16 April 2012 Adani Power Adani Power )^(1/ Power (SELL... · Adani Power Sensex Sachin Mehta +91-22-43335134 [email protected] AGGRESSION HURTS ROE Adani Power (APL) is poised

16 April 2012 Adani Power

IFIN Research 1

Adani Power

)^(1/

Y/E Mar (Rs. mn) FY11 FY12E FY13E FY14E

Net Sales 21,064 42,563 93,794 124,322

EBITDA 12,208 16,235 35,664 47,432

Net Profit 5,136 2,201 12,329 9,704

EPS (Rs) 2.4 1.0 5.7 4.5

EPS (growth) 202% -57% 460% -21%

Book Value/(Rs.) 28.8 29.9 35.5 40.0

PER (x) 29.7 69.3 12.4 15.7

P/BV (x) 2.4 2.3 2.0 1.8

EV/EBITDA (x) 31.5 28.1 13.1 11.0

ROE (%) 8.5 3.4 17.3 11.8

ROCE (%) 4.4 2.7 6.5 7.7

Source: Company; IFIN Research

Adani Power

Initiating Coverage

Rating: SELL

Current Price: Rs 70

Target Price: Rs 62

Downside: 11%

Stock Data

Sensex / Nifty 17,095 / 5,207

52-week high/low (Rs) 119 / 59

O/S shares (mn) 2,180

Mkt Cap Rs (bn) 152.2

Avg Daily Vol (mn) 8.7

Bloomberg Code ADANI IN

Reuters Code ADAN.BO

Shareholding (%) Dec-11

Promoters 73.5

FIIs 10.3

DIIs 0.9

Public 15.3

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Adani Power Sensex

Sachin Mehta

+91-22-43335134

[email protected]

AGGRESSION HURTS ROE!

Adani Power (APL) is poised to emerge as one of the largest IPPs with

capacity of 8.4GW by FY14E. However, we believe that aggressive case-1

bidding for 77% of its projects (6.5GW) entailing nominal tariffs of Rs 2.4–

3.3/kWh does not match: 1) the cost pressure subsumed, and 2) minimum

RoE of 15.5% desired as per CERC norms. With gradual increase in share of

PPA sales, we see the earnings cycle peaking in FY13E (+4.6x YoY at Rs

12.3bn) and wobbling thereafter to Rs 9.7bn (-21% YoY) in FY14E and Rs

5.8bn (-40% YoY) in FY15E. We are cautious about APL’s earnings model. We

initiate coverage with a SELL rating and TP of Rs 62.

Capacity to grow at 1.8x over the next two years: APL has installed capacity

of 4.6GW and is estimated to add 3.8GW for commissioning until FY14, which

would make it one of the largest private IPPs.

Earnings model lacks pricing power: To gauge the impact of aggressive tariff

bidding, we have considered CERC tariff norms that entail 15.5% RoE and applied

them to APL’s projects; We see a revenue gap of Rs 5.8bn in FY14E and Rs

13.5bn in FY15E i.e. a gap of Rs 0.16/kwh in FY14E and Rs 0.29/kWh in FY15E.

We believe case-1 bidding by APL for 77% of its projects (6.5GW) is aggressive

and entails fixed levelised tariffs of Rs 2.4–3.3/kWh vs. desired tariffs as per CERC

norms of Rs 3.3–3.6/kwh. This exposes APL’s earnings model to fuel price risks

and under-recovery of fixed costs, driving RoE below 15.5% stipulated by CERC.

Earnings to remain volatile to spot market movements: On commissioning

of 8.4GW capacity in FY14E, APL’s business model would be exposed to the spot

market up to 28% for coal and 38% for merchant sales. Merchant sales are

revenue accretive and to an extent would mute under-recovery of fixed costs on

PPA sales. However, share of merchant sales in total sales is reducing. We believe

spot coal prices would remain firm; However, a 20% decline to US$72/MMT would

increase our TP by 40% to Rs 87. Similarly, a decline in prices for merchant sales

by Rs 0.5/kWh to Rs 4/kWh would reduce our target price by 23% to Rs 48.

Business model lacks operating leverage: With 1) increase in exposure to

PPA sales; 2) aggressive case-I tariffs; 3) cost pressure being subsumed, and 4)

the company being exposed to fuel price risks, we believe APL’s business model

lacks operating leverage to recover fixed costs (including RoE of 15.5% on net

equity infused into the business). Core and normative RoE would peak in FY13E

with a rise in merchant sales and would remain unsteady from there on.

Valuation & Recommendation: We value APL using FCFE to arrive at our TP

of Rs 62 (P/B of 1.7x at FY13E and 1.5x FY14E). We have tried to build in

considerable optimism in our earnings model to arrive at our base-case fair value

of Rs 62. Our bear case stands at Rs 23 and the best-case scenario gives us a fair

price of Rs 123.

mailto:[email protected]


IFIN Research 2

Capacity to grow 1.8x over the next two years:

An installed capacity of 4.6GW and 3.8GW estimated for commissioning until FY14,

would make APL one of the largest private IPPs.

