.
• Unit 4 of Mundra I and II was declared commercial in the
last week of December 2010 versus our estimate of
November 2010.
• Similar to above, while unit 1 of Mundra III was
synchronized in the last week of December 2010, the
company will recognize its performance in the P&L
statement only once it is declared commercial which may
be mid-February 2011, in our view.
We reduced our F2012 EPS by 19% primarily to build in a lower
merchant realization of Rs4.4/unit versus Rs5/unit previously.
While the stock has outperformed the Sensex by 9% YTD, it
has been an underperformer in the last 6 months (12%
underperformance). We believe the key reason for this has
been weak merchant rates in 2Q and 3Q, which has led to
underperformance across the sector for companies with
meaningful exposure to merchant sales.
However, we believe these issues are now behind us and
already in the price. We believe synchronization of 3,300 MW
of additional capacity in F2012 will be key triggers for the stock.
Also, merchant rates are likely to be stronger in F4Q11 and
F1Q12. We continue to believe that Adani Power is one of the
best ways to play the growth in the Indian power sector. The
company has 1,980 MW of operating capacity and we expect it
to reach 5,280 MW by F2012. Valuations continue to look
attractive relative to peers, with the stock trading at 8.3x F2012
P/E and 9.1x EV/EBITDA, on our estimates.
Valuation
We use an FCFe model to determine our scenario values. In
our view, the FCFe model is a good measure of the intrinsic
value of the company’s generation business, as it takes into
account long-term free cash flows after factoring in capex
phasing, debt build-up/repayment, and working capital
requirements. Our assumption for cost of equity is 15% and
terminal growth rate is 2%.
Our price target of Rs141 is probability weighted – 80% for the
base case and 20% for the bull case. We value the generation
business as Rs123/share and cash at F2011e at Rs6/share.
Risks to Our Target Price
The key upside risks to our target price are:
• Positive news flow on execution and better operational
efficiencies.
• Higher merchant realizations.
• Positive developments on projects in development phase.
• New project wins.
The key downside risks to our target price are:
• A significant change in regulations or political intervention.
• Delays in execution of power projects or any negative
news flow on the existing project portfolio.
• Slowdown in capex spending or credit freeze.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
Adani Power
Execution Picking Up; Stay OW
What's Changed
Price Target Rs158.00 to Rs141.00
F2011 EPS Down 23%
F2012 EPS Down 19%
Investment conclusion: We maintain our Overweight
rating on Adani Power with a price target of Rs141,
which implies 15% upside from current levels. We
continue to view Adani Power as one of the best ways to
play the growth in the Indian power sector. The stock
has outperformed the Sensex by 9% YTD, however,
valuations look attractive as the shares trade at 8.3x
F2012 P/E and 9x EV/EBITDA on our estimates.
F3Q11 EBITDA 15% lower than estimates: Adani
Power reported F3Q revenue of Rs5 bn (up 115% YoY),
EBITDA of Rs2.7 bn (up 115% YoY), and profits of
Rs1.1 bn (up 51% YoY). Reported profit was 30% lower
than our estimate due to a Rs155 mn provision created
for customs duty that was not passed through to tariffs
and an excess deferred tax provision of about Rs300 mn.
Average realization during F3Q was Rs2.93/unit, while
the merchant realization was Rs3.9/unit.
Earnings revised down, largely to build in lower
merchant rates: We lower our F2011 EPS estimate by
23% due to lower merchant assumption of Rs4.8/unit
(from Rs5/unit prior) and to factor in actual commercial
date of operation for unit 4 of Mundra I and II and for unit
1 of Mundra III. We lower our F2012e EPS by 19%
primarily to build in a lower merchant realization of
Rs4.4/unit versus Rs5/unit earlier.
Potential triggers: We expect the share price to react
positively to the commissioning of plants under
construction, new project announcements, and further
domestic fuel supply agreements. However, project
delays could hurt cash flows
Investment Thesis
• Poised to be one of India’s largest
private sector power generators.
• Advanced progress on power portfolio
and rapid near-term addition of
capacity increase earnings visibility.
• Healthy mix of PPA and merchant
(spot market) power sales as well as a
considerable spread between tariffs
and cost of generation can boost IRR
for the power portfolio.
• Strong vertical integration of the
Adani group (with presence in coal
trading, coal mining, power trading,
and shipping) is likely to provide
synergies to the power business.
• Government impetus to improve
private sector participation in the
industry.
• Regulatory regime improving in India.
Key Value Drivers
• Capacity and commissioning
timelines.
• PPA sales and merchant tariffs.
• Coal costs.
• Tax exemptions.
