Valuation multiples of top public sector undertakings at a multi-year low

Valuation multiples of top public sector undertakings (PSUs) are at a multi-year low. While the benchmark Nifty trades at over 20 times its estimated one-year forward earnings, almost all state-owned companies are being quoted at less than half of that. 

The PSU pack has always traded at a discount to private companies and the Nifty index, but the valuation differential has widened in the past five years.

For instance, energy companies NTPC, NHPC and Power Grid trade at forward price-earnings (P/E) multiples of around nine times each, down from 16 times in March 2018. Similarly, metal and mining stocks such as National Aluminium and NMDC, too, have seen their valuations being lowered drastically.

Analysts say the valuation de-rating is on the account of decrease in profitability and fears of adverse government policies. “In our view, uncertain policies in certain sectors and potential mergers of PSUs may have deterred investors from PSU stocks, leading to large gaps between their fair values and stock prices. Also, we wonder if the government’s preferred mode of divestment through exchange-traded funds (ETFs) has aggravated the problem,” says Sanjeev Prasad, co-head, Kotak Institutional Equities in a note.

Analysts said cash levels at PSUs, which historically has been a big draw for investors, have depleted. This is on account of high dividend payouts despite sub-par profitability. Most fortunes of some large PSUs have been hit due to adverse commodity and capex cycle. 

In the past few years, many PSUs dipped into their cash reserves or accumulated earnings to pay dividends.

Experts said continuous government interference and fear of policy changes deter most large investors from making major investments in PSU stocks.

One such example is that of oil marketing companies. “Earlier, the government had said there will be no subsidy sharing. But as oil prices went up, the government tinkered with it,” said Abhimanyu Sofat, head of research, IIFL. “Unfortunately, the volatility in crude prices and rupee impacted the profitability of oil marketing companies. For coal companies, there have been significant challenges in terms of production,” added Siddhartha Rastogi, managing director, Ambit Asset Management.

Market players say on an absolute basis, the entire PSU pack looks quite attractive, however, a re-rating will require an uptick in profitability and more comfort in terms of government policies.