Tata Power (TPWR) organised an analyst meeting to provide a long-term strategic outlook and update on the progress of its projects under construction and its pipeline. Management outlined a 9x increase in its generation capacity to 25GW by FY17e.
Progress on the projects under construction, mainly Mundra 4GW and Maithon 1GW, are on track. Management had indicated that there can be an upside surprise to the timeline with the first unit of Mundra to be operational by 2HFY12e vs. our estimates of FY13.
Overall, 49% of the work has been completed for 4,000 MW Mundra project with 10,500 people on site. While all packages have been issued to bidders and over 92% of hard cost awarded, external coal handling system and other civil, structural and erection work is progressing well. The unit 1 of the project will be commissioned by September 2011; all subsequent units will be commissioned with intervals of 4-5 months.
Further, over 76% of work has been completed for the 1,050 MW Maithon project for which DM water plant has been commissioned while boiler for unit 1 is getting ready for hydro test. 100% coal source for the project has been identified while fuel sales agreement is under finalisation. The unit 1 of the project will be commissioned in third quarter of FY 2011 and unit 2 by first quarter of FY 2012.
Tata Power should take investment approval for its c6.6 GW in-pipeline projects in FY11 which would act as a catalyst. The progress at its captive mines, Mandakini and Tubed, is also on track with mining plan approved by the ministry of coal and production to start by FY12-13e.
Tata Power will be able to sell c240MW of surplus power in the open market from April 2010. In our view, the surplus power will be sold in the open market only for a brief period of 6-12 months versus market expectations of permanent merchant sales, after which this will be used to cater to the company?s Mumbai distribution customers. Though this is negative in the short term, we believe this strategy make sense, as it would help keep the overall tariff low and hence help the distribution business, which typically earns c16% plus RoE. We have not factored in any merchant sale from this surplus power; hence, no changes to our estimate.
Valuation and risks:
We maintain our estimates and 12-month target price of Rs 1,525 per share. We use a combination of three valuation approaches to value Tata Power and derive a fair value of Rs 1,440. To this fair value, we add the value of projects under pipeline (c4.4GW) at Rs 85 per share.
Under our research model, for stocks with a volatility indicator, the Neutral band is 10 percentage points above and below the hurdle rate for Indian stocks of 10.5%, or 0.5-20.5% around the current share price. At the time we set our Tata Power target price, it suggested a potential return that was above the Neutral band; thus, we have an Overweight (V) rating on the stock.
Downside risks in our view, include delays in project execution, higher mining costs, interest rate risk, and unfavourable regulatory changes. Business risks include equity funding for the other 6.1GW capacity expansion in the pipeline.