Exhibit 1: Key Project Assumptions:-

Mundra I & II Mundra III Mundra IV Tiroda I & II Tiroda III Kawai Total

Capacity (MW) 1,320 1,320 1,980 1,980 1,320 1,320 9,240

Project cost (Rs in mn) 43,500 65,000 120,000 92,630 66,000 69,300 456,430

APL's Stake 100% 100% 100% 74% 74% 100%

Capacity entitled to APL (MW) 1,320 1,320 1,980 1,465 977 1,320 8,382

Cost/MW to APL (Rs mn) 33 49 61 47 50 53

Debt ratio 82% 77% 80% 80% 80% 75%

Equity ratio 18% 33% 20% 20% 20% 25%

Exhibit 2: Capacity Addition Estimates

Exhibit 3: Sales Mix Estimates

FY10 FY11 FY12E FY13E FY14E FY15E

Capacity (MW) 660 1,980 4,620 6,389 8,382 8,382

Effective Annual Capacity (MW) 234 1,128 2,695 6,085 6,551 8,382

- Capacity on LT PPA (MW) - 853 1,293 4,120 4,094 6,489

0% 76% 48% 65% 62% 77%

- Capacity on merchant (MW) 234 275 1,402 2,249 2,458 1,893

100% 24% 52% 45% 38% 23%

Units generated (MU) 1,356 7,586 14,275 29,853 40,174 51,962

Units sold (MU) 1,220 6,810 12,847 26,868 36,157 46,765

- LT PPA sales - 4,967 6,084 14,901 22,206 36,020

- Merchant sales 1,220 1,843 6,763 11,967 13,951 10,746

LT PPA tariff (Rs/kWh) N.A 2.89 2.80 2.68 2.77 2.89

Overall tariff (Rs/kWh) 4.35 2.91 3.31 3.49 3.44 3.26

Exhibit 4: Domestic coal linkage

FY10 FY11 FY12E FY13E FY14E

Mundra I & II 660 660 - - -

Mundra III - 660 660 - -

Mundra IV - - 1,980 1,320 -

Tiroda I & II - - - 1,465 -

Tioroda III - - - - 977

Kawai - - - - 1,320

Total Capacity 660 1,980 4,620 6,085 8,382

Incremental Capacity addition 660 1,320 1,320 1,465 2,297

Capacity

(MW) Mines

Linkage Capacity

%

Mundra IV 1,980 MCL 1,386 70%

Tiroda I & II 1,465

WCL/SECL 879 60%

Tiroda I & II (tapering coal linkage) WCL/SECL 586 40%

Tiroda III 977

Applied*

Kawai 1,320

Applied **

Of the total project

portfolio of 8.4GW, APL

has 77% of its project

based on case-I bidding

and balance 23% is on

merchant sale.

* However, we have built in 60% linkage and balance is on spot purchase.

** We have built in spot purchase of coal.


IFIN Research 3

Earnings model lacks pricing power:

Aggressive case-I bidding to drag RoE below CERC tariff norms

In case of competitively-bid projects, ability to maintain actual capital and

operating costs within budgeted levels is critical since cost escalations are

not a pass-through. We believe APL’s aggressive case-I bidding for 77% of its

projects (6.5GW) entailing fixed levelised tariffs of Rs 2.4–3.3/kWh vs. desired

tariffs as per CERC norms of Rs 3.3–3.6/kwh exposes APL to high coal prices

and under-recovery of fixed costs. This would drag RoE below 15.5% norm

stipulated by CERC. If we consider CERC’s tariff norms to earn minimum

15.5% RoE and apply them to APL’s projects, we see a revenue gap of Rs

5.8bn in FY14E and Rs 13.5bn in FY15E i.e. a gap of Rs 0.16/kwh in FY14E and

Rs 0.29/kWh in FY15E.

Exhibit 5: Earnings Gap – On application of CERC tariff norms

Refer Annexure 1 for revenue gap estimated for projects at varying PLF

Rs/kWh FY12E FY13E FY14E FY15E

Merchant Sales (MU) 6,763 11,967 13,951 10,746

Merchant Sale Price (A) 3.77 4.50 4.50 4.50

Fuel cost (B) 1.73 1.79 1.83 1.90

Contribution (C) = (A - B) 2.05 2.71 2.67 2.60

Fixed cost (D) 1.78 1.49 1.77 1.65

Net Profit (C - D) 0.26 1.22 0.90 0.95

Net Profit from merchant sales (I) 1,790 14,649 12,550 10,201

PPA Sales (MU) 6,084 14,901 22,206 36,020

Average Sale Price (A) 2.80 2.68 2.77 2.89

Fuel cost (B) 1.73 1.79 1.83 1.90

Contribution (C) = (A - B) 1.07 0.89 0.94 1.00

Fixed cost (D) 1.78 1.49 1.77 1.65

Net Profit (C - D) (0.71) (0.60) (0.83) (0.66)

Net Profit from PPA Sales (II) (4,314) (8,869) (18,407) (23,727)

Total Profit / (Loss) (I + II) (2,524) 5,780 (5,857) (13,525)

Revenue Gap (Rs/kWh) (0.20) 0.22 (0.16) (0.29)

* Includes RoE grossing-up with MAT rate at 19.375%, Depreciation at 5.28%, interest on loan at 9%, interest on working capital

as per norms and O&M cost at Rs14lakhs/MW

To gauge the impact of

aggressive tariff bidding

by APL, we applied CERC

tariff norms on APL’s

projects.

On application, we see a

revenue gap of Rs 5.8bn

in FY14E and Rs 13.5bn in

FY15E – a gap of Rs

0.16/kwh in FY14E and Rs

0.29/kWh in FY15E.

The revenue gap is

mainly on account of

fixed levelised tariffs,

under-recovery of fixed

costs and exposure to

imported coal prices,

which are not allowed as

a pass-though.

We believe the aggressive

tariff bid did not

anticipate cancellation of

domestic coal linkages,

1.3x increase in imported

coal prices and dull

merchant sale price, and

hence the mismatch.