Potential Catalysts
• Equipment ordering for Dahej,
Chhindwara and Bhadreshwar
projects.
• Possible resolution on allocation of
coal mines for the Tiroda power plant.
• Clarity on captive coal supplies from
Australia and Sumatra.
Key Risks
• Lower coal supply than that
committed to by suppliers.
• Lower calorific value coal from Adani
Enterprises Limited (AEL).
• Commissioning delays.
• Changes in Indian/Indonesian
regulations.
Investment Case
We maintain our Overweight rating on Adani Power with a price
target of Rs141 which implies 15% upside from current levels.
Our price target is based on a probability weighting of 80% for
our base case (70% earlier) and 20% for our bull case (30%
earlier). We have marginally reduced the weighting for the Bull
Case, as we believe the stock will be driven by the execution of
projects over the next 12 months and related operational
efficiencies that are factored in our Base Case fair value. In our
view, improving operational efficiencies and commissioning of
additional units will increase confidence in earnings, thereby
driving stock performance.
In our view, quarterly results are less relevant given that
operations are still significantly small. Nonetheless, Adani
Power reported F3Q11 revenue of Rs5 bn (up 115% YoY),
EBITDA of Rs2.7 bn (up 115% YoY), and profit of Rs1.1 bn (up
51% YoY). While profit was 30% lower than our estimate, the
following adjustments are necessary:
1. The company provisioned Rs155 mn of customs duty for
sales made to GUVNL (Gujarat state-run power company)
under the new notification issued by the government with
regard to sales made from an SEZ to a Domestic Tariff
Area. While this will be a pass through as it is a change in
law, the company has decided to be conservative by
recognizing this as revenue only when it receives
clearance from the Gujarat Electricity Regulatory
Commission.
2. The company made an excess deferred tax provision of
about Rs300 mn due to different depreciation rate
assumptions for income tax purposes. It is important to
note that this provision does not impact cash flows.
Adjusting for these, reported profit would have been about
Rs1.5 bn, and therefore in line with our estimate.
Other key F3Q11 highlights
• Plant availability during F3Q was 95%, however, PLF was
lower at 85% due to grid backdown.
• Average realization during F3Q was Rs2.93/unit in which
the merchant realization was Rs3.9/unit.
• Fuel cost per unit (on sales volume) was Rs1.04/unit, a big
sequential improvement from Rs1.18/unit in F2Q11.
We have lowered our F2011 EPS by 23% due to the following:
• Lower merchant realization assumption of Rs4.8/unit
versus Rs5/unit earlier.
• Unit 4 of Mundra I and II was declared commercial in the
last week of December 2010 versus our estimate of
November 2010.
• Similar to above, while unit 1 of Mundra III was
synchronized in the last week of December 2010, the
company will recognize its performance in the P&L
statement only once it is declared commercial which may
be mid-February 2011, in our view.
We reduced our F2012 EPS by 19% primarily to build in a lower
merchant realization of Rs4.4/unit versus Rs5/unit previously.
While the stock has outperformed the Sensex by 9% YTD, it
has been an underperformer in the last 6 months (12%
underperformance). We believe the key reason for this has
been weak merchant rates in 2Q and 3Q, which has led to
underperformance across the sector for companies with
meaningful exposure to merchant sales.
However, we believe these issues are now behind us and
already in the price. We believe synchronization of 3,300 MW
of additional capacity in F2012 will be key triggers for the stock.
Also, merchant rates are likely to be stronger in F4Q11 and
F1Q12. We continue to believe that Adani Power is one of the
best ways to play the growth in the Indian power sector. The
company has 1,980 MW of operating capacity and we expect it
to reach 5,280 MW by F2012. Valuations continue to look
attractive relative to peers, with the stock trading at 8.3x F2012
P/E and 9.1x EV/EBITDA, on our estimates.
Valuation
We use an FCFe model to determine our scenario values. In
our view, the FCFe model is a good measure of the intrinsic
value of the company’s generation business, as it takes into
account long-term free cash flows after factoring in capex
phasing, debt build-up/repayment, and working capital
requirements. Our assumption for cost of equity is 15% and
terminal growth rate is 2%.
Our price target of Rs141 is probability weighted – 80% for the
base case and 20% for the bull case. We value the generation
business as Rs123/share and cash at F2011e at Rs6/share.
Risks to Our Target Price
The key upside risks to our target price are:
• Positive news flow on execution and better operational
efficiencies.
• Higher merchant realizations.
• Positive developments on projects in development phase.
• New project wins.
The key downside risks to our target price are:
• A significant change in regulations or political intervention.
• Delays in execution of power projects or any negative
news flow on the existing project portfolio.
• Slowdown in capex spending or credit freeze.
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