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NTPC: Preferred IPP amid rising fuel scarcity
Fuel risk appears exaggerated;
~20% RoE on regulated assets
sustainable
Action – Maintain Buy; TP lowered to INR204
Capturing a weak 1HFY12 (aggravated by unusually high forced outages
denting efficiency-linked incentives), delays in commercial capacity
addition and lower utilisation prospects, we cut NTPC’s FY12/FY13F EPS
forecast by 6%/9%. However, we expect ~9GW wholly owned commercial
capacity addition by March 2014 (5.5GW over the next 18-months),
yielding an FY12F-14F EPS CAGR of 13% to underpin price performance.
Valuation – Stock trades 20% below historical average multiples
Our TP of INR204 is a sum of the fair value of operating assets based on
a residual income model (INR173), investment in JVs/subsidiaries (INR10)
and book value of FY12F non-operating financial assets (INR21).
Valuation multiples are not distressed, but 20% below historical averages.
Our TP implies FY13F P/BV at 2.1x (10% below its historical one-year
forward P/BV of 2.3x).
Catalysts: 9GW addition in 30 months; captive coal block restoration
Event-linked catalysts: 1) Restoration of the five de-allocated captive coal
blocks by the MoC; 2) acquisition of equity stakes in overseas coal assets
/ securing long-term imported coal supply; and 3) bulk-tendering orders
award by March 2014.
Preferred IPP pick; ~20% RoE on regulated assets seems sustainable
As fuel constraints rise across the board, we maintain that amongst the
IPPs under our coverage, NTPC offers high earnings visibility, lowest
funding risks and adequate fuel security (particularly as pricing is a passthrough).
Maintain BUY; defensive growth intact
Although we lower our FY12/FY13 EPS forecasts for NTPC by 6%/9%, respectively, and
trim our longer-term PAF, PLF and RoE assumptions, we maintain our view that NTPC
offers a ‘portfolio insurance’ option within the power utilities space. Our revised TP of
INR204 offers potential upside of above 20%; at our TP, the stock would trade at 2.1x
FY13F P/book. We expect ~9GW of wholly owned commercial generation capacity
addition in the next 30 months, as the undercurrent for stock price performance.
Our long-term investment thesis on NTPC remains unchanged – we maintain that
amongst our coverage IPPs, NTPC arguably offers the highest earnings visibility, lowest
funding risks, adequate fuel security (particularly on pricing, as fuel cost is a pass
through) and a competitive cost of generation. In the current regulatory regime, we
expect NTPC to sustain an earnings spread of 400-500bps above the minimum post-tax
RoE of 15.5% on its generation capacity (ie, RoE of ~20% on its regulated assets).
However, we lower our FY12/FY13 EPS forecasts for NTPC by 6%/9% to factor in:
1) delays in commercial capacity addition; 2) lower efficiency-linked incentives,
particularly in 1HFY12F; and 3) lower utilisation levels. We expect normalized EPS in
FY12F to remain flat y-y owing to unusually high forced outages at several plants and
the entire 2.8GW of expected commercial capacity addition during the year effectively
kicking-in during 2HFY12. Our revised outlook for NTPC’s commercial capacity addition
and efficiency-linked incentives pegs its FY12-17F EPS CAGR at 11%; we assume the
long-term PAF/PLF of its coal-fired capacity at 88%/85% and applicability of minimum
alternative tax (MAT) as the RoE gross-up tax rate from FY13F onwards (ie, precludes
potential savings in tax outgo on availing tax holidays for some projects).
Our revised TP of INR204 (from IN228) is based on a sum of the fair value of NTPC’s:
1) operating assets using a residual income (RI) model (IN173/share); 2) FY12F
investment in JVs and subsidiaries (~INR10); and 3) book value of FY12F non-operating
financial assets (INR21). Our RI model for NTPC assumes 12.5% cost of equity
(previously 12.0%), 18.5% perpetual RoE on core assets (previously 20%) and 2%
perpetual growth in core business income. At our price target, the stock would trade at
2.1x FY13E P/B, 10% below its average (2-year) one-year forward P/B multiple of 2.3x.
Our methodology is unchanged.
