Directionally, with the improvement in the transmission infrastructure, evacuation facilities and growth in power demand, exchanges would have a higher share. And IEX which has a market share of close to 97 percent would be one big beneficiary of this growth.
Highlights:- Policy support to push higher exchange volumes in the future
- Strong growth in volumes led by demand ahead of elections and recovery in manufacturing activities
- A strong moat around the business supported by the highest market share, and entry barrier- Scalable business with extremely low capital requirements, generating free cash flow, zero debt and good return ratios
In a recent development, CERC issued an order to link DSM (Deviation Settlement Mechanism), which is often below the market price, to exchange price. This is a big positive move for India’s largest power trading exchange Indian Energy Exchange (IEX). The company’s management believes this initiative will cause close to 50 percent of the DSM volumes to shift to exchanges over the next one or two years.
Currently, about 4 percent of the total power generated is traded through the energy exchanges, which has consistently improved from a mere 1 percent market share in the year 2010. Directionally, with the improvement in the transmission infrastructure, evacuation facilities and growth in power demand, exchanges would have a higher share. And IEX which has a market share of close to 97 percent would be one big beneficiary of this growth.
Pick-up in demand
Besides the policy push, it is worth noting that IEX has seen improvement in its core business over the last few months led by a spurt in power demand and increase in power tariffs.
In October this year, all India power demand increased by 10 percent on a year-on-year (YoY) basis and power tariffs jumped to as high as Rs 11.9 per unit in the Southern market and about Rs 5-6 per unit in rest of India. While this may not be structural, the overall trend is still positive and thus will benefit IEX.
During the quarter ended September 2018, the company posted a robust 35 percent YoY increase in total volumes to 12,800 million units. This also pushed the overall revenues by 23 percent YoY to Rs 61.1 crore. And because typically the fixed cost remains flat irrespective of the jump in sales, net profits jumped by 31 percent to Rs 32.7 crore
Valuations and outlook
Management has guided that the growth would continue on the back of focus on rural electrification, power for all and additional demand led by elections next year. We are expecting an earnings growth of about 20 percent over the next two years. At the current market price of Rs 156 per share, the stock is trading 24 times its FY20 estimated earnings. This may appear to be expensive. But considering the company generates strong free cash flows, good return on equity (about 50 percent) and hold immense long-term potential for growth, valuation looks justified.Moneycontrol Research page