Further, PPA are based

on 80% PAF with trigger

of penalty clause, if PAF

is below 75% PAF.


IFIN Research 4

Exhibit 6: Fixed Costs – On application of CERC tariff norms

Key Fixed Cost Components (Rs in mn)

(if CERC Tariff norms are applied) FY12E FY13E FY14E FY15E

A) RoE as per CERC norms

- Mundra I & II 1,517 1,517 1,517 1,517

- Mundra III 1,448 2,897 2,897 2,897

- Mundra IV 775 1,550 4,650 4,650

- Tiroda I & II - 1,328 1,328 2,656

- Tiroda IIII - - 473 946

- Kawai - - 838 1,678

B) Interest on term loans

- Mundra I & II 2,986 2,665 2,344 2,022

- Mundra III 4,640 4,189 3,739 3,288

- Mundra IV 1,498 4,450 8,035 7,171

- Tiroda I & II - 2,566 5,083 4,590

- Tiroda IIII - - 913 3,622

- Kawai - - 2,432 4,818

C) Depreciation

- Mundra I & II 2,067 2,067 2,067 2,067

- Mundra III 1,170 3,089 3,089 3,089

- Mundra IV 950 1,901 5,702 5,702

- Tiroda I & II - 1,629 3,257 3,257

- Tiroda IIII - - 580 2,321

- Kawai - - 1,647 3,293

D) Interest on working capital loans

- Mundra I & II 799 799 799 799

- Mundra III 674 809 809 809

- Mundra IV 141 894 1,094 1,094

- Tiroda I & II - 224 755 861


- Kawai - - 204 1,012

E) O & M cost

- Mundra I & II 1,848 1,848 1,848 1,848

- Mundra III 1,540 1,848 1,848 1,848

- Mundra IV 193 1,675 2,772 2,772

- Tiroda I & II - 570 1,026 2,051


- Kawai

- 270 924

Key Fixed cost components as per CERC norms (A+B+C+D+E) 22,245 38,513 62,173 75,057

Other admin costs (F) 638 1,407 1,865 2,289

TOTAL Fixed Costs (A+B+C+D+E+F) 22,883 39,920 64,038 77,346

Units Sold 12,847 26,868 36,157 46,765

Fixed cost/Unit sold 1.78 1.49 1.77 1.65

Exhibit 7: Fuel cost assumptions at 90% PLF

Project Capacity (MW) Source (MMT)

Total Coal (MMT) Imported -AEL Imported Spot Linkage

Mundra Phase I and II 1,320 5.28 3.70 1.58 -

100% 70% 30%

Mundra Phase III 1,320 4.62 3.23 1.39 -

100% 70% 30%

Mundra Phase IV 1,980 9.42 - 2.49 6.93

100%

26% 74%

Tiroda I &II 1,465 7.33 - - 7.33

100%

100%

Tiroda III** 977 4.10 - 1.64 2.46

100%

40% 60%

Kawai 1,320 5.54 - 5.54 -

100%

100%

Sub-total 8,382 36.3 6.93 12.65 16.72

100% 19% 35% 46%

** Assumed domestic coal allocation for 60% of its requirement


IFIN Research 5

Concerns on fuel cost

APL’s profitability and returns depend critically on its ability import coal at

competitive prices. Given a project portfolio of 8.4GW, we believe outlook on APL’s

control over fuel costs is bleak underpinned by: 1) APL’s net exposure of 35% to coal

prices in the spot market; 2) zero pass-through of fuel costs, except for the Tiroda III

and Kawai projects, wherein CERC escalation rates for domestic coal price has been

allowed; 3) Subsidised fuel cost from AEL at US$36/ton limited to 19% of the total

requirement; 4) exchange rate risks; 5) scope for higher fuel consumption emanating

from technology risks through use of imported (Chinese) Boiler, Turbine and

Generator (BTG) sets; 6) extensive reliance on mining throughput at Bunyu mines

over the next five years and 7) lack of firm visibility on allocation of alternate mines in

lieu of cancellation of the Lohara coal blocks.

Further, APL’s profitability will be influenced by its ability to maintain actual costs and

operating parameters within the budgeted levels since the projects are based on

‘competitively bid tariff’ wherein cost escalations are not a pass-through. Although execution

has been impressive, we believe APL would also remain exposed to technology risks

(including higher per unit fuel consumption) arising from reliance on imported BTG sets that

do not have a proven track record in Indian conditions, for projects of similar magnitude.

Exhibit 8: Domestic coal linkage

Overhang of fuel tie-up: The ministry of coal (MoC) has not yet firmed up an alternate coal

block for APL’s 3.3 GW Tiroda project (29% of APL’s project portfolio). We understand that

MoC is re-working on the proposal to allocate an alternate coal block and are optimistic on

this and factor in 60% coal linkage for the Tiroda III (1.32GW) project.

