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India: Utilities
Equity Research
Headwinds continue; Downgrade Adani, Lanco and OGPL to Neutral
LINKS to company specific reports:
Headwinds remain, more visible; maintain cautious stance
We continue to be cautious on India’s utilities sector, owing to greater
uncertainty over the following three key determinants of earnings: 1)
utilization rates – weak finances of state distribution companies and intra-
/interstate grid constraints; 2) fuel costs – no meaningful steps to improve
domestic coal and gas supplies, and a proposed regulation in Indonesia
that all miners must sell coal at market prices; and 3) short-term rates –
demand for ST power is contingent upon state government’s discretion.
Cut FY12E-14E EPS by avg. 20% and target prices by avg. 25%
Consequently, we update our EPS and TP estimates on higher uncertainty
over earning drivers and are now 21%-23% below Bloomberg consensus for
FY12E-14E. We calculate earnings sensitivity (particularly for IPPs) of 2%-3%
for a 100bp change in utilization levels or fuel costs. Given our expectation of
little/no improvement in the operating environment over the medium term,
we believe earnings and returns for IPPs are likely to remain volatile.
Prefer stocks with upcoming projects not priced in; Buy Tata Power
We look for our coverage sector’s installed capacity to increase by an average
3x by 2014E. While share price corrections (41% YTD for IPPs) already reflect
near-term risk to existing projects, we think those stocks deriving a higher
valuation from upcoming projects are more exposed to a deteriorating
operating environment. We calculate that Tata Power stock is not pricing in
for upcoming projects; also, they have a low sensitivity to changes in
utilization rates, fuel costs, and short-term rates. In contrast, Reliance Power
(Sell) stock derives 60% of its value from future projects.
Downgrade Lanco, Adani Power and Orient Green to Neutral
Despite 77% and 50% ytd correction in Lanco’s and OGPL’s stock price, we
downgrade both to Neutral based on: 1) lack of significant catalysts in the near
term as both stocks have high leverage to positive sector newsflows, 2) high
gearing (likely to magnify the risk of negative sector data); 3) high sensitivity to
short-term rates and utilization levels. We downgrade Adani to Neutral on
heightened earnings headwinds, particularly fuel costs (due to potential
regulatory changes in Indonesia). Its share price still implies 18% of value from
upcoming projects (based on domestic coal linkage). Valuations looks
reasonable and do not offer protection from downside risks
Adani, Lanco, Orient Green Power Down to Neutral
We continue to be cautious on the utilities sector on account of higher uncertainty in three
operating variables: 1) utilization rates, 2) fuel costs; and 3) short-term rates. Given the greater
uncertainty, we believe earnings will remain volatile and stocks that imply a higher value from
upcoming power projects stand to be more exposed to further deterioration in the operating
environment. Our calculations indicate that Tata Power share price does not reflect value for its
upcoming projects and therefore has a low sensitivity to utilization rates, short-term rates and fuel
costs. We, however, downgrade OGPL and Lanco despite their sharp correction and OGPL’s
higher potential upside, as their share price performance is highly dependent upon positive news
flows on the sector, which we do not expect to see in the near term. We keep our Sell rating on
Reliance Power (but remove it from the Conviction List), as its share price derives about 60% of its
value from upcoming projects.
Underperformance continues, near-term risks more visible
The Indian utilities sector has underperformed the BSE Sensex by 500bp YTD, with the IPPs
in our coverage universe correcting by an average 41%. We believe the market has become
increasingly aware of the risks facing existing utilities projects: falling utilization rating,
higher fuel costs, and weaker short-term rates; as a result, consensus earnings forecasts
have fallen).
Declining utilization rates – YTD utilization rates have slid sharply, with the
private sector falling 700bp and the central sector dropping 300bp. This is primarily
due to the following: 1) the weak finances of state distribution utilities; 2) shortage of
coal and gas; and 3) intra-state transmission constraints).
Higher fuel costs – No signs of improved availability of domestic coal and gas
supplies have emerged yet).
Short-term rates – We look for them to soften, as we enter into seasonally
weaker quarters).
