Power - party to end, but who will foot the bill?; Edelweiss

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n  Discoms at negative EBITDA; losses have doubled since FY09

While Discoms reporting net losses is common, a select few have reported EBITDA losses leading to higher borrowing for repaying even interest and loan installments. Till FY09, of the ~INR 2 tn commercial loans (banks/FIs/bonds) extended to the power sector, share of Discoms was ~INR 1 tn, which, in our estimate, has doubled over the past 18 months. However, adjusting for capex-related loans over the past two years, we estimate loss funding by banks/FIs to be ~INR 500 bn. Our interactions with SEBs indicate that annual losses of three SEBs alone which have been funded via loans are estimated at ~INR 300 bn.

n  Government guarantees to incremental SEB loans: A myth

Contrary to perception, most loans to SEBs are not backed by state government guarantees; hence, for most unsecured loans, banks do not have recourse. Also, based on the budget statements of states, we believe SEB losses are also not part of a state’s fiscal deficit. State governments have been increasingly reluctant to issue fresh guarantees for fear of denting their fiscal targets.

n  SEBs resorting to ever-greening of loans; to stay afloat

SEBs are staying afloat and have managed to avoid bankruptcy so far by resorting to knee jerk measures like short-term loans/marginal tariff hikes, receiving nominal guarantees from state governments and additional borrowings to service existing loans. However, a few banks have already started refuting incremental loans to SEBs, to curtail their exposure to unsecured debt. 

n  Defaults imminent, but no immediate threat

With elections around the corner in Tamil Nadu, West Bengal and Kerala in 2011 and in Uttar Pradesh and Punjab in 2012, we expect state support to continue to tide over immediate crisis. Simultaneously, high cost power purchases and limited load shedding may continue unabated to impress the vote bank. However, post elections as government support recedes, SEBs with negative net worth, rising losses and no guarantor, will find it increasingly challenging to fund their losses. Any “spoke in the wheel event” may stop this ever-greening process; ergo, banks will stop additional lending to SEBs, cascading into further defaults by Discoms on existing loans and on payments to the power value chain.

n  Outlook: More pain before gain

The silver lining is that only a few states have severe losses while solutions are varied and simple, but require strong political will. In addition, if tariff hikes, privatisation and loan restructuring are undertaken, most NPA issues will be addressed. Until reform/restructuring measures are announced, we believe investors are likely to factor in certain earnings/valuation impact by anticipating fall in sustainable RoEs caused by likely bad debts/payment defaults. In addition, with Discoms apprehensive of buying long-term electricity above INR 3.5-3.8/kWh, further increase in bid tariffs will delay the PPA signing process. This, in turn, will impact capex spending in the sector, or developers would earn lower IRR if they accept current tariffs. These, we believe, will lead to de-rating on the P/BV multiple. However, the speed and quantum of action will determine the eventual pain the financial system will have to undergo in the interim.