Exhibit: 9: Earnings Assumptions

Capacity

(MW) Mines

Linkage Capacity

%

Mundra IV 1,980 MCL 1,386 70%

Tiroda I & II 1,465

WCL/SECL 879 60%

Tiroda I & II (tapering coal linkage) WCL/SECL 586 40%

Tiroda III 977

Applied*

Kawai 1,320

Applied **

FY12E FY13E FY14E FY15E INR/USD 49 48 47 45

Coal price on spot purchase (USD/ton) 90 90 90 90

Coal price on purchase from AEL (USD/Ton)

45 45 45 45

PLF % considered 68% 75% 80% 80% Fixed costs/kWh as per CERC norms* (Rs/kWh)

1.78 1.49 1.77 1.65

Fuel cost (Rs/kWh) 1.73 1.79 1.83 1.90

Tariffs desired as per CERC norms 3.51 3.28 3.60 3.55

Average tariffs (Rs/kWh) 3.31 3.49 3.44 3.26 Revenue Gap (Rs/kWh) (0.20) 0.22 (0.16) (0.29) Net Profit/(Loss) (Rs mn)

(2,524) 5,780 (5,857) (13,525)

Reported Profits (Rs mn)

2,201 12,329 9,704 5,813

Difference (Rs mn) - attributed to lower RoE, lower depreciation charged vs. CERC norms, lower O&M expenses assumed, etc

4,726 6,549 15,561 19,339

* We have however built-in 60% linkage and balance is on spot purchase

** We have built-in spot purchase of coal

We believe that 1)

increasing exposure to

spot coal market; 2) zero

pas-though of imported

fuel cost; 3) subsidised

fuel cost from AEL limited

to 19% of coal

requirement; and 4) lack

of firm visibility on

allocation of domestic

coal mines, underlie our

concerns on APL’s ability

to control fuel cost.

Although, coal linkage for

Tiroda III has been

applied, we remain

optimistic and built in

60% coal linkage and

balance on spot coal

market.


IFIN Research 6

Possibility of changes in PPA with GUVNL – A Mirage

APL’s attempt to cancel cumulative 2GW PPA with GUVNL from its Mundra I,

II and III projects has been set aside by GERC and APTEL. APL is

contemplating filing a petition in the Supreme Court. However, we believe that

even if APL is allowed to cancel these PPA and it later signs a PPA as per

CERC norms, it would not be make a major difference to our estimates

because it would add only Rs 4/share to our TP of Rs 62.

APL’s attempt to cancel the 2GW PPA with GUVNL has failed because:

i. Supply of coal from GMDC’s coal blocks was not a condition precedent,, to enable

revision/cancellation of the PPA between APL and GUVNL

ii. Based on the Annual Reports and prospectus filed with SEBI, we surmise that the fact

sheet filed during the case-I bidding contradicts the disclosures related to coal

availability and execution of PPA.

Exhibit 10: Incremental PAT if PPA with GUVNL gets cancelled

Rs in mn FY13E FY14E FY15E

Units sold on PPA basis for Mundra I & II (MU) 5,322 5,676 5,676

Unit sale price (Rs/kWh) 2.89 2.89 2.89

Unit sale price desired as per CERC norms (Rs/kWh) 2.72 2.65 2.54

Revenue Surplus/(Gap) for Mundra I & II (A) (0.17) (0.24) (0.35)

Units sold on PPA basis for Mundra III (MU) 5,322 5,676 5,676

Unit sale price (Rs/kWh) 2.35 2.35 2.35

Unit sale price desired as per CERC norms (Rs/kWh) 3.03 2.84 2.73

Revenue Surplus/(Gap) for Mundra III (B) 0.68 0.49 0.38

Revenue Gap (A) + (B) 0.51 0.25 0.03

Net Incremental earnings before tax impact 5,446 2,859 374

Net Incremental earnings after tax impact - For DCF valuation 4,357 2,287 299

In a scenario of

cancellation of 2GW PPA

with GUVNL, our base

case target price would

increase by Rs 4/share to

Rs 66.


IFIN Research 7

Concerns on unfavorable changes to mining laws in Indonesia

APL will likely source its entire requirement of imported coal from Indonesia,

which exposes it to regulatory risks emanating from potential unfavourable

changes in mining policies in Indonesia. Recent steps of minimum export

price set by Indonesia and a possible introduction of export tax at 25-50%

would dent APL’s earnings. We believe that although Adani Enterprises

Limited (AEL) would continue subsidizing APL at US$36/ton as part of its

contracts for 19% of its requirement and shield APL from export tax (if

introduced), APL’s exposure to spot market prices would continue.

PT Adani Global, a wholly-owned subsidiary of AEL, has entered into agreements to

exclusively mine coal in Bunyu Island, Indonesia. For Mundra power projects, AEL proposes

to procure coal from these mines in Indonesia. We note that although there are risks

attached to landed cost of coal, APL has a contractual agreement with AEL to procure coal

at US$36/ton and hence cost-related risks for APL are limited.

Exhibit 11: Sensitivity to spot coal prices

Coal price (US$/ton)

62.34537 45 60 75 90 105 120

45 124 104 83 63 43 22

46 124 103 83 63 42 22

47 124 103 83 63 42 22

48 124 103 83 62 42 22

49 123 103 83 62 42 21

50 123 103 82 62 42 21

Unfavourable changes in

mining policies in

Indonesia pose regulatory

risks.

We believe that although

AEL would continue

subsidizing APL at

US$36/ton as part of its

contracts for 19% of its

requirement and shield

APL from export tax (if

introduced), APL’s

exposure to spot market

prices would continue.

INR/USD


IFIN Research 8

Earnings to remain volatile to spot market movements:

On commissioning of 8.4GW capacity in FY14E, APL’s business model would

be exposed to the spot market up to 28% for coal and 38% for merchant sales.

Merchant sales are revenue accretive and to an extent would mute the under-

recovery of fixed costs on PPA sales; however, the share of merchant sales in

total sales is declining. We believe spot prices for coal would remain firm;

however, a 20% decline in coal prices to US$72/ton would increase our TP by

40% to Rs 87. Similarly, a decline in merchant sales price by Rs 0.5/kWh to Rs

4/kWh would reduce our target price by 23% to Rs 48.

