Valuations of BHEL and NTPC may look reasonable but a look into their business models suggests that valuations may be on the higher side by a distance, according to Kotak Institutional Equities.
"BHEL and NTPC demonstrate the exuberance among investors and the disconnect between perception (sentiment or price) and reality (fundamentals or value)," Kotak's Sanjeev Prasad and his team wrote in a recent report.
In the case of NTPC, the analysts note that the narrative on the stock keeps changing depending on the market’s whims. First, the market was excited about its to-be-built renewable portfolio. Now, the market is excited about its to-be-built coal-based capacity.
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"There is no visibility on the former and market speculation only about the latter," said KIE.
NTPC is currently trading at 13.8x FY25 earnings per share estimate, while the firm believes it should not be more than 9x for its existing coal-based portfolio and how it has historically.
"NTPC’s current valuations imply that its earnings will grow in perpetuity and shareholders will get sufficient dividends. However, this assumption is quite questionable," says Kotak.
NTPC will either use current profits from coal-based generation capacity to put up sufficient renewable capacity over time, which means the company is unlikely to generate any free cash flow or distribute meaningful dividends for a long time, mentions the report.
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Or, it will continue with its coal-based portfolio or even add more leading to a situation where these assets may/will have no value after 2-3 decades leading to zero or negative terminal value of the business, it added.
In the case of BHEL, Kotak's calculations indicate that it would need to deliver BTG (boiler, turbine, generator) equipment corresponding to 18-26 GW annually. "The total profit potential of BHEL (undiscounted) is well below its current market capitalisation even at an assumed market share of 60 percent and 7.5 percent net margin," it said.
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