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Investors with a long-term perspective can buy the stock of NTPC, India’s largest power generating company. After a good run for most of calendar 2017, the stock has slipped about 9 per cent since November. This is due to two factors — the accident at the Unchahar plant in Uttar Pradesh and lower-than-expected December quarter performance.
The fall though has moderated the stock’s valuation and presents a good buying opportunity for long-term investors. At ₹170, the stock now trades at about 15 times its trailing twelve month earnings. While higher than the three-year average price-to-earnings of about 12.5 times, valuations are below peak levels seen last year and are expected to moderate with improvement in earnings.
NTPC should do well in the coming years, thanks to a few factors — healthy expected capacity additions and growth in demand for power due to various electrification schemes initiated by the government. It helps that unlike many private sector players, NTPC has a sound business.
It has long-term power purchase agreement (PPAs) with state distribution companies, fuel supply agreements with coal mining companies, a regulated assured return model with incentives for performance, and agreements that guarantee payments. All of these combine to provide comfort about the company’s operations and provide earnings visibility.
Sound business model
NTPC, a public sector Maharatna company, with installed capacity of 51,383 MW (5.13 GW) as on December 2017 is the largest power producer in India, accounting for about a quarter of the power generated in the country. About 85 per cent of the company’s capacity is from coal-based (thermal) plants.
The power produced at the thermal plants of NTPC is backed by long-term PPAs with state utilities which are its key customers. These PPAs are covered under the power regulator CERC’s two-part tariff structure that allows for recovery of fixed expenses and fixed return on equity (ROE) at 15.5 per cent. As equity increases with capacity additions, it also reflects in the company’s earnings. Besides, power generating companies such as NTPC get incentives based on it achieving minimum plant availability factor (85 per cent).
On the raw material front, NTPC has long-term coal supply agreements with coal companies and captive coal capacity for some of its plants. That said, spikes in power demand could result in shortage of coal supply, as seen in the recent December quarter. But such occurrences are few and far between.
Growth on the horizon
An increase in capacity and in power units generated results in incremental revenue and earnings for NTPC. Between FY13 and FY17, the installed capacity of the company on a consolidated basis grew at a compounded annual growth rate of 5.2 per cent to 50,498 MW. In FY17, the company added capacity of 3.8 GW. In the nine months ending December 2017, the company added another 885 MW on consolidated basis to take the total capacity to 51,383 MW. In the recent March 2018 quarter, NTPC commissioned the Lara unit 1 (800 MW) in Chhattisgarh and the Kudgi unit 3 (800 MW) in Karnataka.
Capacity addition is expected to pick pace over the coming years. One, the Meja unit (650 MW) in Uttar Pradesh that was targeted to be completed by March 2018 should be commissioned in FY 2019. NTPC has targeted capacity addition of 4.74 GW in FY19 and 5.95 GW in FY20. Better project execution in recent years and bunching up of projects in the coming years provide comfort to target achievement prospects.
According to reports, the 500 MW Unchahar plant that suffered a major accident in December is expected to be revived by FY 21. Besides, NTPC is reportedly looking to acquire stressed private sector independent power producers (IPPs).
Good financial prospects
Despite strong capacity addition and higher power generation that translated into revenue growth of about 12 per cent to about ₹82,080 crore in FY17, NTPC’s consolidated profit was nearly flat at ₹10,700 crore primarily due to higher employee expenses.
During the nine months ended December 2017 too, the company’s standalone earnings growth was in the lower single-digits. This was due to rise in employee expenses and lower financial incentives due to not meeting the minimum plant availability factor (PAF), a result of inadequate coal availability from Coal India to meet spike in demand.
Things should get better, going forward. One, employee expenses are expected to stabilise. Next, the company expects to meet the minimum PAF with improvement in supply of coal in March 2018 quarter; this can also recover some of the shortfall of the December 2017 quarter. More importantly, in the coming years, higher capacity addition and increase in units generated and sold should aid healthy growth in NTPC’s earnings. NTPC’s strong balance sheet with consolidated debt to equity of 1.13 times (as of March 2017) lends its enough financial muscle to fund its expansion plans.
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