Powerful growth

Edelweiss Securities is very bullish on the power sector given the massive generation capacity expansion that has been planned.

Edelweiss Securities is very bullish on the power sector given the massive generation capacity expansion that has been planned.

Electric future
In the Eleventh Plan, India is expected to add about 59,659 MW of generation capacity. This is roughly three times the capacity addition in the Tenth Plan and greater than the overall capacity added in India during 1992–2007.

We estimate investment of about Rs 4,80,000 crore over 2008-12, equally divided between generation, and transmission and distribution (T&D). This sets the tone for the magnitude of expansion that is likely in the power sector over the long term. In the past few years, regulations in the power sector have been relaxed. Hence, returns have improved. In the power generation sector, we are graduating from a cost plus tariff mechanism to market-derived tariff. This, in turn, implies that efficient players will have marketdriven returns on equity (RoE).

Further, key measures and reforms such as one-time settlement of state electricity boards (SEBs) dues, unbundling of SEBs, power trading and soft norms for private participation have put the sector on a positive note. Leading players are moving towards superior technologies for enhanced efficiencies. Our top picks in the sector are Voltamp Transformers, Gujarat Industries Power Company (GIPCL), Crompton Greaves, and Apar Industries.

Voltamp Transformers: Lower contribution of revenues from SEBs results in lower working capital requirement for Voltamp. As working capital is one of the key investments in the transformer business, lower working capital improves the return ratios substantially. The stock trades at a P/E of 22 times and 17 times for 2007-8 and 2008-9, respectively. The company has return on capital employed of over 60%, driven by high asset turnover. We initiate coverage on the stock with a Buy recommendation.

GIPCL: GIPCL’s RoE of its core power business has improved from 5.5% in 2002-3 to 17% in 2006-7. This has been possible due to higher plant load factor, efficient plant utilisation, lower interest costs and efficiency gains. The stock is trading at 1.3 times 2008-9 estimated book value and 14.1 times 2008-9 estimated earnings per share (EPS). We recommend Buy.

Crompton Greaves: The company’s margins have consistently improved, backed by better pricing, improving operating metrics, and economies of scale. Parent operations continue to benefit from multilevel demand drivers. On consolidated 2008-9 estimated EPS of Rs 16.5, the stock trades at P/E of 25 times. We recommend Buy on the stock.

Apar Industries: We expect Apar’s revenues and earnings to grow at a CAGR of about 27% and 32% over the next two years. The stock trades at a P/E of 11 times and 9 times our consolidated EPS estimate of Rs 23 for 2007-8 and Rs 28 for 2008-9. The stock trades at a substantial discount to other stocks in the power T&D universe. We maintain Buy recommendation.