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Equitymaster Agora Research Private LimitedIndependent Investment Research

17 April, 2010

NTPC Ltd. Page 1 of 6

40

55

70

85

100

FY98 FY00 FY02 FY04 FY06 FY08 FY09

PLF

,%

PLF: NTPC vs All-India

NTPC All-India

Market data

Current price Rs 207 (BSE)

Market cap Rs 1,706,811 m

Face value Rs 10.0

FY09 DPS Rs 3.6

BSE Code 532555

NSE symbol NTPC

No. of shares 8245.0 m

Free float 10.5%

52 week H/L Rs 241 /180

Rs 100 invested is now worth

Stock price Performance

NTPC Index*1-Yr 9.0% 62.8%

3-Yr 10.0% 9.4%

5-Yr 20.0% 23.3%Returns over 1 year are compoundedannual averages (CAGR)* BSE Sensex

Shareholding (Dec-2009)

Category (%)

Promoters 89.5

Banks, MFs and UTI 4.9

FIIs 2.4Public 2.0

Others 1.3

Total 100.0

Report prepared by

Equitymaster Agora ResearchPrivate [email protected]

NTPC Ltd.HOLD Target price: Rs 265

Investment Rationale

Safe bet in a fast growing sector: It has been business as usualfor NTPC over the past few quarters. This even as the world aroundit fell apart under the weight of the financial crisis. The company stillchurned out financial performances that were without the surprisesthat other companies offered. It also outperformed its large cappeers in the stockmarkets.

So, what exactly has guaranteed a place for NTPC among India'smost valuable companies while value was being destroyedeverywhere else? The company's safe balance sheet must haveplayed the trick. This is given that other companies were grasping forfunds to expand their businesses and repay high cost debt. On theother hand, NTPC has been very prudent in managing its balancesheet.

As the power sector grows at a rapid pace in the future, NTPCsrobust experience will stand it in good stead in the future. Of course,it will also face the usual execution issues that are linked to thepower sector. But its strong balance sheet and execution capabilitieswill most likely help it more than others in getting over these issues.

Stands out onefficiency:Over the lastthree decades,NTPC has ledthe

development ofthermal powergeneration inIndia. Thecompany hasbuilt a strongportfolio of coaland gas based generation capacities (around 30,000 MW currently).Since its inception in 1975, NTPC has grown its capacity andgeneration at average annual rates of 20% and 23% respectively.This is much faster than the industry average of 5% and 7%respectively.

The company has led the growth in Indias power generation in thepast. It is also one of the most efficient players in the industry. Itsplants operate at PLF (plant load factor or capacity utilisation; ofaround 91%) that is higher than the all-India average (77%).

Expanding for growth: NTPC has outlined a huge capacity additionplan for the eleventh five-year plan (2007-12). During these years, itplans to add around 22,400 MW of new generation capacity. Thisaddition will be over 60% of the total capacity planned by the centralsector during this period. However, given the pace of expansion, weestimate the addition to be just around 60% of the target. Given the

Source: Company

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100

200

300

400

A r-05 Dec-06 Au -08 A r-10

NTPC Rs 249Sensex: Rs 285
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regulatory nature of the business, capacityaddition is the only way of growing for powergeneration companies.

Apart from these plans on the power generation

front, the company is also planning big initiativesin coal mining, power trading and distribution.Considering the companys strong cash flows,funding of these expansion plans should not bean issue going forward. This we believe shalladd tremendously to its growth in the longrun.(Refer Table 1 on Pg no 4)

Investment Concerns

Short term execution issues: As we havementioned above, NTPC is expected to miss itsXIth plan expansion targets. This is given thepace it has been going at after the first threeyears of the plan period (2007-2009). Theslowdown in capacity addition has been onaccount of several reasons. Key among themare issues in sourcing of adequate fuel (bothcoal and gas), delays from equipment suppliersand other contractors, and delays in acquisitionof land and clearance of sites for beginningconstruction of projects. Given these issues,which are not going to go away anytime soon,the pace of execution for NTPC will be slow inthe medium term. This, we believe, has thepotential to impact revenues and profits greater

than what we have estimated.

Legal tangle over fuel: Coal inventories arerunning at critical levels at some of NTPCs coal -based plants. The company is also facingseveral issues in sourcing gas, both in terms ofquantity and pricing. It continues to fight a courtbattle for securing gas from Reliance Industriesat an appropriate pricing. With an aggressivecapacity addition target set for the future, NTPCneeds to prop up its fuel sources fast, withoutwhich the growth will be muted. The company isanyways looking for international markets forsourcing its coal and gas requirements. This willdeal a blow to its costs, as imported fuel will costmore than the domestically secured fuel. Forinstance, the company is looking to source gasfrom Qatar in the absence of a proper supplyfrom domestic sources. This imported gas isexpected to cost the company more than thecurrent contracted price of US$ 10 per millionBritish thermal unit (mBtu). Compare this withthe price of US$ 6-7 per mBtu at which NTPCsources gas from domestic suppliers such asGAIL and IOC.

Background

NTPC is India's largest power generating companywith an installed capacity of over 31,000 MW (overone-fifth of India's total installed capacity). NTPC

contributes to around 29% of the country's annualpower generation and has an outstanding trackrecord in terms of efficiency. Of its owned capacity,86% is coal-based, operated through 15 coal-basedpower stations, and 14% is gas-based, operatedthrough 7 gas-based power stations (including onenaphtha-fired station). During the period betweenFY04 and FY09, the company grew its net sales andprofits at average annual rates of 18% and 9%respectively.

