Power Grid Corporation IPO

The grey market is offering a premium of Rs11-12 on the Power Grid Corp. of India Ltd’s IPO opening on Monday, in the price band of Rs 44–52.

That’s a decent premium on the price and reflects the quality of the issue. Power Grid Corp. has a monopoly of the power transmission business and transmits almost half the power generated in the country. It has an excellent track record and also owns a telecom backbone. So why isn’t the grey market premium higher? That’s probably because it is in a business where the returns are regulated.

According to current rules, the company is assured a 14% return on equity. But, that’s a feature that also makes it a low-risk investment, ideally suited to be a defensive stock in one’s portfolio, since the major risks are all pass-through items for the company.

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In addition, in a rapidly developing country like India, power transmission could actually be a very rapidly growing business. That’s because the government seems to be serious about doing something about the power deficit in the 11th Plan (2007-12), as seen from the bulging order books of the power equipment manufacturers.
Under the Plan, the capacity of the national grid is being increased from 14,100MW to 37,150MW.

Power Grid plans to spend Rs55,000 crore in the 11th Plan towards investment in transmission projects. The rapid acceleration in capacity creation is important because when returns are assured, one obvious way to increase profits is to increase capital expenditure (capex). The company has commissioned transmission assets worth Rs2,490 crore in the first quarter of fiscal 2008 and four more projects are likely to be completed this fiscal, which would drive earnings in the short term. As the assured return on equity kicks in only after completion of a project, it’s important to have projects being completed at regular intervals.

The icing on the cake will be provided by the company’s telecom backbone, which has started to make profits from the first quarter of fiscal 2008. The company has been providing bandwidth to all the telecommunications operators on its 19,000-km network, which connects more than 60 cities.
The issue is priced at 16.9 times diluted earnings per share for fiscal 2007 at the lower end of its price band and at 20 times earnings per share (EPS) at the higher end. The upper end of the band is the valuation that NTPC gets. But, while the issue isn’t cheap, institutional investors are likely to lap it up as yet another way to get exposure to India’s infrastructure story. For retail investors, the grey market premium says it all.