Defensive growth story remains intact
Hedged play on India’s IPP
capacity pipeline; visibility on
sustained mid-teen EPS growth
Action: Reiterate BUY; add on recent price correction
In our view, the 13% stock price correction over the past three months,
during which PWGR has underperformed peers, on risk to earnings from
low capitalisation and receivables build-up, is overdone. We believe that
the recent slippages will be made up in 2HFY12 and that the capitalisation
level will be sustained thereafter as the new top management takes
charge. Reiterate BUY and TP of INR120, implying 24% upside potential.
Highly visible mid-teens EPS growth, RoE to inch higher
Based on its INR900bn-plus project pipeline, we expect an FY11-17F EPS
CAGR of 15.5%. We expect effective RoE on transmission assets at 16-
17%; the shrinking portion of non-operating assets should raise overall
RoE.
Catalyst: Capitalisation in FY12 could surprise positively
Although the capitalisation rate rose to 36% in FY11 (up from 22% in
FY10), tepid capitalisation over the past six months has raised concern
about management meeting its FY12 target of INR90bn. We believe the
FY12 target capitalisation can be achieved; it may even surprise
positively. Longer term, sustainability of the capitalisation rate within 30-
40% even with higher capex should be a stock price driver.
Valuations: Reasonably benign, but below long-term averages
Although earnings prospects remain largely intact, at ~13x PE and 1.8x
P/BV, one-year forward rolling multiples are 20-25% below long-term
averages. In view of fuel security risk and regulatory uncertainty for IPPs
(including NTPC), PWGR is our top pick in the power utilities space.
Highly visible mid-teen EPS growth
We expect a FY11-17F EPS CAGR of 15.5% on the back of (1) strong growth in capex
and capitalisation, (2) higher private participation in the generation capacity addition
pipeline, suggesting stricter adherence to commencement schedules and related
transmission asset capitalisation, (3) strong execution capability and track record, and
(4) constructive regulatory rulings on returns for delayed generation projects and high
capacity transmission corridors. In tandem, as the proportion of financial assets reduces
with the repayment of the OTSS bonds and a higher level of capex, we expect PWGR’s
RoE will nudge higher, to 16% by FY15F from 14.5% in FY11.
We expect the ‘capitalisation rate’ to range between 30% and 40%
PWGR’s capitalisation rate in FY11 was 36.2% (up from 21.7% in FY10). Based on our
periodic discussions with management, we understand that the bulk of the slippage in
capitalisation over the past two quarters is attributable to procedural delays in completing
certain projects. In our view, the slippage will likely be recouped in 2HFY12 and overall
capitalisation in FY12 will be close to INR90bn (in line with management’s long-stated
target for this year), if not more. Longer term, together with high capex, we expect the
capitalisation rate to range between 30% and 40% – translating into a sustained midteen
YoY growth rate for core earnings.
Projects with an aggregate outlay of over INR900bn are under way
Based on the status of ongoing projects available from PWGR, we infer that projects with
investment approvals aggregating over INR900bn are at various stages of
implementation. From our periodic discussions with management, we understand that
typically 30-35% of PWGR’s transmission projects under implementation are in ‘system
strengthening’; of the remaining ‘generation-linked’ projects, a large proportion of the
capex and build-out also pertains to ‘system strengthening’, thus the exposure to a
potential delay in any upcoming power project is mitigated to some extent, in our view.
Valuations look reasonably attractive at current levels
RI model-based TP of INR120 implies 24% potential upside
Our 12-month TP for PWGR is the sum of the value of its FY12F financial assets
(INR8/share) and the value of its operating assets using a residual income (RI) model
(INR112/share). Our RI model assumes a 12.5% cost of equity (5% equity risk premium,
8.5% risk-free rate, beta of 0.8x), 17% terminal RoE (150bp spread over assured posttax
RoE of 15.5% to account for incentives) and 2% perpetual growth in core-business
income. With regard to operating financial assets, we assume 30% of our forecast cash
& cash equivalents for the company in FY12F will be utilized in the core business.
Valuation multiples – stock trades below historical average
Based on our earnings forecast, the stock currently trades at a one-year forward PE and
P/B of ~13x and 1.8x respectively; 20-25% lower than the historical 3-year average.
Key risks to earnings / target price for the stock
– Lower-than-expected capitalisation of transmission assets due to execution delays
(scalability, vendor ramp-up, turnkey workforce) and/or impediments in securing rightof-
way (RoW) / forest clearance;
– Sharp push-back in generation capacity addition delaying capitalisation of related
transmission assets; and
– Overhang of any equity dilution in FY2014/15 if annual capex were to exceed our
forecast by 15-20%.
