Revised norms provide relief from low PLF inefficiencies
Valuations attractive; Maintain Buy
Declining PLF impacting operating efficiencies of plants
Higher plant load factor (PLF) not only drives incentive income, but also generates efficiency earnings through lower auxiliary and oil consumption, as well as a better station heat rate (SHR). n We note that as PLF declines, the operating parameters deteriorate, impacting incentives and leading to under-recovery in fuel cost. Average PLF of coalbased plants declined from ~82% in FY14 to ~79% in FY17. Notably, three plants had PLF of less than 75% in FY14, which increased to five plants in FY17 (Exhibit 1). This is due to a confluence of (a) increase in overcapacity in the country and (b) addition of new plants –Mouda and Barh – away from coal mines, with relatively uncompetitive fuel cost.
The impact of lower PLF was recently quantified in case of Mouda I & II plant. It operated at PLF of ~64% from May to October 2017, which is lower than the design norms, resulting in fuel cost under-recovery of ~INR329m (annualized, it is ~1-2% of the regulated equity of the plant), in addition to the lost opportunity of earning incentives (Exhibit 2).
Lower coal cost and relaxed regulatory norms provide some relief
Two developments have provided some relief from the impact of lower PLFs:
* Swapping/flexible coal linkages: The absolute amount of under-recovery is also a factor of landed fuel cost. Swapping/flexible coal linkage has reduced the landed cost of coal, particularly for plants that were located far from coal mines and suffering from low PLF. The benefit, however, is likely to be small.
* Relaxed regulatory norms: In May 2017, the regulator introduced a mechanism to compensate plants suffering from low PLF. In case of Mouda I & II plant, the new mechanism provides a relief of ~INR210m (~63% of the actual loss) over May-October 2017.
Revised norms reduce risk to earnings from lower PLFs; Maintain Buy
* The revised regulatory norms can compensate earnings by ~2% (also visible in 2QFY18 results). Although small now, over the medium-to-long term, it will limit the risk of under-recoveries in fuel cost as increasing RE penetration impacts PLF of coal-based plants. The current regulations are not considering the impact on equipment life (O&M allowance) due to the likely increase in frequency of ramp-up and ramp-down of plants due to RE. However, we believe this will be taken up by the regulator at an appropriate time.
* For NTPC, we expect earnings CAGR of ~14% over FY17-20, driven by strong capitalization. As capitalization outpaces capex, RoE will get a boost and re-rate the stock. Favorable outcome in the GCV measurement issue can boost earnings by ~7%. We remain positive with a DCF-based TP of INR211/sh.
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