While we expect ~9GW of wholly owned commercial generation capacity addition over
the next 30 months yielding an FY12-14F EPS CAGR of 13% as the undercurrent for
stock price performance, specific potential upside catalysts could be (linked to corporate
action / regulatory developments): 1) restoration of the five de-allocated captive coal
blocks by the Ministry of Coal (MoC); 2) NTPC acquiring substantial interests in overseas
coal assets/securing long-term imported coal supply thereby allaying concerns over
longer-term fuel security; and 3) bulk-tendering orders award by March 2014.
Key risks to our investment thesis and price target include: 1) delays in commercial
capacity accretion beyond our expected timeline; 2) deterioration in operational
efficiency, PAF slipping below our assumed level due to fuel constraints; 3) reinvestment
risks relating to growing cash chest; and 4) adverse regulatory developments.
Changes in key assumptions for forecast earnings / TP
Overall, 1) we lower our FY12/FY13 EPS forecast for NTPC by 6%/9% and 2) we peg
FY12-17F EPS CAGR at 11% (assuming MAT as the RoE gross-up tax rate from FY13F
onwards, thus disregarding potential tax savings).
We expect FY12F normalised EPS to remain flat y-y
We expect normalised EPS to remain flat in FY12F y-y, owing to unusually high forced
outages at several plants in 1HFY12 and incremental earnings from the 2.8GW expected
commercial capacity addition during the year kicking-in gradually in 2HFY12.
FY12-14F commercial capacity addition pegged at 10GW (11.3GW previously)
We build-in wholly owned commercial capacity addition of 10GW during FY12-14F
(11.3GW previously), excluding the proposed foray into wind-farms.
PAF for coal-fired stations lowered to 88% post FY13F (90% previously)
In light of the increased dependence on coal supply under LoAs (wherein a minimum
level of supply is not guaranteed) and current uncertainty relating to ramp-up of captive
coal production, we build-in a drop in PAF for coal-fired stations from 90% to 88% post
FY2013F. We also lower PAF for gas-fired stations at 90% (92.5% previously).
PLF for coal fired stations lowered to 85% (89% previously)
Recognising the potential risk of lower utilisation levels due to back-downs, forced
outages and fuel constraints, we build-in 1) PLF of coal-fired stations at 85% (previously
89%) during our explicit earnings forecast period, and 2) PLF of gas-fired stations to
range between 65-70% (78% previously).
Perpetual RoE assumption lowered to 18.5% (20% previously)
Based on the current regulatory regime and assuming coal-based PAF/PLF staying
>85%, we believe NTPC would continue to earn a minimum spread of 400-500bps over
and above the 15.5% post-tax RoE on its regulated assets. Nevertheless, considering
the trend of tightening efficiency-linked benchmarks in successive tariff periods (next
tariff period would be FY2014-19), together with progressive dependence on
imported/captive coal supply for NTPC and related risk of import logistics and ramp-up of
captive coal production, we lower our perpetual RoE assumption (on regulated assets)
from 20% to 18.5% (implying a 300bp spread over the assured RoE). We note that
progress on ramp-up of captive coal production and/or improvements in domestic coal
supplies are upside risks to our arguably conservative perpetual RoE assumption.
Issues for debate – Fuel security, efficiency-linked incentives
During our interaction with investors on NTPC, three key concerns have been typically
cited: 1) fuel security, particularly in terms of sourcing, which would lead to lower PAF;
2) downtrend in efficiency-linked incentives stemming from a lower utilisation rate (PLF)
and frequent back-down instructions by the beneficiaries (mostly state-owned distribution
companies); and 3) persistent delays in project timelines. We concur with these key
inter-related risks to NTPC’s earnings, but believe that risk perception relating to fuel
security and efficiency-linked incentives has been exaggerated.
