Indian utilities: merchant power March fwd curve + monsoon forecast ::Macquarie Research,

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Indian utilities: merchant power
March fwd curve + monsoon forecast
Event
 Over the past two days the CERC has published its bilateral merchant power
price forward curve with prices dipping to Rs3.50/kWh in July and the India
Meteorological Department (IMD) has released its April report projecting a
‘normal’ monsoon in 2011 (within 4% of long-term average rainfall of 89cm).
 We have lowered our FY12 power price forecast to Rs4.00/kWh from
Rs4.50/kWh. The most leveraged stock to power prices is JSW Energy where
we have lowered our FY12 EPS by 32%.

 Longer term (2-3yr view) we are confident that the current downgrade cycle in
the Indian power sector could reverse as private sector investment in
generation declines and the power shortage story comes back into vogue.
However prior to this playing out, we see greater risk of market downgrades
due to rising fuel costs, lower realisations and lower project PLFs. We prefer
defensive exposures with capital upside such as Tata Power and CESC.
Impact
 Recent power trader feedback – bearish: most traders are nervous over
softening merchant power prices over FY12 and the potential negative impact
of the monsoon (probably why we’re seeing July contracts at Rs3.50/kWh on
fwd curve). Traders not seeing buyer appetite in FY12 much beyond
Rs4.00/kWh, and expect lower prices post recent State Elections.
 Bilateral of Rs4.24/kWh in Feb: average India bilateral power prices for
February came in at Rs4.24/kWh. In our view FY11 merchant prices will likely
average ~Rs4.70/kWh, 5% above our Rs4.50/kWh FY11 forecast. This
follows average bilateral power prices in FY10 and FY09 of Rs5.32/kWh and
Rs7.29/kWh, respectively.
 Lower prices at end of fwd curve: bilateral fwd volumes dropped by 55% in
March, with 93% of total volume above Rs4/kWh. Therefore while the end of
the curve has gone down to Rs3.50/kWh, it is on thin volumes. It does
indicate, however, what some traders are starting to price in for monsoon
power prices.
 IMD projects ‘normal monsoon’: while weather forecasts may be even less
accurate than analyst earnings forecasts, the IMD does project ‘normal’
monsoon rainfall this June-Sept at 98% of the long-term average. While this
could go either way (IMD has been OK in picking the trend as shown in note),
we do highlight that rainfall has a material impact on merchant power demand
as witnessed in 2010.
Outlook
 JSW Energy is the most leveraged to power prices due to its higher fuel costs
and we have reduced FY12 EPS by 32% due to both power prices reduction
and higher coal costs. Last week we put through a 28% FY12 EPS
downgrade in Adani Power partly due to softer power price realisations in
FY12.