Hedged play on India’s IPP
capacity pipeline; visibility on
sustained mid-teen EPS growth
Action: Reiterate BUY; add on recent price correction
In our view, the 13% stock price correction over the past three months,
during which PWGR has underperformed peers, on risk to earnings from
low capitalisation and receivables build-up, is overdone. We believe that
the recent slippages will be made up in 2HFY12 and that the capitalisation
level will be sustained thereafter as the new top management takes
charge. Reiterate BUY and TP of INR120, implying 24% upside potential.
Highly visible mid-teens EPS growth, RoE to inch higher
Based on its INR900bn-plus project pipeline, we expect an FY11-17F EPS
CAGR of 15.5%. We expect effective RoE on transmission assets at 16-
17%; the shrinking portion of non-operating assets should raise overall
RoE.
Catalyst: Capitalisation in FY12 could surprise positively
Although the capitalisation rate rose to 36% in FY11 (up from 22% in
FY10), tepid capitalisation over the past six months has raised concern
about management meeting its FY12 target of INR90bn. We believe the
FY12 target capitalisation can be achieved; it may even surprise
positively. Longer term, sustainability of the capitalisation rate within 30-
40% even with higher capex should be a stock price driver.
Valuations: Reasonably benign, but below long-term averages
Although earnings prospects remain largely intact, at ~13x PE and 1.8x
P/BV, one-year forward rolling multiples are 20-25% below long-term
averages. In view of fuel security risk and regulatory uncertainty for IPPs
(including NTPC), PWGR is our top pick in the power utilities space.
Highly visible mid-teen EPS growth
We expect a FY11-17F EPS CAGR of 15.5% on the back of (1) strong growth in capex
and capitalisation, (2) higher private participation in the generation capacity addition
pipeline, suggesting stricter adherence to commencement schedules and related
transmission asset capitalisation, (3) strong execution capability and track record, and
(4) constructive regulatory rulings on returns for delayed generation projects and high
capacity transmission corridors. In tandem, as the proportion of financial assets reduces
with the repayment of the OTSS bonds and a higher level of capex, we expect PWGR’s
RoE will nudge higher, to 16% by FY15F from 14.5% in FY11.
We expect the ‘capitalisation rate’ to range between 30% and 40%
PWGR’s capitalisation rate in FY11 was 36.2% (up from 21.7% in FY10). Based on our
periodic discussions with management, we understand that the bulk of the slippage in
capitalisation over the past two quarters is attributable to procedural delays in completing
certain projects. In our view, the slippage will likely be recouped in 2HFY12 and overall
capitalisation in FY12 will be close to INR90bn (in line with management’s long-stated
target for this year), if not more. Longer term, together with high capex, we expect the
capitalisation rate to range between 30% and 40% – translating into a sustained midteen
YoY growth rate for core earnings.
Projects with an aggregate outlay of over INR900bn are under way
Based on the status of ongoing projects available from PWGR, we infer that projects with
investment approvals aggregating over INR900bn are at various stages of
implementation. From our periodic discussions with management, we understand that
typically 30-35% of PWGR’s transmission projects under implementation are in ‘system
strengthening’; of the remaining ‘generation-linked’ projects, a large proportion of the
capex and build-out also pertains to ‘system strengthening’, thus the exposure to a
potential delay in any upcoming power project is mitigated to some extent, in our view.
Valuations look reasonably attractive at current levels
RI model-based TP of INR120 implies 24% potential upside
Our 12-month TP for PWGR is the sum of the value of its FY12F financial assets
(INR8/share) and the value of its operating assets using a residual income (RI) model
(INR112/share). Our RI model assumes a 12.5% cost of equity (5% equity risk premium,
8.5% risk-free rate, beta of 0.8x), 17% terminal RoE (150bp spread over assured posttax
RoE of 15.5% to account for incentives) and 2% perpetual growth in core-business
income. With regard to operating financial assets, we assume 30% of our forecast cash
& cash equivalents for the company in FY12F will be utilized in the core business.
Valuation multiples – stock trades below historical average
Based on our earnings forecast, the stock currently trades at a one-year forward PE and
P/B of ~13x and 1.8x respectively; 20-25% lower than the historical 3-year average.
Key risks to earnings / target price for the stock
– Lower-than-expected capitalisation of transmission assets due to execution delays
(scalability, vendor ramp-up, turnkey workforce) and/or impediments in securing rightof-
way (RoW) / forest clearance;
– Sharp push-back in generation capacity addition delaying capitalisation of related
transmission assets; and
– Overhang of any equity dilution in FY2014/15 if annual capex were to exceed our
forecast by 15-20%.
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