Fuel security is a growing concern, but NTPC is relatively better positioned
In our view, fuel security is a structural risk for IPPs in India unless captive fuel sourcing
within India is available. Although NTPC’s fuel security risk rises as it commissions
incremental generation capacity, we believe the company is relatively better positioned
considering: 1) As fuel cost is a pass-through, the risk is restricted to fuel ‘sourcing’;
2) ~24GW of operating capacity has secure coal supplies via FSAs to the extent of 90%
PLF with a 90% ACQ (assured contracted quantity); 3) rationing mechanism of coal
supply (under LoA) for incremental capacity favours projects with revenue models based
on regulated returns / long-term bid-based PPAs; 4) captive coal supply is slated to
commence in 2HFY13; we expect a ramp-up to ~30mtpa by FY17F (~15% of total coal
requirement) on the assumption that the de-allocated captive coal blocks will be restored
within the current financial year; and 5) in the near term, as commentary from the
Ministry of Coal suggests, NTPC’s non-pit head power plants would be receiving coal on
a preferred basis in order to replenish its stockpiles
A spread of ~500bps over assured RoE (on regulated assets) appears sustainable
As regards availability-linked cost recovery and efficiency-linked incentives, our
calculations indicate that despite building in the likely downtrend in UI (unscheduled
interchange) revenues, a lower PAF of 88% post FY2013 (previous 3-year average of
~92%) and a lower PLF of ~85% for its coal fired stations (previous 3-year average of
90%), NTPC would be able to generate a spread of ~500bps over the assured 15.5%
post-tax RoE on regulated assets. In our current earnings forecast, which assumes the
PAF/PLF for coal-fired stations for FY13F at 90%/85%, the effective RoE on regulated
assets translates to ~23%.
TP lowered to INR204; offers ~20% potential upside
Our TP of INR204/share (from INR228) is based on a sum of the fair value of NTPC’s
operating assets using a residual income (RI) model (IN173/share), FY12F investment in
JVs and subsidiaries (INR10/share) and book value of FY12F non-operating financial
assets (INR21/share). Our RI model assumes 12.5% cost of equity, 18.5% perpetual
RoE (on regulated assets) and 2% perpetual growth in core business income. At our
price target, the stock would trade at 2.1x FY13F P/B – a 10% discount to its average
(two-year) one-year forward P/B multiple of 2.3x.
On relative valuations, at 13.6x FY13F P/E and 1.8x FY13F P/B, NTPC trades at a
significant premium to the average multiples of its domestic peers (comprising both
private IPPs and public sector power utilities). In our view, relatively high earnings
visibility, adequate fuel security and negligible financing constraints to augment capacity
will continue to merit a premium for NTPC’s valuation relative to the average multiples of
its peer group.
India Equity Research Reports, IPO and Stock News
Visit http://indiaer.blogspot.com/ for complete details �� ��
NTPC: Preferred IPP amid rising fuel scarcity
Fuel risk appears exaggerated;
~20% RoE on regulated assets
sustainable
Action – Maintain Buy; TP lowered to INR204
Capturing a weak 1HFY12 (aggravated by unusually high forced outages
denting efficiency-linked incentives), delays in commercial capacity
addition and lower utilisation prospects, we cut NTPC’s FY12/FY13F EPS
forecast by 6%/9%. However, we expect ~9GW wholly owned commercial
capacity addition by March 2014 (5.5GW over the next 18-months),
yielding an FY12F-14F EPS CAGR of 13% to underpin price performance.
Valuation – Stock trades 20% below historical average multiples
Our TP of INR204 is a sum of the fair value of operating assets based on
a residual income model (INR173), investment in JVs/subsidiaries (INR10)
and book value of FY12F non-operating financial assets (INR21).
Valuation multiples are not distressed, but 20% below historical averages.
Our TP implies FY13F P/BV at 2.1x (10% below its historical one-year
forward P/BV of 2.3x).
Catalysts: 9GW addition in 30 months; captive coal block restoration
Event-linked catalysts: 1) Restoration of the five de-allocated captive coal
blocks by the MoC; 2) acquisition of equity stakes in overseas coal assets
/ securing long-term imported coal supply; and 3) bulk-tendering orders
award by March 2014.
Preferred IPP pick; ~20% RoE on regulated assets seems sustainable
As fuel constraints rise across the board, we maintain that amongst the
IPPs under our coverage, NTPC offers high earnings visibility, lowest
funding risks and adequate fuel security (particularly as pricing is a passthrough).
Maintain BUY; defensive growth intact
Although we lower our FY12/FY13 EPS forecasts for NTPC by 6%/9%, respectively, and
trim our longer-term PAF, PLF and RoE assumptions, we maintain our view that NTPC
offers a ‘portfolio insurance’ option within the power utilities space. Our revised TP of
INR204 offers potential upside of above 20%; at our TP, the stock would trade at 2.1x
FY13F P/book. We expect ~9GW of wholly owned commercial generation capacity
addition in the next 30 months, as the undercurrent for stock price performance.
