Opposite signals in NTPC, BHEL: Kotak Institutional Equities report

A recent report by Kotak Institutional Equities (KIE) points to a contradiction or different signals two public sector undertakings (PSUs) in the same sector are giving. 

The market is pricing NTPC and BHEL differently and that has got Sanjeev Prasad, managing director (MD) and cohead, and his colleagues at KIE questioning the valuation thesis of these two stocks. 

Over the last six months, BHEL is up 64 per cent and trades at ₹431 and NTPC, India's largest power (electricity) generation company, is down 12 per cent. Both the firms are part of the Nifty Energy index which is relatively up 3 per cent against the Nifty 50 index, which is down 1.02 per cent. BHEL, among India's largest manufacturer of power equipment, is a classic stock as the numbers the company generates may not match up to its valuation. The stock has run on power-shortage and data-centre demand narratives rather than just on reported cash flows. 

The KIE report says NTPC’s current market price implies 40 Gw of incremental thermal capacity addition in perpetuity. BHEL’s current market cap (mcap) of ₹1.5 trillion is much higher than its likely thermal equipment undiscounted profit pool of ₹50,000 crore- ₹1 trillion (assuming 100 Gw of new thermal capacity addition at ₹10,000 crore/Gw and 5-10 per cent profit after tax or PAT margin). Prasad feels that the market is reading the prices of these companies in two different ways. 

The market is worried that NTPC will not add to its future capacity , while on the other hand, Bhel is valued as though power companies, which includes NTPC, will continue to build several times the capacity that the government itself projects.  

“The bulk of the underperformance of NTPC may be underpinned by weak near-term earnings growth expectation based on weak thermal capacity addition in recent months and nebulous medium-term growth prospects of NTPC’s thermal business based on the steep increase in renewable generation capacity and continued aggressive rollout of renewable generation and storage capacity,” the report said. 

BHEL is priced as though India will rebuild or increase its coal capacity and power companies will pay the company on time and this will keep its margins intact. 

The reverse valuation exercise of NTPC implies that it will add a cumulative 42 Gw of thermal capacity. The Central Electricity Authority (CEA) projects a cumulative 86 Gw of thermal capacity addition over FY27-36. A part of the capacity addition will come from the private sector. Valuation of power companies is dependent on the competitiveness of coal-fired electricity against solar energy. Even as BHEL doesn’t really have anything to do with coal prices, a power company deciding to have a new coal plant could lead to BHEL getting an order. Power companies are asking a simple question. What price should they sell electricity and what is the demand? 

 

NTPC’s thermal tariff is about ₹4.80 per unit against solar plus storage at ₹5.4. Plain solar is at ₹2.30-3. The gap between solar plus storage is narrowing when compared to thermal tariff. If it gets closer, then fewer coal plants may get sanctioned. If there is no demand for coal plants, NTPC will invest less but still own a large capacity. Its earnings growth may slow. In the case of BHEL, fewer plants mean fewer orders. Around 75 per cent of the mcap of Bhel is dependent on coal plant orders. Bhel will be more at risk than NTPC to solar taking over the place of coal. Bhel gets nearly 75 per cent of its revenue and 60 per cent of profit from the power business, while the rest comes from industry segment (includes equipment sales and services to core sectors). On Bhel, the brokerage is associating 25 per cent of its value to non-coal plant equipment. The thermal equipment business gets ₹1.13 trillion in terms of mcap. 

So how much coal equipment must Bhel sell to earn this market cap? Around, 1 Gw of orders bring in ₹7,500 crore in terms of revenues. Bhel's mcap is at ₹1.5 trillion. The total profit available to it from coal equipment, ever, is ₹50,000 crore to ₹1 trillion over many years. “The mcap of Bhel implies 150 Gw of life-time capacity execution at a 10 per cent PAT margin, with the ask increasing further to 200 Gw at a 7.5 per cent PAT margin. This calculation does not reflect any time value for revenues/profits, which can increase the ask further,” added the report.

 

What is driving Bhel’s price is a genuine shortage of power, data centre demand and momentum investing. The market capitalisation/20-year aggregate free cash flows (FCF) works out to 7x. But for the year 2026, the company recorded a FCF of ₹5,300 crore. This takes the market cap/FCF ratio to 29x. The report said the cumulative profit pool is lower than its mcap. The company will now have to maintain the high FCFs in the coming years to justify its valuation. 

 

(Disclosure: Entities controlled by the Kotak family have a significant holding in Business Standard Pvt Ltd)