Investors can subscribe to Power Grid Corporation of India Ltd.’s (PGCIL) IPO at the cut-off price. The company is a near monopoly in the inter-regional and inter-state power transmission business where earnings visibility is high and operational risks are low. PGCIL is investing in trebling inter-regional transmission capacity over the next five years and is responsible for the planning and development of the nation-wide power transmission network.
Serious competition from the private sector appears unlikely for now and PGCIL’s growth can be constrained only by its own capacity to invest. With large generation projects set to come up in different corners of the country, PGCIL will have enough projects on hand to drive revenue and earnings in the medium term.
That said, investors need to be aware of the large regulatory risk that PGCIL is subject to. Its revenues are subject to the Central Electricity Regulatory Commission’s (CERC) tariff orders which spell out the return on equity eligibility apart from listing out the expenses that it can pass on to customers.
The offer price band of Rs 44-52 per share is at a price earnings multiple of 15-18 based on fully diluted 2006-07 earnings. There is no comparative play in the market now but on qualitative factors alone, the price appears to be reasonable.
Transmission leadership
PGCIL transmits about 45 per cent of all power generated in the country. It runs the backbone transmission network for inter-regional and inter-state transfer of power from surplus to deficit regions. It also evacuates power from the generation stations and on to consumption centres for inter-state power projects. PGCIL is also responsible for the overall national grid management through the five regional load despatch centres it operates. It is in the process of setting up a National Load Despatch Centre that will coordinate the country-wide movement of power.
Inter-regional transmission capacity is projected to almost treble from 14,100 MW now to 37,150 MW in the next five years and PGCIL will be responsible for most, if not all, of the increase. It has budgeted for a capital expenditure of Rs 55,000 crore for this purpose. PGCIL is also likely to bag the rights to install transmission systems for the two ultra mega power projects of 4,000 MW each that are now in the process of implementation. It already has 45 transmission projects in various stages of implementation.
The CERC’s tariff order, which governs the revenues and earnings, also sets out incentives for keeping the transmission system “available” beyond a certain limit. Presently, PGCIL is eligible for incentives in its tariff if its alternating current system is available 98 per cent of the time and the high voltage direct current system 95 per cent of the time. Given its efficient operations, the company has earned such incentives for the last five years consistently.
Telecom and consultancy
PGCIL owns and operates a fibre optic cable network that connects about 60 cities using its overhead transmission infrastructure. The company sells bandwidth to those such as Bharti Airtel, BSNL, VSNL and Reliance Communications. The business is still small accounting for just about 2 per cent of the total income and was not profitable till 2006-07. The first quarter of this fiscal, however, saw the division post a small profit.
PGCIL also offers transmission consultancy and the income from this business was Rs 226 crore last fiscal, accounting for about 6 per cent of total income.
What we like
PGCIL is an effective monopoly in the inter-regional transmission space; though private players could enter the business, they are unlikely to dent the company’s prospects significantly. PGCIL’s valuable in-house design an d engineering expertise is a major competitive asset.
The company has been proactive in its business especially in forging tie-ups with private players. The joint venture with the Tatas for the Tata transmission infrastructure and the ones forged with the Torrent and Jaiprakash groups for evacuating power from specific generation projects are examples. PGCIL is also forming an equal joint venture with Infrastructure Leasing and Financial Services for development of transmission and sub-transmission projects at the State level and outside the country.
PGCIL’s hig h operating efficiency as proven by its system availability of over 99 per cent for the last five years allows it to earn valuable additional incentive income.
Though its leverage is on the high side at 1.81:1, the company’s financials appear sound. Interest costs are passed through to customers and, therefore, higher debt does not impact the bottomline.
The company’s plans to diversify its revenue stream by focussing on consultancy, telecom and power distribution business under the Central government-sponsored schemes augur well. PGCIL is also in the fray for the privatisation o f the National Transmission Corporation of the Philippines.
What to watch out for
The biggest concern is regulatory overhang over the business. The current tariff order of CERC ends in 2009 and there is a strong possibility of the regulator marking down the 14 per cent return on equity in the new order due then. Thi s could have revenue implications for PGCIL.
PGCIL may soon have to shift to competitive bidding mode for new projects. The CERC has been empowered to direct competitive bidding whenever it feels the ground is prepared for competition; at the latest, competitive bidding should be a reality by 2011, going by the government’s time-frame. Competitors could enter the fray once the new system is in place and PGCIL will have to change its strategies accordingly. The company’s experience and size could be formidable assets here though.
The growth prospects could be tempered by the ability to garner funds for expansion. The 70:30 debt:equity norm laid down by the CERC for funding new projects means that the company will have to leverage itself significantly over the p resent 1.81:1. The company may have to guard against leveraging beyond prudent levels.
The government, as the majority shareholder, plays a significant role in the company’s fortunes. Post-IPO, it will hold 86 per cent of the equity.
Given the experience with other listed public sector companies where the government has dabbled in business, this is a matter of concern.
Offer details
PGCIL is offering 57.39 crore shares at a price of between Rs 44 and Rs 52. The offer, which seeks to raise between Rs 2525 – 2984 crore, opens on September 10 and closes on 13 and is lead managed by Kotak Mahindra Capital.