Softening coal prices could pare contribution from KPC/Arutmin mines

Key investment arguments: Equity funding requirement for entire 3 GW (giga watt) of projects under construction is largely met. Returns on these projects are capped and thus provide limited upside.

Share of profit from KPC/Arutmin mines contributes 50% to consolidated net profit and thus, sensitivity of US$1/ton variance in coal realisations in FY13e (estimates) and FY14e is 2%.

Future growth in capacity from projects under development (6.2 GW) could be equity dilutive.

Key investment risks: Mundra UMPP (ultra-mega power project) project plus investment in KPC/Arutmin mines is valued at Rs20/share (20% of SOTP?sum-of-the-parts?value).

Near-term earnings sensitive to coal price movement

Recent developments: Tata Power has written to MoP (ministry of power) for tariff revision for the Mundra project and its needs to be seen that how this issue would be dealt by the government and beneficiaries.

Tata power has commissioned Unit-I of Mundra UMPP and has completed steam blowout for Unit-II and synchronisation is expected soon.

Sector view: CPSUs (central PSUs) are our preferred sectoral theme, given the acceleration in earnings growth and comfortable valuations. We are Neutral on private IPPs (independent power producers), given our cautious view on merchant prices. We believe that SEB finances will witness a gradual improvement, going forward.

Q4 results: Tata Power reported standalone revenues of R23.7bn (up 35% y-o-y), Ebitda of R4.4b (up 8% y-o-y), and PAT (profit after tax) of R1.2bn (down 56% y-o-y) in Q4FY12. Revenue is driven by better performance of SED (strategic electronics division) division, while Ebitda is lower owing to higher staff cost/other expenditure.

Merchant sales for the quarter stood at 211MUs from Haldia project, as Unit-8 Trombay (100 MW) is shifted on regulated mechanism. Realisations for Haldia stood at R2.99/unit vs R3.4/unit y-o-y, which also partially impacted operating profit.

Tata Power has appropriated (below PAT) R439m and R1.1bn for Q4FY12 and FY12, respectively, towards ?distribution? on R15bn perpetual debt/bonds raised in standalone books. For Q4FY12, the company reported consolidated loss of R6.3bn. The reported numbers, however, includes impairment losses at Mundra UMPP of R8.2bn, and forex loss of R1.7bn Adjusted PAT thus stood at R3.5bn, lower than our estimate of R5.6bn. Lower performance was owing to higher than expected losses at Mundra UMPP given the take-or pay commitment for port and lower contribution from KPC/Artumin mines.

On the consolidated books, the company has perpetual bonds of R26bn+ ($250m raised in USD, used for payment of acquisition loan of KPC/Arutmin mines), which would carry similar ?distribution? appropriation, as in standalone accounts.

Core profit of coal SPVs impacted; outlook bleak: During Q4FY12, Tata Power?s share of revenues from coal mining companies (KPC/Arutmin) stood at R23.4bn. Coal production stood at 15.7m tons, lower than our estimate of 17m tons+. Also, realisations for the quarter stood at $92/ton. Sales volume for the quarter stood at 15.7m tonne, vs 17.5m ton q-o-q and 14m tonne y-o-y.

Production cash cost increased 13.6% y-o-y to $46.6/ton, leaving gross contribution at $45/ton, down from $54/tonne in Q3FY12 and $46/tonne y-o-y. For FY12, production cash cost stood at $43.5/tonne, up 19% y-o-y and higher than our estimate of $42/tonne. Ebit from Coal SPVs (special purpose vehicles) in Q4FY12 thus stood at R5.9bn, vs R8bn+ q-o-q and R4.5bn y-o-y.

Contribution from KPC/ Arutmin mines may continue to remain under pressure owing to softening coal prices globally. RB Index is down 6% from March 2012 levels.

We cut our consolidated earnings for Tata Power to account for the reduction in coal realisation currently. We expect the company to report consolidated net profit of R17.4bn for FY13, and R12.4bn in FY14e. The stock trades at P/E (price-to-earning ratio) of 14x on FY13e (estimates) basis. Maintain Neutral.

Factors such as (i) higher production cost, lower than expected volume growth and further pressure on realisation at KPC/Arutmin mines,(ii) lower contribution from Maithon project in FY13e, and (iii) accounting of ?distribution? on perpetual debt could further put pressure on earnings.