Truant SEBs lower NTPC ops; need more subsidies: IIFL

State electricity boards' (SEBs) reluctance to pay anything more than Rs 4.50 per unit has forced NTPC to operate at low PLF (plant load factor) levels, says Harshavardhan Dole of IIFL in an interview to CNBC-TV18.

"The availability of cheap fuel is key to improving the PLF and state-governments need to extend more cash subsidies to SEBs," he adds.

Dole expects an increase in cash subsidies offered by state-governments in the summer season and advises investors to buy NHPC (National Hydroelectric Power Corporation) after the stock's recent correction. The senior analyst also calls for the monitoring of cash subsidies to SEBs by state-governments.

Below is an edited transcript of the analysis on CNBC-TV18

Q: There is a talk about Punjab and Madhya Pradesh not wanting to be part of the bailout package. Who will be the affected parties?

A: Structurally all the new developers who have not signed any long-term power purchase agreements (PPA) for their upcoming units will be adversely affected by the distribution company’s decision not to purchase power from the spot market beyond a threshold limit of Rs 3.5-4 per unit. What is critical from next 12-24 months perspective from the generators perspective is two things one, how soon the new Case 1 bidding guidelines are brought by the ministry of power and how soon these are implemented.

Secondly, from coal or stroke fuel availability perspective what are the key measures which are initiated by the policymakers so as to ensure that the plant load factor (PLF) of the newly commissioned plants are in a reasonable region of around 65-70 percent.

Q: Who are the affected power companies that have power but have no buyers?

A: Today we have released a note as to how the fuel shortage and inaction by the state electricity boards (SEB) has affected the power developers. To give a name, for example National Thermal Power Corporation (NTPC) is today operating its gas-based power plant at a PLF of 33 percent and it is not because there is no gas within the system or essentially there is no power appetite, it is largely because the SEBs are just unwilling to off take power which is more than Rs 4-4.5 a unit.

There are several gas-based utilities in down south which are actually virtually stranded. There are coal projects if I were to name a few Reliance Power, Lanco Infratech or even projects of Adani, these are not operating largely because there is no appetite for expensive power from the state utilities. Even NTPC has been facing decent amount of back down from the SEBs in the recent past.

Q: What could break this deadlock? What could make the SEBs decide to take a little more off take a higher price and at current reckoning or perhaps if this situation continues what would be the impact on the likes of an NTPC or Reliance Power which are already operating at such low PLFs?

A: I think what can resolve this deadlock is essentially availability of cheap fuel. Certainly there is an appetite for power within the system. It is a matter of question at what price is the demand emerging within the system. If there is a generator who can supply power at less than Rs 3-3.5 a unit, I think there is enough appetite.

Secondly, if the state governments decide to extent more cash subsidy to the distribution companies which typically happens during the election period, the appetite to buy reasonably expensive power will certainly go up. What we have also seen is during the time when the agri demand pumps up, the state governments tend to extend more cash subsidy to the distribution companies to purchase power from the spot market. So availability of fuel is certainly a key thing to watch out in the long-term, but in the short to medium-term the cash subsidy extended by the state governments is something that one would have to constantly monitor.

Q: Aren't there higher chances that come summer more state governments will be willing to give more subsidies to their power companies? The discoms may perhaps hold out during the winter months, but maybe approaching June many of them will fall in line you think?

A: That is what we have observed over the last three to four years. The spot power rates in India follow very seasonal trend. They tend to be lower during the winter season and they tend to catch up during the summer times when because of the seasonal effect the temperature gradient goes up. So I will not be surprised in the summer the cash subsidy extended by the state government goes up and the spot trades inch up towards Rs 5 mark.

Q: What is the impact on Rural Electrification Corporation (REC) and Power Finance Corporation (PFC) because of all this? These are two stocks which have been down close to about 3-4 percent odd for two days in a row now?

A: I would attribute the weakness in the stock prices to essentially the news which was circulating yesterday in the newspapers that the pooling of coal price is being restricted only to the capacity which is essentially post-2009. If that was the case essentially the pooling mechanism will get extended by at least a couple of months and the price increases that the end level utilities would need to take will be much more than what the Street had been estimating earlier. So essentially I would attribute sell down in these stocks partly to such news flows and partly to the general speculation that goes on within the sector.

Q: What is your take on Reliance Power?

A: At the current market price the stock trades below its book value. So certainly the valuations do not build in optionality, but for a reasonable or a sustainable rerating from hereon the company would have to deliver in terms of execution from their key power plants. One is of course Sasan. The street is already pricing in cash flows essentially coming through well from Sasan.

There is a reasonable amount of nervousness which is built in right now because of standard asset possibility in the cases like Samalkot, but if the company can get its act together and step up the execution at Sasan, give a visibility for another 4,000 MW adjacent to Sasan which is called Chitrangi Independent Power Project (IPP) then I think there is a reasonable headroom available from hereon, but for a sustainable rerating the execution is pre-requisite.

Q: What do you have a buy on at all in your sector?

A: We have a very few stocks where we have a sell in the sector. To begin with after the recent correction National Hydroelectric Power Corporation (NHPC) offers a very good buying opportunity for long-term investors. It offers a dividend yield which is closer to about 4-4.5 percent and that is within the PSU pack. We also like Power Grid. Within the private sector we are strongly recommending Tata Power. That remains our top pick and with a two year view risk reward is fairly comfortable for a long-term investor.

Q: How would you approach Tata Power? A few people are getting a bit nervous saying that Central Electricity Regulatory Commission (CERC) hearing may not come through anytime soon as a result of which that uncertainty or overhang will continue to remain on Tata Power. Even if the decision came in their favour it could be taken to a higher court. So litigation could continue. There is a lot of cash gap if they do not get to increase their tariffs. 

A: Certainly. That is the reason why the stock is trading in the region of around Rs 95-105. I do not think that the Street is building in possible upside which I am sure will come over a period of next 12-15 months, not over the next 12-15 days.

The hypothesis remains pretty simple. No asset can remain operational if it for a protracted period of time gives a return which is lower than cost of equity or cost of capital for a very extended period of time and given the fact that even after renegotiations the tariff will be far reasonable then what most of the other utilities are currently offering now, chances of the utilities bilaterally negotiating within themselves is far higher over the next 12-15 months than if one takes a really short-term view.

So I would not disagree that this nervousness will reflect in the stock price in the near-term but I think with the two year view the risk reward is certainly in favour.