Back in January 2008, after hitting a high of ₹242, the NTPC Ltd stock fell out of favour with investors, just ahead of the initial public offering (IPO) of Reliance Power. What then followed seemed like a never-ending lull until recently. Over the past one year, NTPC’s shares have more than doubled to ₹370 per share on the back of talk about the unlocking of value in NTPC Green Energy, its renewable (RE) power generation subsidiary. In the FY24 earnings conference call, NTPC’s management has indicated that the process will gather momentum in FY25.
NTPC’s RE capacity is 3,500 MW currently, with plans to scale it up to 20,000 MW by FY27 (delayed by a year) and further to 60,000 MW by FY32. This means RE would account for almost 46% of the total capacity target of 130,000 MW by 2032. Sure, the excitement over the potential listing of the subsidiary is justified. But, there is the risk of NTPC suffering from a holding company discount if the green energy subsidiary is listed separately. This is because prospective investors will directly buy into the green energy company, which is going to drive the bulk of the capacity expansion in the future.
In FY24, NTPC’s standalone pre-tax earnings fell almost 6% to ₹22,710 crore and remained flattish in the fourth quarter. The latest results are unexciting, and pulled shares down more than 1% on Monday. This is thanks to the conventional way power generation companies operate in the country, leaving little scope for any surprises when results are declared. Profits are determined using a fixed return on equity (RoE) of 15.5% (plus some incentives based on plant load factor, etc.) on a regulated equity and then based on profit after tax, the backward working is done to arrive at the selling price per unit of power. So, the usual analysis like cost of fuel as a percentage of sales, etc. do not matter much.
Regulated equity puzzle
Here, it is important to understand the concept of regulated equity. It is the equity component in a power project that is pre-decided at 30% of the total capital employed with the rest coming from debt. Thus, earnings improve only when new capacity is added, which is not frequently thanks to the long gestation period of projects. The difference in profitability arises because of the under- or over-recovery of fixed costs.
In FY24, NTPC’s standalone and consolidated regulated equity increased 13% and 11% year-on-year to ₹87,700 crore and ₹1.04 trillion, respectively. In an ideal scenario, profit after tax (PAT) should track the growth in regulated equity. However, the correlation may not be exact as the dates of commissioning of the capacities are different. The full impact of regulated equity added in FY24 is likely to translate into earnings a year later.
NTPC’s standalone and consolidated capacities stand at 59,000MW and 76,000MW, respectively. The capitalization of incremental thermal capacity is going to be 2,200MW and 1,500MW in FY25 and FY26, respectively, which is less than 4% per year of the existing standalone capacity. Hence, significant growth in standalone profit in FY26 and FY27 can be ruled out, assuming that the full impact of capacity addition comes in the subsequent year.
Against this backdrop, the stock’s sharp appreciation over the last year suggests investors are capturing the brighter picture sufficiently. Moreover, investors should be prepared for risks such as lower-than-expected returns from the renewable energy business.