Our long-term investment thesis on NTPC remains unchanged – we maintain that
amongst our coverage IPPs, NTPC arguably offers the highest earnings visibility, lowest
funding risks, adequate fuel security (particularly on pricing, as fuel cost is a pass
through) and a competitive cost of generation. In the current regulatory regime, we
expect NTPC to sustain an earnings spread of 400-500bps above the minimum post-tax
RoE of 15.5% on its generation capacity (ie, RoE of ~20% on its regulated assets).
However, we lower our FY12/FY13 EPS forecasts for NTPC by 6%/9% to factor in:
1) delays in commercial capacity addition; 2) lower efficiency-linked incentives,
particularly in 1HFY12F; and 3) lower utilisation levels. We expect normalized EPS in
FY12F to remain flat y-y owing to unusually high forced outages at several plants and
the entire 2.8GW of expected commercial capacity addition during the year effectively
kicking-in during 2HFY12. Our revised outlook for NTPC’s commercial capacity addition
and efficiency-linked incentives pegs its FY12-17F EPS CAGR at 11%; we assume the
long-term PAF/PLF of its coal-fired capacity at 88%/85% and applicability of minimum
alternative tax (MAT) as the RoE gross-up tax rate from FY13F onwards (ie, precludes
potential savings in tax outgo on availing tax holidays for some projects).
Our revised TP of INR204 (from IN228) is based on a sum of the fair value of NTPC’s:
1) operating assets using a residual income (RI) model (IN173/share); 2) FY12F
investment in JVs and subsidiaries (~INR10); and 3) book value of FY12F non-operating
financial assets (INR21). Our RI model for NTPC assumes 12.5% cost of equity
(previously 12.0%), 18.5% perpetual RoE on core assets (previously 20%) and 2%
perpetual growth in core business income. At our price target, the stock would trade at
2.1x FY13E P/B, 10% below its average (2-year) one-year forward P/B multiple of 2.3x.
Our methodology is unchanged.
While we expect ~9GW of wholly owned commercial generation capacity addition over
the next 30 months yielding an FY12-14F EPS CAGR of 13% as the undercurrent for
stock price performance, specific potential upside catalysts could be (linked to corporate
action / regulatory developments): 1) restoration of the five de-allocated captive coal
blocks by the Ministry of Coal (MoC); 2) NTPC acquiring substantial interests in overseas
coal assets/securing long-term imported coal supply thereby allaying concerns over
longer-term fuel security; and 3) bulk-tendering orders award by March 2014.
Key risks to our investment thesis and price target include: 1) delays in commercial
capacity accretion beyond our expected timeline; 2) deterioration in operational
efficiency, PAF slipping below our assumed level due to fuel constraints; 3) reinvestment
risks relating to growing cash chest; and 4) adverse regulatory developments.
Changes in key assumptions for forecast earnings / TP
Overall, 1) we lower our FY12/FY13 EPS forecast for NTPC by 6%/9% and 2) we peg
FY12-17F EPS CAGR at 11% (assuming MAT as the RoE gross-up tax rate from FY13F
onwards, thus disregarding potential tax savings).
We expect FY12F normalised EPS to remain flat y-y
We expect normalised EPS to remain flat in FY12F y-y, owing to unusually high forced
outages at several plants in 1HFY12 and incremental earnings from the 2.8GW expected
commercial capacity addition during the year kicking-in gradually in 2HFY12.
FY12-14F commercial capacity addition pegged at 10GW (11.3GW previously)
We build-in wholly owned commercial capacity addition of 10GW during FY12-14F
(11.3GW previously), excluding the proposed foray into wind-farms.
PAF for coal-fired stations lowered to 88% post FY13F (90% previously)
In light of the increased dependence on coal supply under LoAs (wherein a minimum
level of supply is not guaranteed) and current uncertainty relating to ramp-up of captive
coal production, we build-in a drop in PAF for coal-fired stations from 90% to 88% post
FY2013F. We also lower PAF for gas-fired stations at 90% (92.5% previously).
PLF for coal fired stations lowered to 85% (89% previously)
Recognising the potential risk of lower utilisation levels due to back-downs, forced
outages and fuel constraints, we build-in 1) PLF of coal-fired stations at 85% (previously
89%) during our explicit earnings forecast period, and 2) PLF of gas-fired stations to
range between 65-70% (78% previously).
