NHPC - worth investing ?

Investors with a three-year horizon can consider buying the stock of NHPC, the largest hydropower generator.

The stock is trading at reasonable valuations even as earnings are expected to grow at a strong pace over the next four years, thanks to higher capacity additions. The company proposes to add 4,292 MW amounting to 83 per cent of the current capacity by FY2013, which may ramp up earnings and also improve the return on equity. While the projects in progress have depressed return on equity, most of them are in advanced stages of development now.

At current market price of Rs 28.5, the stock is trading at 22 times its estimated FY11 consolidated earnings and 1.39 times its estimated FY11 consolidated book value. In price-book value terms, NHPC is at a discount to NTPC and PowerGrid. With return on equity set to improve and earnings likely to grow at strong double digits, the stock deserves a higher valuation. The company's Rs 6,189 crore of cash (inclusive of Rs 4,025 crore raised through IPO) works out to Rs 5 a share.

NHPC is under-leveraged and deployment of its cash in projects with a higher normative debt:equity may allow it to improve its returns on equity. The current debt-equity is at 0.64:1.

Its increased capacities will earn better tariffs after the new CERC norms which assure a post-tax return on equity of 15.5 per cent, compared to 14 per cent earlier. With most of the costs and external risks (including cost overruns) pass through to customers, the margins may improve. In addition, the company can also earn higher incentives by generating more than the design energy.

NHPC has 9,631 MW in planning stage to be executed over next decade. The planned capacities may have about 40 per cent allocated to merchant power in line with the National Hydro Power Policy, 2008. Even as the merchant tariffs over the next decade may moderate with increasing power supply, hydro projects with their lower costs (than thermal projects) may earn good returns. NHPC's projects are situated on perennial rivers which reduces hydrological risks. It also earns carbon credits on some of its projects which can be traded to augment revenue streams.

NHPC plans to diversify its fuel base by entering into thermal power through its subsidiary NHDC. The latter is planning 2,640 MW of thermal plants in Madhya Pradesh.

Other issues: The 25 per cent mandatory public holding norm may force the company to dilute stake again; given that the company has huge cash resources, it may be a candidate for disinvestment.

Any regulatory decision on allowing merchant power for hydel power projects to recover return on equity also offers upside for NHPC.

via BL