Near-term relief for JSW Energy

Short-term pact is comforting at a time when merchant power rates are softening, coal costs rising

A short-term order of 650 megawatts (Mw) comes as a relief for JSW Energy's Vijaynagar facility, in not much use since July 2016, but profitable nevertheless. Delays in 750-Mw Karnataka power purchase agreement (PPA) for the unit were a major overhang for the JSW Energy stock, which fell from 52-week high of Rs 86 in September to Rs 53.5 in November and now trades at 64.5 levels.

JSW Energy will be supplying 650 Mw to Power Company of Karnataka Limited (PCKL). The supply will commence in January and continue till May 31. This power supply agreement, even in short term, will boost Vijaynagar utilization and company profit.

That the power supply pact will lead to realisations of Rs 4.18 per kilo watt hour (KwH) is also being seen in positive light, given the low merchant power and short-term supply rates. The short-term power rates, say analysts, vary from Rs 2.5-3 per KwH. Also, higher coal prices will pressure profitability, more so for players with higher dependence on imported coal such as JSW Energy. For the said agreement at about Rs 4.18 per KwH, analysts estimate net realisation of Rs 3.75-3.8 per KwH and expect the company to make Rs 1 per unit spread (net of realisations and fuel costs).

Analysts at Motilal Oswal Securities expect the contract to generate contribution profit (realisation minus generation cost) of Rs 220 crore at current international coal price ($69 per tonne for the 5,500 kCal coal variety). Against this backdrop, they have revised upwards their FY17 operating (underlying) profit estimate by 1.7 per cent to Rs 3,770 crore and net profit by 5.5 per cent to Rs 890 crore. Thus, the new contract is earnings accretive, which is positive, even though, for longer term, uncertainty around Vijaynagar utilisations remains till JSW is able to garner more supply agreements. Also, rising coal prices add to concerns. This is why analysts maintain a cautious view. Though most negatives are now priced in, triggers for major upsides are awaited. Nevertheless, in the current environment, the company, backed by its PPAs for 3,327-Mw capacity, is still well-placed for long-term investors.  

Analysts expect JSW to still generate free cash flows after interest, and capital expenditure, but before mergers and acquisitions. Also, capacity additions are slowing and, over time, demand-supply may get more balanced. Analysts at Motilal Oswal Securities factoring in the acquisition of Bina and Jindal Power's Tamnar unit expect the ratio of net debt to net worth to remain reasonable at 2.1 by FY19 (against two in FY16).