CESC Ltd
Current Price: Rs. 300 Target Price: Rs. 415 BUY
BUSINESS OVERVIEW
CESC Ltd (CESLTD) is an RPG Group company. It was commissioned in 1899 and since then the company has been offering power to consumers in its Kolkata license area which has expanded from 5.64 sq miles to 567 sq km over the years. The number of consumers has grown from 6,000 to 2.1 mn over time. CESC has total installed capacity of 1,225 MW from four generating units at Budge Budge (750 MW), Southern (135 MW), Titagarh (240 MW) and New Cossipore (100 MW).
INVESTMENT THEME
• India’s per capita consumption of electricity, at ~600 KWh, is much lower than other large economies. With strong growth projected for the economy, the per capita consumption is likely to increase significantly, keeping demand strong over the long term.
• India is projected to have power generation capacity of ~750 GW by 2030, ~5x the current capacity, which is expected to be the third highest globally. The macro story of the power sector implies high growth, long-term visibility and sustainable returns. This, together with the demand-supply gap (~16% peak deficit), has been positive and attracting investments into the power sector.
• CESC has a huge expansion plan and intends to increase its capacity to more than 1,825 MW in its license area. The company has been allotted 110 MT of coal block using which it plans setup a power plant. CESC is also seeking growth opportunities in other parts of India in the power space by developing 600 MW power plant in Maharashtra and is also looking at opportunities to develop ~3,000 MW in Bihar, Jharkhand and Orissa.
• The recent discussion paper on FDI in retail is a step in the right direction if it is implemented. With the CESC management keen on selling stake in Spencer’s Retail, GoI’s move, along with improvement in its operational and financial performance, augurs well for the retail business. Spencers Retail’s (Spencers) financial performance has been steadily increasing, reporting a positive store EBITDA/sq ft in June. Revenues/sq ft has improved ~50% Y-o-Y to Rs. 1,100. Current losses have a run rate of Rs. 130 mn/month compared to ~ Rs. 180 mn/month in Q2FY10.
• Looking at envisaged high growth of the power sector, government’s thrust on developing infrastructure, long-term visibility and sustainable returns make the sector an attractive investment option. We are positive on the long term outlook of the stock.
INVESTMENT RISKS
• Our earnings estimates assume incentives on account of PLF and other normative parameters under regulatory norm; if the company fails to earn the same, then RoE would be lower and, hence, impact valuations.
• Escalation in project costs, delay in commissioning of generation projects, and long gestation periods could impact profitability, if delays are not compensated through tariffs.
• We have factored Rs. 3 bn of cash outflow in Spencer’s over FY11 and FY12. However, equity infusion at a greater than anticipated level, due to higher losses, or due to delay in divestment, pose risk to our estimates.
OUTLOOK AND VALUATIONS
We expect consistent performance in CESC’s power business with increasing visibility on pipeline power projects leading to sustainable RoE of ~16%. Despite higher capex in the retail venture, CESC’s net cash at ~Rs. 12 bn (excluding regulated debt) is sufficient to fund the power project pipeline. With likely PE investment in the retail subsidiary, we expect surplus cash to be retained for expanding the power project portfolio, which could lead to further upsides and rerating. CESC is trading at attractive valuations based on FY11E and FY12E standalone earnings. On our FY11E and FY12E EPS estimate of Rs. 38.9 and Rs. 39.4, the stock is currently trading at a P/E of 9.3x and P/BV of 1.07x on FY11E basis and at a P/E of 9.1x and P/BV of 0.97x on FY12E basis. Given these attractive valuations, we believe the stock offers upside potential in the near term.
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