Exhibit 12: Sales mix


APL’s business model is geared to provide revenue accretion through merchant/pre-PPA

sales until FY14E. The share of merchant/pre-PPA sales would decline from 52% in FY12E

to 35% in FY13E, 38% in FY14E and 23% in FY15E.

Exhibit 13: Fuel mix


76%

48%

65% 62%

77%

24%

52%

35% 38%

23%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

FY11 FY12E FY13E FY14E FY15E

Long term Merchant Sale

62%

34%

26%

18%

30%24%

28%

40%

8%

42%46%

42%

0%

10%

20%

30%

40%

50%

60%

70%

FY12E FY13E FY14E FY15E

Import on AEL contract Spot Market Linkage

Merchant/pre-PPA sale

are revenue accretive and

to an extent mute the

under-recovery of fixed

costs on PPA sales.

Limited exposure to

chronically weak SEBs

Share of pre-PPA

/merchant sales is on a

decline whereas the share

of imported coal

purchase on spot market

is on a rise, which adds to

the cost pressure

subsumed.


IFIN Research 9

Exhibit 14: Sensitivity on spot merchant power rates

We believe aggressive case-I bidding by APL for 77% of its projects (6.5GW) entailing fixed

levelised tariffs ranging of Rs 2.4–2.9/kWh, exposes the company to high coal prices and

under-recovery of fixed costs as per CERC norms. We see a revenue gap as per CERC

norms of Rs 5.8bn in FY14E and Rs 13.5bn in FY15E based on 1) levelised tariffs for its

PPA; 2) spot merchant rate of Rs 4.5/kWh; 3) spot coal price of US$ 90/MT; 4) average PLF

of 75-80%; 5) USD/INR assumed at Rs48/USD in FY12E, Rs 47/USD in FY13E and

Rs45/USD in FY14E; and 6) coal sourcing and prices factored in at i) 19% with AEL at

US$45/MT; ii) 35% on spot at US$90/MT and iii) 46% on domestic coal linkage at Rs 2200 –

Rs 2500/MT.

Earnings to peak in FY13E and be unsteady from there on:

The share of merchant/pre-PPA sales would decline from 52% in FY12E to 45% in FY13E

and further to 38% in FY14E and to 23% in FY15E, which will increase under-recovery of

fixed costs. With increase in interest cost (57% CAGR over FY12 to FY15), PAT will mirror a

decline to Rs 9.7bn in FY14E (-23% YoY) and to Rs 5.8 bn in FY15E (–40% YoY).

Exhibit 15: Earnings under pressure with fall in merchant sales and increase in costs


76%

48%

65% 62%77%

24%

52%

35% 38%23%

0%

20%

40%

60%

80%

100%

120%

-

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

1.8

2.0

FY11 FY12E FY13E FY14E FY15E

(Rs)

Long term Merchant Sale EBITDA/unit sold

Interest cost/unit sold Depreciation/unit sold PAT/unit sold

Coal price (US$/ton)

45 60 75 90 105 120

2.5 64 44 24 3 (17) (38)

3.0 79 59 38 18 (2) (23)

3.5 94 74 53 33 12 (8)

4.0 109 88 68 48 27 7

4.5 124 103 83 62 42 22

5.0 138 118 98 77 57 36

We believe spot prices for

coal would remain firm;

however, a 20% decline in

coal prices to US$72/ton

would increase our TP by

40% to Rs 87. Similarly, a

decline in merchant sales

price by Rs 0.5/kWh to Rs

4/kWh would reduce our

target price by 23% to Rs

48

Earning cycle to peak in

FY13E and be unsteady

thereon with consequent

decline in merchant sales

Merchant Power Rate

(Rs/kWh)


IFIN Research 10

Business model lacks operating leverage:

With 1) increase in exposure to PPA sales; 2) aggressive case-I tariff; 3) cost

pressure being subsumed; and 4) exposure to fuel price risks, APL’s

business model lacks operating leverage to recover fixed costs (including

normative RoE of 15.5% as per CERC norms on net equity infused in the

business). Core and normative RoE would peak in FY13E with peaking in

merchant sales and would wobble from there on.

Exhibit 16: IFIN estimate for efficiency gains

Rs in bn FY10 FY11 FY12E FY13E FY14E FY15E

Net equity infused (A) 10 23 45 61 80 93

Core RoE 4% 22% 7% 20% 12% 6%

Normative RoE 4% 9% 3% 17% 12% 6%

Core RoE calculation for FY11 Rs in mn

Net Worth 62,874

(Less) Equity contribution in CWIP 39,905

(Less) Investments 100

Net Equity Infused (A) 22,869

Assumed RoE as per CERC norms @ 15.5% [(A) * 15.5%] (B) 3,545

APAT 5,136

(Less) Other Income post tax 144

Profit from business 4,992

(Less) RoE at 15.5% as per (B) above 3,545

Efficiency Gains (C) 1,447

Core RoE % [(C+B)/A] 22%

Over FY13E-15E, APL is estimated to incur total capex of ~Rs 232.5 bn at 37% (Rs88 bn)

on existing projects and 63% (Rs 145 bn) on pipeline projects of Dahej (2.6GW); Chindwara

(1.3GW) and Bhadresh (3.3GW); this would strain returns in the medium term as capex on

pipeline projects is expected to yield returns only from FY17E.


4%

22%

7%

20%

12%

6%

4%9%

3%

17%

12%

6%

0%

5%

10%

15%

20%

25%

FY

10

FY

11

FY

12E

FY

13E

FY

14E

FY

15E

Exhibit 17: Core RoE vs Normative RoE

Core RoE Nomative RoE

With 1) increase in

exposure to PPA sales; 2)

aggressive case-I tariff; 3)

cost pressure being

subsumed; and 4)

exposure to fuel price

risks, APL’s business

model lacks operating

leverage to recover fixed

costs (including

normative RoE of 15.5%

as per CERC norms on

net equity infused in the

business).

