Buy CESC - FDI in retail: Shot in arm for Spencer’s :: Edelweiss

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CESC (CESC IN, INR 252, Buy)

The cabinet nod to FDI in retail permitting 51% in multi-brand stores is a positive for CESC’s retail subsidiary Spencer’s. This will enable the company to not only seek strategic / financial investors, but also chart a renewed growth path. According to our FMCG, media and retail analyst, Mr. Abneesh Roy, Spencer’s could garner 1x EV/Sales, which potentially translates into INR6bn equity value (INR50/share). We believe this development to be sentimentally positive as investors will expect earnings from the power business to be ploughed back to fund large pipeline of under development/construction power projects (~3 GW) and not diverted to fund Spencer’s losses. We have valued power projects and cash/investments at INR414/share. Maintain ‘BUY’.

FDI in retail a positive for Spencer’s

The Union Cabinet has approved FDI up to 51% in multi‐brand retail and 100% in single‐brand retail (from current 51%). Some of the key riders are: (1) only in cities with a population of more than 1mn (likely 36+ cities); (2) FDI should be minimum of USD100mn, half of which must be invested in back-end infrastructure; (3) 30% of manufacturing goods’ procurement must be from small industries; (4) fresh agricultural produce may be unbranded as the government holds the first right to procure agri products; and (5) approval from state government may be required. We perceive this as a huge positive for the Indian retail sector as it will stimulate investments, especially in logistics and cold chain development (help food companies and reduce food inflation), besides reducing the overhang of debt. We believe CESC, which has been infusing around INR1.5 bn every year to fund losses in Spencer’s, will be one of the biggest beneficiaries of the new liberalised norm.

Outlook & valuations: Option value ~ INR 50/share; maintain ‘BUY’

Work on under construction projects—Haldia and Chandrapur—is on track with ~ 30% of capex incurred. Management has also started aggressively pursuing the 1,320 MW Orissa project. Based on 1x EV/Sales the option value from Spencer’s is ~INR 50/share which is not included in our SOTP of INR 414/share. We believe the overhang due to diversion of power earnings to fund the retail losses will recede. At CMP of INR 252 the stock is trading at 0.45x and 0.4x FY12E and FY13E BV, respectively. We maintain ‘BUY’.