Focus on capitalisation to boost Power Grid earnings
The immediate earnings of Power Grid hinge on the degree of capitalisation. But, long-term earnings growth depends on the capex incurred.
This will not only accelerate earnings growth but also reduce the risk of equity dilution. Capitalisation of assets means assets which were part of expansion have begun contributing to the company’s total revenues. The market keenly tarcks the ratio of capitalisation and capital expenditure (capex), which was 137 per cent in the June quarter. Being a regulated entity, Power Grid earns fixed 15.5 per cent return on equity (RoE).
The immediate earnings of the company hinge on the degree of capitalisation. But, long-term earnings growth depends on the capex incurred. Hence, both these factors play a pivotal role in the company’s earnings growth. For the first time in a decade, the company’s capitalisation was 41 per cent higher than capex in FY16, and it had Rs 29,700 crore of asset capitalisation in the trailing four quarters.
The Street expects cumulative capitalisation of Rs 82,500 crore between FY17 and FY19 as compared with Rs 69,500 crore between FY14 and FY16. Typically, the company taps the equity market to raise money to fund the equity portion of the capex, but if the capitalisation ratio is higher, it eases the pressure to fund its future investment. If company maintains more than 100 per cent ratio between capitalisation and capex, its net debt-equity ratio may fall below 2 by FY19 from 2.4 times in FY16.
The company has project pipeline of $21 billion out of which $5 billion are from new regulated projects, which improves the visibility of growth. This could nearly double its FY16 asset base even without any new projects.
The company has guided for a capital expenditure of Rs 22,500 crore in FY17. It has spent in Rs 5,600 crore in the June quarter. The company’s stock has appreciated 23 per cent in the past six months outperforming other utilities by a wide margin on the expectation of better earnings. The firm’s focus on capitalisation, 43 per cent market share in tariff-based transmission line and strong project pipeline may help sustain premium valuation of 2.1 times the book value versus the five-year average of two.