Core and normative RoE

would peak in FY13E with

peaking in merchant

sales and would wobble

from there on.


IFIN Research 11

Superior fund raising capability:

With an initial equity contribution to share capital at Rs 2.6bn during FY06-

FY07, APL has scaled up its net worth, excluding retained earnings, to Rs 56

bn (22x over five years). The increase in net worth (excluding retained

earnings) is attributable to 1) preferential issue of shares to 3i Power

Investments in FY08; 2) bonus issue in FY09 and 3) an Initial Public Offering

(IPO) in FY10. This low-cost capital helped APL finance equity contribution for

5.6GW capacity, ~2.1GW through private placement of shares and~3.5 GW

through gross proceeds of the IPO, while creating value for its promoters and

anchor investors.

Exhibit 18: Growth of net worth (excluding retained earnings) and derived price/share for Anchor Investor – 3i

Power Investments


Exhibit 19: Source of capital raised by APL

-

500

1,000

1,500

2,000

2,500

-

10

20

30

40

50

60

FY06 FY07 FY08 FY09 FY10 FY11

Cap + Premium (Rs bn) (LHS) O/S Equity shares (mn) (RHS)

Unitil FY07, AEL hadpumped Rs 2.6 bn

APL gets 3i Power Invs. toinvest Rs 9 bn, on issue ofequity and preference sharecapital.

Effective price/share: Rs 44.5

PSC held by 3i Power Inv isconverted into equity


Bonus declared of 1:1


IPO is issued at Rs 100

Rs in mn FY08 FY09 FY10 Total

Proceeds from Equity Shares 9,894 9,231 34,259 53,384

Proceeds from Pref. Shares 1,500 - - 1,500

Share application Money 810 - - 810

Total 12,203 9,231 34,259 55,694

% of total 22% 17% 62% 100%

APL has impressed with

superior fund raising

capability and creating

value for its promoters

and anchor investors

Over FY09-FY11, APL

shares have been

pledged as additional

cover for secured loans;

with implied share price

ranging from Rs 46 to Rs

277.


IFIN Research 12

Financial Analysis - Consolidated

Key profitability indicators

No

Source: Company, IFIN Research

Capital employed ratio / Coverage ratios


Leverage / Key Return Ratios


-

1

2

3

4

5

6


Exhibit 21: EPS CAGR of 24% (FY11-14E)

-

1.0

2.0

3.0

0%

20%

40%

60%

80%


Exhibit 20: Margins under pressure

EBITDA/unit sold (Rs) (RHS)EBITDA MarginsEBIT MarginPBT Margin

0

5

10

15

20

25

-

100

200

300

400

500


Rs in

bn

Rs in

bn

Exhibit 22: Capex vs Interest & Depreciation Flows

Fixed Assets in Rs bn. (LHS) Debt in Rs bn. (LHS)

Depreciation in Rs bn (RHS) Interest in Rs bn (RHS)

1.83.9 5.0 4.5 4.6

1.0 0.9

0.5

0.80 0.7

-

0.2

0.4

0.6

0.8

1.0

1.2

-

1.0

2.0

3.0

4.0

5.0

6.0


Exhibit 23: Coverage ratio on a decline

Debt Equity Ratio (LHS) Debt Service Coverage (RHS)

3.2

4.4

6.2

6.8 7.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0


Exhibit 24: Average Assets / Average Shareholders Funds (x) - Very High

0%

2%

4%

6%

8%

10%

12%

14%

16%

18%

20%


Exhibit 25: Return ratios to peak in FY13E

ROCE ROE ROA


IFIN Research 13

Valuation We value the annuity-like earnings model by discounting free cash flow to equity (FCFE)

over the forecast period. Accordingly, we arrive at our DCF-based target price of Rs 62 (P/B

of 1.7x FY13E and 1.6x FY14E).

Exhibit 26: DCF Assumptions

WACC Assumptions DCF Value

Risk free rate 8.5% Perpetual Growth 2.5%

Beta 1.0 PV of forecast period i.e. FY26E (Rs bn) 64

Risk Premium 5.0% PV of terminal value (Rs bn) 72

Cost of Equity 13.5% Equity Value (Rs bn) 136

Debt : Equity 0.8 EBIT CAGR (FY11-26E) 10%

Discounting Rate 13.5% Per share (Rs.) 62

Exhibit 27: 1 year forward PB (x) band (trading at 44% discount to average P/B(x) of 3.6x)

Exhibit 28: 1 year forward PE (x) band (trading at 80% discount to average P/E(x) of 60x)


1x

2x

3x

4x

0

20

40

60

80

100

120

140

160

Se

p-0

9

Nov-0

9

Jan-1

0

Mar-

10

May-1

0

Jul-10

Se

p-1

0

Nov-1

0

Jan-1

1

Mar-

11

May-1

1

Jul-11

Se

p-1

1

Nov-1

1

Jan-1

2

Mar-

12

(Rs)

Share Price 1x BV 2x BV 3x BV 4x BV

4.9

3.6

1.8

0.0

1.0

2.0

3.0

4.0

5.0

6.0

Sep-0

9

Nov-0

9

Ja

n-1

0

Mar-

10

May-1

0

Jul-10

Sep-1

0

Nov-1

0

Ja

n-1

1

Mar-

11

May-1

1

Jul-11

Sep-1

1

Nov-1

1

Ja

n-1

2

Mar-

12

PB

(x)