Perpetual RoE assumption lowered to 18.5% (20% previously)
Based on the current regulatory regime and assuming coal-based PAF/PLF staying
>85%, we believe NTPC would continue to earn a minimum spread of 400-500bps over
and above the 15.5% post-tax RoE on its regulated assets. Nevertheless, considering
the trend of tightening efficiency-linked benchmarks in successive tariff periods (next
tariff period would be FY2014-19), together with progressive dependence on
imported/captive coal supply for NTPC and related risk of import logistics and ramp-up of
captive coal production, we lower our perpetual RoE assumption (on regulated assets)
from 20% to 18.5% (implying a 300bp spread over the assured RoE). We note that
progress on ramp-up of captive coal production and/or improvements in domestic coal
supplies are upside risks to our arguably conservative perpetual RoE assumption.
Issues for debate – Fuel security, efficiency-linked incentives
During our interaction with investors on NTPC, three key concerns have been typically
cited: 1) fuel security, particularly in terms of sourcing, which would lead to lower PAF;
2) downtrend in efficiency-linked incentives stemming from a lower utilisation rate (PLF)
and frequent back-down instructions by the beneficiaries (mostly state-owned distribution
companies); and 3) persistent delays in project timelines. We concur with these key
inter-related risks to NTPC’s earnings, but believe that risk perception relating to fuel
security and efficiency-linked incentives has been exaggerated.
Fuel security is a growing concern, but NTPC is relatively better positioned
In our view, fuel security is a structural risk for IPPs in India unless captive fuel sourcing
within India is available. Although NTPC’s fuel security risk rises as it commissions
incremental generation capacity, we believe the company is relatively better positioned
considering: 1) As fuel cost is a pass-through, the risk is restricted to fuel ‘sourcing’;
2) ~24GW of operating capacity has secure coal supplies via FSAs to the extent of 90%
PLF with a 90% ACQ (assured contracted quantity); 3) rationing mechanism of coal
supply (under LoA) for incremental capacity favours projects with revenue models based
on regulated returns / long-term bid-based PPAs; 4) captive coal supply is slated to
commence in 2HFY13; we expect a ramp-up to ~30mtpa by FY17F (~15% of total coal
requirement) on the assumption that the de-allocated captive coal blocks will be restored
within the current financial year; and 5) in the near term, as commentary from the
Ministry of Coal suggests, NTPC’s non-pit head power plants would be receiving coal on
a preferred basis in order to replenish its stockpiles
A spread of ~500bps over assured RoE (on regulated assets) appears sustainable
As regards availability-linked cost recovery and efficiency-linked incentives, our
calculations indicate that despite building in the likely downtrend in UI (unscheduled
interchange) revenues, a lower PAF of 88% post FY2013 (previous 3-year average of
~92%) and a lower PLF of ~85% for its coal fired stations (previous 3-year average of
90%), NTPC would be able to generate a spread of ~500bps over the assured 15.5%
post-tax RoE on regulated assets. In our current earnings forecast, which assumes the
PAF/PLF for coal-fired stations for FY13F at 90%/85%, the effective RoE on regulated
assets translates to ~23%.
TP lowered to INR204; offers ~20% potential upside
Our TP of INR204/share (from INR228) is based on a sum of the fair value of NTPC’s
operating assets using a residual income (RI) model (IN173/share), FY12F investment in
JVs and subsidiaries (INR10/share) and book value of FY12F non-operating financial
assets (INR21/share). Our RI model assumes 12.5% cost of equity, 18.5% perpetual
RoE (on regulated assets) and 2% perpetual growth in core business income. At our
price target, the stock would trade at 2.1x FY13F P/B – a 10% discount to its average
(two-year) one-year forward P/B multiple of 2.3x.
On relative valuations, at 13.6x FY13F P/E and 1.8x FY13F P/B, NTPC trades at a
significant premium to the average multiples of its domestic peers (comprising both
private IPPs and public sector power utilities). In our view, relatively high earnings
visibility, adequate fuel security and negligible financing constraints to augment capacity
will continue to merit a premium for NTPC’s valuation relative to the average multiples of
its peer group.
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