Downgrades of consensus estimates
We cut our earnings estimates by +1% to -69% for FY12E-14E on the following: 1) higher
fuel costs (50% coal from e-auction and imported coal) for capacities based on domestic
coal; 2) lower short-term rates (Rs3.75/kwh versus consensus of about Rs4-4.5/kwh); and 3)
risks to utilization rates (70-80% vs. consensus of 85%). Our new forecasts are 21%, 25%,
and 23% below consensus. However, we anticipate consensus downgrades on greater
visibility of the abovementioned risks, which will likely keep a lid on sector performance.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
India: Utilities
Equity Research
Headwinds continue; Downgrade Adani, Lanco and OGPL to Neutral
LINKS to company specific reports:
Tata Power (TPWR.BO): Maintain Buy
Adani Power (ADAN.BO): Down to Neutral on higher fuel costs
Lanco Infratech (LAIN.BO): Down to Neutral on lack of +ve catalysts
Orient Green Power (ORIN.BO): D/g to Neutral on execution issues
Reliance Power (RPOL.BO): Sell but removed from Conviction List
Reliance Infrastructure (RLIN.BO): Maintain Neutral
Headwinds remain, more visible; maintain cautious stance
We continue to be cautious on India’s utilities sector, owing to greater
uncertainty over the following three key determinants of earnings: 1)
utilization rates – weak finances of state distribution companies and intra-
/interstate grid constraints; 2) fuel costs – no meaningful steps to improve
domestic coal and gas supplies, and a proposed regulation in Indonesia
that all miners must sell coal at market prices; and 3) short-term rates –
demand for ST power is contingent upon state government’s discretion.
Cut FY12E-14E EPS by avg. 20% and target prices by avg. 25%
Consequently, we update our EPS and TP estimates on higher uncertainty
over earning drivers and are now 21%-23% below Bloomberg consensus for
FY12E-14E. We calculate earnings sensitivity (particularly for IPPs) of 2%-3%
for a 100bp change in utilization levels or fuel costs. Given our expectation of
little/no improvement in the operating environment over the medium term,
we believe earnings and returns for IPPs are likely to remain volatile.
Prefer stocks with upcoming projects not priced in; Buy Tata Power
We look for our coverage sector’s installed capacity to increase by an average
3x by 2014E. While share price corrections (41% YTD for IPPs) already reflect
near-term risk to existing projects, we think those stocks deriving a higher
valuation from upcoming projects are more exposed to a deteriorating
operating environment. We calculate that Tata Power stock is not pricing in
for upcoming projects; also, they have a low sensitivity to changes in
utilization rates, fuel costs, and short-term rates. In contrast, Reliance Power
(Sell) stock derives 60% of its value from future projects.
Downgrade Lanco, Adani Power and Orient Green to Neutral
Despite 77% and 50% ytd correction in Lanco’s and OGPL’s stock price, we
downgrade both to Neutral based on: 1) lack of significant catalysts in the near
term as both stocks have high leverage to positive sector newsflows, 2) high
gearing (likely to magnify the risk of negative sector data); 3) high sensitivity to
short-term rates and utilization levels. We downgrade Adani to Neutral on
heightened earnings headwinds, particularly fuel costs (due to potential
regulatory changes in Indonesia). Its share price still implies 18% of value from
upcoming projects (based on domestic coal linkage). Valuations looks
reasonable and do not offer protection from downside risks
Adani, Lanco, Orient Green Power Down to Neutral
We continue to be cautious on the utilities sector on account of higher uncertainty in three
operating variables: 1) utilization rates, 2) fuel costs; and 3) short-term rates. Given the greater
uncertainty, we believe earnings will remain volatile and stocks that imply a higher value from
upcoming power projects stand to be more exposed to further deterioration in the operating
environment. Our calculations indicate that Tata Power share price does not reflect value for its
upcoming projects and therefore has a low sensitivity to utilization rates, short-term rates and fuel
costs. We, however, downgrade OGPL and Lanco despite their sharp correction and OGPL’s
higher potential upside, as their share price performance is highly dependent upon positive news
flows on the sector, which we do not expect to see in the near term. We keep our Sell rating on
Reliance Power (but remove it from the Conviction List), as its share price derives about 60% of its
value from upcoming projects.
Underperformance continues, near-term risks more visible
The Indian utilities sector has underperformed the BSE Sensex by 500bp YTD, with the IPPs
in our coverage universe correcting by an average 41%. We believe the market has become
increasingly aware of the risks facing existing utilities projects: falling utilization rating,
higher fuel costs, and weaker short-term rates; as a result, consensus earnings forecasts
have fallen).
Declining utilization rates – YTD utilization rates have slid sharply, with the
private sector falling 700bp and the central sector dropping 300bp. This is primarily
due to the following: 1) the weak finances of state distribution utilities; 2) shortage of
coal and gas; and 3) intra-state transmission constraints).
Higher fuel costs – No signs of improved availability of domestic coal and gas
supplies have emerged yet).
Short-term rates – We look for them to soften, as we enter into seasonally
weaker quarters).
Downgrades of consensus estimates
We cut our earnings estimates by +1% to -69% for FY12E-14E on the following: 1) higher
fuel costs (50% coal from e-auction and imported coal) for capacities based on domestic
coal; 2) lower short-term rates (Rs3.75/kwh versus consensus of about Rs4-4.5/kwh); and 3)
risks to utilization rates (70-80% vs. consensus of 85%). Our new forecasts are 21%, 25%,
and 23% below consensus. However, we anticipate consensus downgrades on greater
visibility of the abovementioned risks, which will likely keep a lid on sector performance.
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