While a strong sanctions pipeline, negligible non-performing assets and reasonable pricing make the offer attractive, mounting losses of top borrowers are a concern.
Power Finance Corporation (PFC) has consistently delivered a good performance in the past, driven by a low cost of funds, tight management of operating costs and low default rates. Strong demand from the power sector as well as its likely foray into the banking space will aid the long-term business growth of PFC. However, burgeoning losses of its key borrowers (namely state electricity boards or SEBs) and the recent slowdown in the power sector are some concerns that could hit its financials and growth rates in the near term. So are rising interest rates. Analysts estimate that NIMs have slipped in the March 2011 quarter and could remain under pressure for 1-2 quarters more. While there are near-term concerns, the offer is attractively priced at less than 1.2 times PFC’s estimated 2011-12 book value.
THE OFFER
PFC’s follow-on public offer (FPO) of 229.55 million shares includes 57.39 million shares (or 5 per cent of the existing equity capital) as the offer for sale by the government. The company will receive roughly Rs 3,500 crore from the offer, which it plans to use to augment the capital base and meet future lending requirements. After the offer, its capital adequacy ratio will be around 19 per cent as compared to 16 per cent now. It also plans to invest Rs 1,250 crore in a new subsidiary, which will focus on lending to solar and wind energy projects. PFC also plans to take equity participation in projects going forward besides funding two nuclear power projects worth Rs 23,000 crore in the pipeline.
| HEALTHY GROWTH | ||
| In Rs crore | FY11 | FY12E |
| Net interest income | 3,636 | 4,312 |
| % chg y-o-y | 23.5 | 19.5 |
| Net interest margin (%) | 4.0 | 3.9 |
| BPS chg y-o-y |
– | |
Source: Religare Institutional Research, company data
| ISSUE DETAILS | |
| Price (Rs) | 193-203 |
| Size (Rs crore)* | 4,430-4,660 |
| Opened on | 10-May |
| Closes on | 13-May |
| * including offer for sale | |
STRENGTHS
PFC is the designated nodal agency for the development of Ultra Mega Power Projects and R-APDRP in the power sector. This provides a good loan growth trajectory. In the interim, a strong sanctions pipeline of over Rs 170,000 crore as of March 2011 provides good visibility.
PFC’s infrastructure finance company (IFC) status will help expand the resource base and improve the borrowing profile, while lowering costs. With interest rates rising, there has been some pressure on NIMs recently. Analysts still believe that PFC’s access to lower-cost funding avenues like tax-free infrastructure bonds as well as external commercial borrowings (ECBs) will help offset the pressure. NIMs’ compression could be limited to about 7 basis points in 2011-12 due to the benefit of the FPO float, Religare’s analysts wrote in a recent report. On the whole, the company is better placed to protect its NIMs seen hovering around 3.90-4.10 over FY11-13, say analysts.
CONCERNS
For now, PFC’s gross and net NPAs are negligible and reflect its strong balance sheet. However, PFC’s top 10 borrowers accounted for 54.1 per cent of its total outstanding loans as on December 31, 2010, and expose it to borrower-specific risks. State Electricity Boards (SEBs), which are PFC’s key borrowers, have been posting higher cash losses over the years (these have risen over threefold since FY07 to Rs 28,400 crore in FY09).
The power sector has seen a slowdown recently because of constraints in fuel linkages, and higher execution risks, among other factors.
OUTLOOK & VALUATIONS
In the backdrop of the macroeconomic environment and a high base, the company’s loan growth is expected to hover around 17 per cent CAGR over FY11-13 compared to historical levels of 22 per cent, believe analysts. While concerns on asset quality deterioration and net interest margin (NIM) contraction may have a near-term overhang on the stock, quicker reforms in the power sector and reduction in SEB losses will be the key triggers.
PFC’s stock closed at Rs 211 on Monday, around 4 per cent higher than the FPO upper band of Rs 203. After taking into account the 5 per cent discount to retail investors, the upper price works out to Rs 193 and the PE stands at 7.3 times the FY12 estimated earnings — similar to REC’s (its closest peer) multiple of 7.4 times. The FY12 price to book value is also lower than REC’s 1.5 times, indicating that valuations are reasonable. Subscribe with a long-term perspective.