P/BV Peak P/BV Average P/BV Trough P/BV

4x

8x

12x

16x

0

50

100

150

200

250

Sep-0

9

Nov-0

9

Jan-1

0

Mar-

10

May-1

0

Jul-10

Sep-1

0

Nov-1

0

Jan-1

1

Mar-

11

May-1

1

Jul-11

Sep-1

1

Nov-1

1

Jan-1

2

Mar-

12

(Rs)

Share Price 4 PE 8 PE 12 PE 16 PE

121.0

60.1

11.60

20

40

60

80

100

120

140

Sep-0

9

Nov-0

9

Jan-1

0

Mar-

10

May-1

0

Jul-10

Sep-1

0

Nov-1

0

Jan-1

1

Mar-

11

May-1

1

Jul-11

Sep-1

1

Nov-1

1

Jan-1

2

Mar-

12

PE

(x)

PE Peak PE Average PE Trough PE

At our target price of Rs

62, APL would trade at

P/Bx of 1.7x FY13E and

1.6x FY14E


IFIN Research 14

Sensitivity to various parameters Our bull-case scenario gives us a target price of Rs123/share for APL (98% potential

upside from our base case). Our bear-case scenario gives a target price of Rs23/share

for APL (63% potential downside from our base case).

Potential upside to our base-case value (Rs62/share) for APL

i. PPA of 2GW with GUVNL gets cancelled and/or APL’s tariff matches CERC norms,

presenting Rs 4/share upside. GERC and APTEL have rejected APL’s plea for

cancellation of PPA and APL is contemplating filing a petition in the Supreme Court.

ii. Zero MAT liability on Mundra project would lead to Rs13/share upside to our base-

case value. APL has challenged the imposition of MAT through an amendment to the

Finance Act, 2011. The case is being heard in the Gujarat High Court.

iii. Merchant tariff assumptions at Rs 5/kWh vs. Rs 4.5/kWh currently assumed: Rs

15/share upside

iv. Domestic coal linkage for Kawai at 60% of the total requirement vs. 100% imports

currently assumed by us would lead to Rs29/share upside to our base case value. APL

has applied for coal linkage but the progress has been slow.

Potential downside to our base-case value (Rs62/share) for APL

i. Stake in Tiroda (3.3GW), which is currently at 74%, is increased to 100%. APL has

already passed a board resolution to increase stake to 100%: Rs16/share downside

ii. Merchant tariff assumptions at Rs 4/kWh vs. Rs 4.5/kWh currently assumed: Rs

14/share downside

iii. APL has applied for Coal linkage for Tiroda expansion (1.3GW). We believe MoC is

contemplating an alternative coal mine and are optimistic and assume that APL would

get linkage for 60% for Tiroda expansion (1.3GW) project. Any adverse development

would mean a downside of Rs9/share.

(Rs)

Exhibit 29: Sensitivity to various parameters


IFIN Research 15

Financials – Consolidated

Income Statement (Rs Million) Balance Sheet (Rs Million)

Y/E March FY11 FY12E FY13E FY14E Y/E March FY11 FY12E FY13E FY14E

Net Sales 21,064 42,563 93,794 124,322 Share Capital 21,800 21,800 21,800 21,800

Sales Growth (%) 384% 102% 120% 33% Reserves 41,074 43,275 55,604 65,308

Purchases/Raw Material Consumed

7,213 22,204 48,094 66,142 Net Worth 62,874 65,075 77,404 87,108

Personnel cost 322 638 1,407 1,865 Debt 245,027 324,522 349,099 396,839

Other opex 1,608 3,773 8,916 9,172 Total Current Liabilities 41,986 49,674 108,323 137,998

EBITDA 12,208 16,235 35,664 47,432 Total Equity & Liabilities 349,887 439,272 534,826 621,945

EBITDA (%) 58% 38% 38% 38% Net Block 87,472 234,388 293,577 398,833

Depreciation 1,886 5,584 9,339 12,884 CWP 199,527 102,078 82,698 35,442

Other Income 180 (1,231) 307 307 Investments 100 - - -

Tax 3,000 550 3,082 2,426 Current Assets

Tax Rate (%) 37% 20% 20% 20% Debtors 4,174 10,641 20,635 24,864

Adjusted PAT 5,136 2,201 12,329 9,704 Cash & Bank Balance 12,551 21,510 32,828 26,978

Extraordinary Items - - - - Loans and Advances 39,706 55,332 71,323 91,072

Reported PAT 5,136 2,201 12,329 9,704 Other Current Assets 6,356 15,323 33,766 44,756

PAT Growth (%) 202% -57% 460% -21% Total Assets 349,886 439,271 534,826 621,945

Source: Company IFIN Research


Ratios Cash Flow Statement (Rs million)

Y/E March FY11 FY12E FY13E FY14E Y/E March FY11 FY12E FY13E FY14E

EPS (Rs) 2.4 1.0 5.7 4.5 Consolidated PAT 5,136 2,201 12,329 9,704

CEPS (Rs) 3.2 3.6 9.9 10.4 Depreciation 2,133 5,584 9,339 12,884

BV (Rs.) 28.8 29.9 35.5 40.0 Change in deferred taxes/Provisions

3,000 (3,120) - -

DPS - - - - Cash Flow from Operation

10,269 4,665 21,668 22,587

Debt/Equity (x) 3.9 5.0 4.5 4.6 Inc/(Dec) in WC (2,244) (14,588) 14,221 (5,294)

