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Aiming big…Mr Anil Ambani, Chairman.

Raghuvir Srinivasan

Reliance Power’s IPO could be attractive for short-term investors seeking to flip the stock on listing and book returns, but not for long-term investors with a conservative risk profile. Given the tremendous interest generated in the market by this IPO, the stock could deliver handsome returns on listing or in the immediate period following that.

Long-term investors may, however, want to note that Reliance Power (RPL) is seeking to raise funds on promise alone; critical parts of most of the planned projects are yet to be tied up. The first generation capacity is expected to come on line two years from now in March 2010 and, again, that will be just 10 per cent of the total capacity that the company is planning to part-fund from this IPO proceeds.

Cash flows and business profits may be possible only from FY 2010-11 and, again, it will be but a trickle to start with. The real money will start flowing only when RPL brings on line its first ultra mega project at Sasan. As per the agreement with the government, the first unit of the Sasan project will be commissioned in mid-2013; it will not be before April 2016 that the entire 3,960 MW will be on stream.

A conservative investment approach will suggest that investors wait till the company nears the stage of profitability before an entry into the stock. In the meantime, there are also other power stocks that are profitable, cash-flow positive and dividend-paying, that can be considered for investment.

RPL plans to use the IPO proceeds to part-fund capacity adding up to about 7,000 MW through projects of different subsidiaries. All of these, save one (400 MW hydro), are coal-based stations including the 3,960 MW Sasan ultra mega project.

There are a further seven projects adding up to around 21,000 MW in the planning stage, including the 4,000 MW Krishnapatnam ultra mega project. This list consists of a mix of fuels such as gas and hydro. If all these projects are commissioned on schedule, RPL will be a 28,000 MW company in the next decade, about the same size of NTPC now. Of course, over the same period, the latter will have crossed the 50,000 MW mark assuming that its projects stay the course.

Of the four critical parameters — finance, fuel, equipment and market — there is cause for concern on at least three. Fuel security is paramount for a power project and, on this count, there is cause for worry. The Sasan ultra mega project offers the maximum security on this front with its captive coal mine but there is no such assurance for the Krishnapatnam project which will be run on imported coal. The uncertainty will remain till group company, Reliance Natural Resources (RNRL), ties up imported coal supplies especially because there is a lot of competition for global coal assets. Besides, there are other smaller sized coal-based capacities being planned.

There is also the much-delayed 7,480 MW Dadri gas-fired project that will run on gas supplied from the KG Basin by Reliance Industries. RPL has agreed with RNRL to arrange fuel for this project as well. The issues arising from the KG Basin supply dispute are yet to be settled. Till the final agreement is inked, there is uncertainty over the quantum of gas supply.

There is a major execution risk caused by shortage of equipment manufacturing capacity. This may be the biggest challenge for RPL as there is a long waiting period for equipment supply worldwide.

The company hopes to tie-up with Chinese suppliers or even take up equipment manufacturing on its own. But both options are fraught with uncertainty, especially given the extent of capacity being planned.

The estimated total project cost of the first six projects adding up to 7,000 MW is Rs 31,789 crore, of which Rs 22,835 crore will be funded through debt. The sheer size of the money that has to be raised as debt aside, the direction of interest rates will be critical because RPL is planning for some part of the capacities of its projects to be sold in the short-term market; there is also the likelihood of some projects being turned into merchant plants. Carrying high-cost debt will be a burden in an environment of competitive pricing.

The one factor that is encouraging is the big power deficit which suggests that there should be no problems on the demand front for RPL. Given the rapid economic growth, appetite for quality power will only grow, but the Sasan and Krishnapatnam ultra mega projects, where tariff is frozen for the entire 25-year period, could pose some problems for RPL.

It is impossible to accurately project fuel costs over such a long time-frame and the company could be risking margin pressure here as its tariff is fixed.

RPL is offering 22.80 crore shares in the price band of Rs 405-450 per share. Retail investors have the option of paying in instalments with Rs 115 per share being payable on application and the balance on allotment. The issue is lead-managed by Kotak Mahindra, UBS Securities and Enam, among others.

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