PowerGrid (PGCIL) reported Q2FY18 results in line with expectations. EBITDA rose 17% y-o-y supported by sales growth. H1FY18 capitalisation is up 48% y-o-y to Rs 135 billion. PGCIL should comfortably achieve FY18E capitalisation above Rs 300 billion as commissioning is more evened out in FY18E vs backended in FY17. We believe earnings growth will decelerate ahead as capitalisation growth has peaked. Maintain ‘hold’ with a TP of Rs 200, valuing it at 1.7x P/B FY19E. PGCIL earns a regulated RoE on its commissioned projects, and asset capitalisation is critical for its earnings growth. PGCIL has spent Rs 56 billion on capex in 2QFY18. Capitalisation is Rs 100 billion in 2QFY18 as it added 2,266 circuit km and 17,500 MVA capacity. Management has been referring to Rs 300-350 billion of potential capitalisation in FY18E. Our estimates factor the lower end of Rs 300 billion as issues on right of way have been cropping up on incremental plans on PGCIL.
Meaningful proportion of incremental projects are primarily being awarded on competitive bidding vs pure nomination to PGCIL. Company recently won a `13-billion project on competitive bidding. However, the overall pipeline itself is fairly weak, which we attribute to the drop that we expect in annual generation capacity addition from a FY16 30 GW peak to 15GW in FY21E. PGCIL is a master at execution, but with the market pie itself becoming a question mark and competition coming in, we believe peak earnings growth is behind. 25% of FY18E-19E capitalisation is likely to be tariff-based competitive bidding (TBCB) projects.
Fluctuations in financing cost, project cost overruns, and right of way delaying projects are hurdles that could have material impact on returns unlike regulated projects. Our estimates factor TBCB having similar returns as regulated projects, which could itself be a potential negative surprise. Upside risk: Government giving PGCIL preference on upcoming projects Downside risk: PGCIL losing share sharply in TBCB.