Leverage (x) 4.4 6.2 6.8 7.0 Operating Cash Flow 8,025 (9,923) 35,889 17,293

Valuation (x)

Capex (150,946) (55,051) (49,147) (70,884)

P/E 29.7 69.3 12.4 15.7 Free Cash Flow (142,922) (64,974) (13,258) (53,591)

EV/EBITDA 31.5 28.1 13.1 11.0 Equity Raised 0 - - -

EV/Sales 18.3 10.7 5.0 4.2 Debt Raised/Repaid 139,322 79,495 24,577 47,740

Price/Book Value 2.4 2.3 2.0 1.8 Investment (100) 100 - -

Profitability Ratio (%)

Dividend Paid - - - -

RoE 8.5 3.4 17.3 11.8 Others (4,597) 5,662 - -

RoCE 4.4 2.7 6.5 7.7 Net Cash Flow 897 8,959 11,318 (5,851)

Turnover Ratios

Opening Cash Bal. 11,654 12,551 21,510 32,828

Debtors (Days) 72.3 91.3 80.3 73.0 Add: Net Cash 897 8,959 11,318 (5,851)

Fixed Asset Turnover (x) 0.1 0.1 0.3 0.3 Closing Cash Bal. 12,551 21,510 32,828 26,978




IFIN Research 16

Annexure 1: Tariff Overview at different PLFs

Exhibit 31: Average revenue gap over the project life (25 years)

Rs/kwh Mundra I & II Mundra III Mundra IV Tiroda I & II Tiroda III Kawai

Average Fixed Costs

At 75% PLF 0.98 1.36 1.47 1.21 1.44 1.47

At 80% PLF 0.92 1.28 1.37 1.13 1.35 1.38

At 85% PLF 0.86 1.20 1.29 1.07 1.27 1.30

At 90% PLF 0.82 1.14 1.22 1.01 1.20 1.22

Average Tariffs

At 75% PLF 2.56 2.75 3.32 2.76 3.23 3.97

At 80% PLF 2.50 2.66 3.23 2.68 3.14 3.88

At 85% PLF 2.45 2.59 3.15 2.62 3.06 3.80

At 90% PLF 2.40 2.52 3.07 2.56 2.99 3.73

Applicable Tariffs 2.89 2.35 2.90 2.68 3.28 3.24

Revenue Gap

At 75% PLF 0.33 (0.40) (0.42) (0.08) 0.05 (0.73)

At 80% PLF 0.39 (0.31) (0.33) (0.00) 0.14 (0.64)

At 85% PLF 0.44 (0.24) (0.25) 0.06 0.22 (0.56)

At 90% PLF 0.49 (0.17) (0.17) 0.12 0.29 (0.49)

Source: IFIN Research

Annexure 2: Overhang of contingent liabiities

According to APL’s FY11 annual report, contingent liabilities (detailed below) form 288% of its net worth and hence any

materialisation of contingent liability would erode net worth.

Exhibit 32: Contingent Liabilities

Contingent Liabilities (Rs in bn) FY11 FY10

Guarantees issued by the Group’s bankers 17.9 17.7

Letter of credit provided by banks 23.8 27.7

Bonds submitted to Development Commissioner 38.6 37.7

Bonds submitted to Commissioner of Customs 81.3 31.2

Bonds submitted to Dy. Commissioner of Customs 0.5 0.5

Corporate guarantee issued to banks 4.5 -

Total 166.5 114.8

Exposure based on FY11 net worth 288% 183%

Source: Company


IFIN Research 17

Notes :


IFIN Research 18

Disclaimer

I-Fin Disclaimer:

All information/opinion contained/expressed herein above by I-Fin has been based upon information available to the public and the sources, we believe,

to be reliable, but we do not make any representation or warranty as to its accuracy, completeness or correctness. Neither I-Fin nor any of its employees

shall be in any way responsible for the contents. Opinions expressed are subject to change without notice. This document does not have regard to the

specific investment objectives, financial situation and the particular needs of any specific person who may receive this document. This document is for

the information of the addressees only and is not to be taken in substitution for the exercise of judgement by the addressees. All information contained

herein above must be construed solely as statements of opinion of I-Fin at a particular point of time based on the information as mentioned above and I-

Fin shall not be liable for any losses incurred by users from any use of this publication or its contents.

Analyst declaration:

I, Sachin Mehta, hereby certify that the views expressed in this report are purely my views taken in an unbiased manner out of information available to

the public and believing it to be reliable. No part of my compensation is or was or in future will be linked to specific view/s or recommendation(s)

expressed by me in this research report. All the views expressed herewith are my personal views on all the aspects covered in this report.

I-Fin Investment Rating:

The ratings below have been prescribed on a potential returns basis with a timeline of up to 12 months. At times, the same may fall out of the price

range due to market price movements and/or volatility in the short term. The same shall be reviewed from time to time by I-Fin. The addressee(s)

decision to buy or sell a security should be based upon his/her personal investment objectives and should be made only after evaluating the stocks’

expected performance and associated risks.

Key ratings:

Rating LARGE CAP MID CAP

Market Cap >= Rs 100 bn Market Cap < Rs 100 bn

BUY (B) > 15% > 25%

Hold (H) 5-15% 10-25%

SELL (S) < 5% < 8%

Not Rated (NR) Not initiated coverage on the stock

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16 April 2012 Adani Power Adani Power )^(1/ Power (SELL... · Adani Power Sensex Sachin Mehta +91-22-43335134 [email protected] AGGRESSION HURTS ROE Adani Power (APL) is poised

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