KSK Energy

Shareholders with a high risk appetite and long-term horizon can continue to stay invested in the KSK Energy stock. KSK Energy now develops and operates small (captive) power projects but is set to enter the big league with more than 10,000 MW of capacity additions in the pipeline.

At the current price of Rs 176.7, the stock is trading at 27 times its estimated FY11 earnings. However, valuations based on market cap per mega watt (assuming 4462 MW of power capacity) are reasonable and work out to Rs 1.4 crore/ MW compared with peer valuations of more than Rs 3 crore/ MW. The company attaining financial closure for the 3600 MW of upcoming capacity would be a key trigger to the stock. KSK Energy's earnings may expand over the next couple of years on new capacity, however it is the execution of the bigger projects that will hold the key to appreciation in the stock price.

The company, which hasn't seen significant capacity addition since its mid-2008 IPO owing to delays , is expected to witness five times' jump in its capacity by this time next year.

The current operating capacity of 144 MW is expected to go up to 862 MW in a year's time, as projects such as VS Lignite (with capacity of 135 MW), Wardha Warora (540 MW) and Arasmeta expansion (43 MW) come on stream. However, the manifold increase in top-line growth may not get translated into equivalent growth in profits owing to higher interest costs and depreciation likely for the larger capacity addition programmes in the pipeline.

In addition to the above 862 MW of capacity, projects with 10,000 MW of capacity are in various stages of planning and development and are expected to start delivering benefits to the company only beyond FY12.

The company plans to commission 1,075 MW of hydro power projects with 945 MW in planning stages. Operations of the existing plants have been encouraging with weighted average PLF of 76 per cent for the year 2008-09.

Fuel agreements tied up

The company has tied up fuel requirements for most of the projects that are under development. The company has secured coal linkages from Coal India and tied up with state mining development corporations that own captive blocks and lignite mines.

This may result in lower fuel costs when compared with peers who rely on imported coal. Domestic fuel linkages put the company in a better position to earn higher returns from surplus power. The company's model of selling equity stakes in its projects to users provides assurance on off-take, even while retaining economic interest with the parent company.

The company has signed off-take agreements for most of its projects for the medium to long-term with majority of customers being private industries . KSK Energy is selling power from VS Lignite and Wardha Warora at an average tariff of about Rs 2.85/unit. In case of offtake from GMDC (at least 1,010 MW) for the Wardha Chattisgarh (3,600 MW) project the tariff is at Rs 1.9/unit; this unit, however, enjoys low cost fuel supply from its captive mines.

Initially, KSK Energy plans to sell 38 per cent of the total power generated through short-term power purchase agreements (tied up with Maharashtra and Rajasthan SEBs) and as merchant power. As users ramp up capacity, this will later be sold at fixed tariffs to industrial customers.

Even as the delays in the expansion projects of some of its users have given it a longer window to realise higher tariffs, KSK's own project delays have reduced the opportunity to take advantage of these tariffs.

Concerns

As the size of the projects increases, the financing requirements for these projects are getting bigger, requiring it to infuse fresh equity from time-to-time.

In its IPO, the company raised around Rs 1,200 crore (including the pre-IPO placement). Since then, the company has also raised Rs 515 crore through QIPs in the current fiscal. These funds, including internal accruals, may be enough to fund the equity contribution for the 3,600 MW Chhattisgarh power project .

Equity contribution required for the projects in the planning stage would be more than Rs 7,000 crore and getting access to these funds would require that the 3,600 MW Chattisgarh project is fully operational by FY13. The debt-equity ratio on a consolidated basis stood at 1.54 times as of June 30 2009, and is expected to go up significantly. The company also has majority of its debt in the form of floating rate loans which exposes it to interest rate risk. KSK Energy is relying on Chinese equipment for its projects which may expose the company to operational risk, as there have been reports of incompatibility with domestic coal.