PFC, REC shares: Why Bernstein sees 37-41% upside for two Maharatna PSU stocks

Bernstein on Tuesday maintained its 'Outperform' rating on Power Finance Corporation (PFC) and REC Ltd, even as it flagged slower growth and pressure from competition. The foreign brokerage said PFC was trading at 0.9 times trailing book value and suggested a target price of Rs 465, implying a potential upside of 37 per cent.

For REC, Bernstein said the stock was valued close to the merger ratio proposed by PFC. It suggested a target price of Rs 410 for REC, implying a potential upside of 41.2 per cent, while also noting that a move to 1 time book would require the growth story to change through new segments.

Value traps?
Bernstein said it had gone wrong on the loan book growth of both companies, and therefore on the stocks, after the upcycle in FY23-24, even though asset quality remained strong. It said both companies reported weak numbers, with one seeing a shrinking book and the other taking a big forex impact. It also said its discussions with renewable companies suggested banks were lending at 8 per cent for operating assets, and in some cases even for under-construction assets, creating stiff competition for PFC and REC.

Bernstein added that it had been waiting for an earnings call, but quarterly calls had stopped after the merger announcement.

PFC reported a sequential loan book degrowth of 2 per cent, while REC reported growth of 1 per cent in the June quarter. Bernstein said the biggest drag on loan book growth came from the DISCOM and renewable segments.

The foreign brokerage pointed to three reasons why growth had lately fallen even below its expectations, and said it remained concerned. First, banks had stayed away from the power sector after, as it put it, burning their hands in the last cycle, but had recently become much more active. Bernstein said there had been instances where banks refinanced existing PFC-REC loans.

Second, it said utility-scale renewable additions were slowing because of transmission constraints, and it expected them to decline this year. Bernstein said renewable additions were increasingly happening through rooftop projects and the KUSUM scheme, where PFC and REC did not have much presence. It added that this accounted for 40 per cent of total solar additions in YTD FY27.

Third, Bernstein said state-owned DISCOMs had been one segment where PFC and REC did not face competition. However, with the central government's push, DISCOM health had continued to improve, and average cost of supply and average revenue realised turned favourable for the first time in memory in FY25. It said DISCOMs therefore needed lower support for loss funding. While near-term working capital needs could rise with higher power demand, Bernstein said DISCOMs were more conscious of their leverage and some were even planning equity market listings, including Maharashtra, which could keep loan growth modest.

On the positive side, Bernstein said asset quality remained in favour of both companies and that it had limited concerns on this front in the near to medium term. It said, however, that the credit reversals phase was largely over and that credit costs would gradually start coming through. Overall, the brokerage retained its positive view on PFC and REC, while cautioning that growth remained the key area to watch over the next few quarters.