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NHPC (NHPC)
Utilities
Attractive valuations, improving pace of execution. We reiterate our BUY rating on
NHPC, as the CMP offers an attractive entry point with 30% upside to our target price
of Rs30/share and reasonable trading multiples—0.9X P/B and 10X P/E on FY2013E. We
are encouraged by the improved run-rate of capex that will likely translate into timely
execution, even as we draw comfort from low-cost hydro generation that insulates the
company from coal availability as well as offtake risk.
Valuation attractive; CMP ascribes no value to growth portfolio
NHPC offers a stable stream of operational cash flows driven by regulated returns on 5,270 MW of
operational capacity (valued at Rs12.5/share) while investment and cash and equivalents account
for another Rs11/share. The current market price, thus, implies limited value to the growth
portfolio aggregating to 4.5 GW of capacity already under advance stages of construction. NHPC
is trading at attractive valuations of 0.9X FY2013E book and 10X on FY2013E EPS and offers a
stable stream of operational cashflow driven by regulated returns on 5,270 MW of operational
capacity. We reiterate our BUY rating on NHPC with a target price of Rs30.
Uptick in capex run rate encouraging, commissioning could drive stock performance
NHPC has significantly upped its capex run rate with an estimated consolidated capex of Rs47 bn
in FY2011 against Rs33 bn in FY2010. In our view, this signals an uptick in execution and augurs
well for estimated capacity addition of 3.2 GW (effective) in FY2012-14E period. NHPC has just
added 120 MW (Sewa II) in the past four years and, in our view, the incremental commissioning of
capacities in the next few years could be a strong catalyst for the stock as it would restore investor
faith in NHPC’s delivery credentials which has admittedly taken a hit due to this long draught of
capacity addition. We, however, do not rule out marginal slippages in commissioning owing to
uncertainties inherent in the implementation of hydropower projects and highlight this as a key
risk to our earnings and valuation estimates.
Recently introduced water charges likely to be a pass through
Jammu and Kashmir Government, as per the provisions of J&K Water Resources Act 2010, has
started levying charges for usage of water in the state which directly impacts the hydro plants
located in J&K. NHPC made a provisioning of Rs1.4 bn in FY2011 towards water charges payable
to the state government. However, the management has indicated that it is confident of getting
this charge approved by CERC and accordingly passed on to the beneficiaries. Current CERC
regulations allow for pass through of taxes on raw materials for thermal power projects and any
charge on usage of water should come under the ambit of raw material tax and should be a pass
through, in our view.
RoE to improve as capacities come on stream
NHPC earns effective yield on operational equity of 18-20% compared to the 15.5% RoE
assured under the CERC-based tariff guidelines. The incremental returns are contributed by
capacity incentives and savings, secondary energy sale and unscheduled interchange charges.
However, large investments in low-income yielding treasury bonds and capital work in
progress for future development projects draw down the overall return profile for NHPC. We
note that as the projects commission, a bulk of CWIP will convert into return-yielding
operational equity thus giving a boost to NHPC’s overall RoE. We estimate NHPC’s RoE to
increase from extant levels of 6.5% to 10.6% by FY2015E.
Relatively better placed to weather the macro headwinds
Hydro generation insulates NHPC from any adverse movement in either pricing or availability
of fuel—a macro concern across most other utilities in the generation space. NHPC’s
generation is contingent on external factors such as water flow, though risk to earnings is
limited since NHPC sells through regulated route under a cost-plus environment. Further,
offtake risk is limited for NHPC as hydro-based generation makes NHPC one of the lowest
cost producers of power in India. Deteriorating financials of State Electricity Boards (SEBs)
have raised questions on their ability to buy high-cost power, and NHPC ranks highest in the
merit order of dispatch.
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