Power Grid Corporation of India: Transmitting the right signals

The stock of Power Grid Corporation of India (Power Grid), the country’s principal power transmission utility, has gained 24 per cent since our buy call in October 2015. This is thanks to the company’s good performance in the last financial year.

Still at ₹164, the stock trades cheap at 12 times its estimated consolidated earnings for 2016-17. This is at the lower end of its five-year historical valuation band of 11-17 times. Investors can, therefore, take exposure in the stock of Power Grid, a safe bet in the Indian power sector.

Power Grid, which enjoys near monopoly on the country’s inter-state and inter-regional power transmission network, earns an assured return, as determined by the Central Electricity Regulatory Commission (CERC), on its commissioned projects. This ensures revenue certainty for the company unlike most other companies in the sector.

Timely project completion and commissioning, therefore, hold the key to the company’s revenue and earnings growth. Power Grid has fared well on this front.

For 2016-17, it has planned capital expenditure of ₹22,550 crore, which is broadly in line with that of the previous fiscal. As of April 2016, Power Grid had projects, mostly ongoing, worth ₹1,44,000 crore lined up.

A chunk of these will earn an assured return on equity (ROE) in addition to full cost recovery under CERC-determined transmission charges. These projects, as they get commissioned, should provide a boost to the company’s revenue and earnings in the coming years.

The Centre’s increasing focus on bolstering the country’s power transmission network, in line with the increasing generation capacity, also bodes well for the company. The significant scaling up of the government’s renewable energy target to 175 GW by 2022, though ambitious, will also boost the need for a stronger power transmission infrastructure.

Transmission charges set by CERC, the power sector regulator, enable Power Grid to fully recover costs plus earn a return on equity ROE of 15.5 per cent on its commissioned projects.

The costs comprise depreciation charge, finance cost and operation and maintenance expenses.

The company also earns an additional 0.5 per cent ROE for transmission lines (of at least 50 km length) commissioned on or after April 2014, if completed by the CERC stipulated deadline.

Power Grid’s revenue and earnings growth, therefore, depend on the expansion of its transmission network capacity. It has delivered on this front in the past.

The company’s transmission capacity has grown at an annual rate of over 9 per cent (CAGR) over the past five years — from 82,000 circuit km as of March 2011 to 129,000 circuit km as of March 2016.

The addition in transmission lines at 12 per cent (y-o-y) in 2015-16 was much higher than that achieved in the preceding three years.

During the above mentioned five-year period, the company’s power transformation capacity too has multiplied by over two- and-a-half times — from 93,000 MVA (mega volt amp) to 255,000 MVA. The 10 per cent increase in transformation capacity in 2015-16 though, was lower than that in the past.

The company’s increasing capital expenditure over the years has helped. More importantly, its project commissioning too has trended upwards, by and large. This should hold it in good stead in future too. Power Grid expects to commission projects worth over ₹30,000 crore in the current fiscal year.

Some of the important transmission projects to be completed this year include the Champa - Kurukshetra, North Eastern Region - Agra (unfinished work) and Alipurduar - Agra links.

During 2015-16, Power Grid incurred capital expenditure of about ₹22,580 crore, the same as in the year before. It commissioned projects worth nearly ₹31,790 crore, which was 46 per cent more than in the preceding 2014-15. The impact of this is reflected in the company’s robust revenue and profit growth. Power Grid grew its revenue 21 per cent (y-o-y) to ₹21,352 crore during 2015-16.

Ninety five per cent of this revenue came from power transmission, under the regulated return model.

Another 2 per cent each was contributed by income from consultancy and telecom, both of which grew at high double-digit rates. The company provides transmission-related consultancy services to clients in India and abroad. Utilising its country-wide transmission network, Power Grid has created a fibre-optic telecommunication cable network, whereby it leases bandwidth to several customers including telecom companies.

The company’s operating profit rose 23 per cent to ₹18,606 crore in 2015-16.

But, impacted by higher fixed costs (depreciation and interest expense), net profit grew 19 per cent to ₹6,014 crore during the year. The net profit margin, though a tad lower from a few years ago, is still at 28 per cent.

While the entry of private players in the inter-state power transmission sector since 2011 has brought in competition into the sector, Power Grid continues to enjoy dominance. It has so far won nine out of the 23 projects (about 40 per cent success rate) auctioned under tariff-based competitive bidding. These projects, however, account for only a small part of the company’s project portfolio and a chunk of the revenue still comes from the regulated return projects.

Besides, Power Grid can also acquire transmission projects outside the competitive bidding mechanism.

The Centre can nominate it, as has happened in the past too, to undertake projects that are technologically complex or requires urgent implementation.