Ahead of PGCIL’s FPO opening on 3
rd Dec, the price band for the issue has
been fixed at Rs85-90 a share, as per company's filing on BSE. The 13% fresh
issue by PGCIL implies an equity infusion in the range of Rs51bn-54bn, and
estimated net-D/E will range between 2.35x-2.40x by FY16E, slightly ahead
of normative 70:30 levels prescribed by CERC. Our Sep-14 DCF based PT of
Rs110, implies 22%-29% upside potential over the issue price band. Maintain
OW. A multistage DCF valuation methodology incorporates a fair number of
assumptions and bias. In this report we test alternate valuation
methodologies in the context of PGCIL: (1) Dividend discount model, (2)
Book Value approach, and (3) a derived EV/EBIT approach.
Outlining the 3 valuation methodologies. (1) Dividend yield in next fiscal
= (CoE – g); (2) P/B = (RoE - g)/ (CoE - g); (3) We revisit basic textbook
equations to derive EV/EBIT: (a) Gordon Growth formula: EV =
FCF/(WACC - g); (b) Definition of FCF = EBIT*(1-tax rate) +
Depreciation - Capex – ΔNWC; (c) another definition of FCF = EBIT* (1-
reinvestment rate)* (1-tax rate). For the mathematically inclined EV/EBIT
equates to [(1-tax rate)*{1- (ρ/EBIT*(1-tax rate))}]/(WACC - g), where ρ =
(Capex + ΔNWC – Depreciation). The definitions of variables, assumptions
and derivations have been provided inside the report.
Conclusions. Back testing dividend discount model and book value
approach to derive stable state growth/terminal growth (or g) around CMP
yields values in excess of 6%─ too high, in our view. This merely
establishes that it’s still too early to be looking at PGCIL as a utility in
stable state- – we estimate 52% diluted EPS growth over FY13-17. In the
EV/EBIT approach, to minimize bias we value only the stable cash flow
from commissioned and regulated return projects as of FY14, in other
words we keep g=0. Assuming base RoE permitted by the regulator remains
stable at 15.5%, we conclude that operational projects of PGCIL alone are
worth Rs92/share (at 14% RoE worth Rs85/share) excluding visible growth
over 12th Plan period (+Rs10/share) and beyond (+Rs8/share).
rd Dec, the price band for the issue has
been fixed at Rs85-90 a share, as per company's filing on BSE. The 13% fresh
issue by PGCIL implies an equity infusion in the range of Rs51bn-54bn, and
estimated net-D/E will range between 2.35x-2.40x by FY16E, slightly ahead
of normative 70:30 levels prescribed by CERC. Our Sep-14 DCF based PT of
Rs110, implies 22%-29% upside potential over the issue price band. Maintain
OW. A multistage DCF valuation methodology incorporates a fair number of
assumptions and bias. In this report we test alternate valuation
methodologies in the context of PGCIL: (1) Dividend discount model, (2)
Book Value approach, and (3) a derived EV/EBIT approach.
Outlining the 3 valuation methodologies. (1) Dividend yield in next fiscal
= (CoE – g); (2) P/B = (RoE - g)/ (CoE - g); (3) We revisit basic textbook
equations to derive EV/EBIT: (a) Gordon Growth formula: EV =
FCF/(WACC - g); (b) Definition of FCF = EBIT*(1-tax rate) +
Depreciation - Capex – ΔNWC; (c) another definition of FCF = EBIT* (1-
reinvestment rate)* (1-tax rate). For the mathematically inclined EV/EBIT
equates to [(1-tax rate)*{1- (ρ/EBIT*(1-tax rate))}]/(WACC - g), where ρ =
(Capex + ΔNWC – Depreciation). The definitions of variables, assumptions
and derivations have been provided inside the report.
Conclusions. Back testing dividend discount model and book value
approach to derive stable state growth/terminal growth (or g) around CMP
yields values in excess of 6%─ too high, in our view. This merely
establishes that it’s still too early to be looking at PGCIL as a utility in
stable state- – we estimate 52% diluted EPS growth over FY13-17. In the
EV/EBIT approach, to minimize bias we value only the stable cash flow
from commissioned and regulated return projects as of FY14, in other
words we keep g=0. Assuming base RoE permitted by the regulator remains
stable at 15.5%, we conclude that operational projects of PGCIL alone are
worth Rs92/share (at 14% RoE worth Rs85/share) excluding visible growth
over 12th Plan period (+Rs10/share) and beyond (+Rs8/share).