Industry Prospects

As per estimates, India has to generate anincremental 10,000 MW capacity per year for thenext 10 years to plug the demand supply gap. Thegovernment has outlined a plan, which envisagesaddition of 60,000 MW (revised down from 78,000MW) of generation capacity during the current fiveyear plan (2007-2012). Apart from the generationinitiative, focus will be also on improving the T&Dversus generation infrastructure ratio, from theabysmal 0.3 currently, to a global benchmark of 1:1.Rural electrification continues to get a boost in eachpassing budget. Though the track record ofexecution of such reforms is appalling, the powersector is slowly but surely set for a change.

Corporatisation of SEBs and linking profitability tothe state governments plan outlay are likely to givesome sort of fiscal strength to the key sectorparticipants in the long run.

Source: Com an

631

1,340

2,490

8,212

14,057

18,239

- 5,000 10,000 15,000 20,000

India

Egypt

World

Japan

US

Canada

(kWh)

Per capita electricity consumption

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Risk AnalysisPlease see Risk Matrix table on page 5 of this report

Sector: The power industry in India had been miredin huge regulatory hurdles in the pre-Electricity Act2003 period. However, the act has given a sense of

relief to power sector companies, by encouragedinvestments. Though the track record of execution ofsuch reforms is appalling, the power sector is slowlybut surely set for a change. Corporatisation of SEBsand linking profitability to the state governmentsplan outlay are likely to give some sort of fiscalstrength to the key sector participants in the longrun. We are enthused by the direction as opposed tothe pace of progress, as this can be unpredictable.We are also wary of some short term concerns likefunding constraints given the liquidity crisis. Weassign a medium risk rating to the sector.

Company standing: NTPC is Indias largest powergenerator and has been more regular in expandingcapacities than its peers. We assign a strong ratingto the company on this parameter.

Sales: NTPC generated average revenues to thetune of nearly US$ 7.5 bn per annum in the past fiveyears. In the latest completed fiscal (FY10), thecompany is expected to generate US$ 11.3 bn inrevenues. Based on our parameters, we assign alow-risk rating of 10 to the stock.

Operating margin: Operating margin is a

measurement of what proportion of a company'srevenue is left over after paying for variable costs ofproduction such as raw materials, wages, sales,marketing and administrative costs. A healthyoperating margin is required for a company to beable to pay for its fixed costs, such as interest ondebt. The higher the margin, the better it is for thecompany as it indicates its operating efficiency.NTPCs average operating margins for the past fiveyears has been around 29%. We assign a low-riskrating of 7 to the stock on this factor.

Long term EPS growth: NTPC has grown its netprofits at a CAGR of 7% in the past five years. Assuch, the rating assigned to the stock on this factoris 2.

Return on capital invested (ROIC): ROIC is animportant tool to assess a company's potential to bea quality investment by determining how well themanagement is able to allocate capital into itsoperations for future growth. A ROIC of above 15%is considered decent for companies that are in agrowth and expansion phase. NTPChas earned an

average ROIC of almost 11% over the past fiveyears. The rating assigned on this parameter is 2.

Dividend payout: A stable dividend history inspiresconfidence in the management's intentions of

rewarding shareholders. NTPCs average payoutratio has been a healthy 37% over the past fiveyears. Thus, we have assigned a low-risk rating of 7.

Promoter holding: A larger share of promoterholding indicates the confidence of the people whorun it. We believe that a greater than 40% promoterholding indicates safety for retail investors.Currently, post the follow-on public offer, thepromoter (government) holding in NTPC stood at84.5%. We have assigned a low-risk rating of 10 tothe stock.

FII holding: We believe that FII holding of greaterthan 25% can lead to high volatility in the stockprice. The FII holding in NTPC at the end ofDecember 2009 stood at 2.4%. The rating assignedis 10.

Liquidity: The average daily trading volumes ofNTPCs stock over the past 52-weeks stand ataround 993,000 shares. Such high liquidity levelsgive us comfort with respect to stability in the stocksvaluations. The rating assigned is 10.

Current ratio: NTPCs average current ratio duringthe past five years has been 2.6 times. Thisindicates that the company is comfortably placed topay off its short-term obligations, which givescomfort to its lenders. We assign a medium-riskrating of 7.

Debt to equity ratio: A highly leveraged business isthe first to get hit during times of economicdownturn, as companies have to consistently payinterest costs, despite lower profitability. Especiallyfor power sector companies, who generally fundcapex through 70:30 ratio of debt to equity, anydeviation in execution can cost heavy. Consideringthe companys average debt to equity ratio of 0.5

over the past five fiscals, we have assigned amedium-risk rating of 6 to the stock.

Interest coverage ratio (PBIT/Interest payment): Itis used to determine how comfortably a company isplaced interest on outstanding debt. The interestcoverage ratio is calculated by dividing a company'searnings before interest and taxes (EBIT) by itsinterest expense for a given period. The lower theratio, the greater are the risks. Given NTPCsaverage interest coverage ratio of 7 times over the

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past five years, the rating assigned is 7. in terms ofpayment of

P/E Ratio: The P/E ratio (price-to-earnings ratio) ofa stock is a measure of the price paid for a share

relative to the per share income or profit earned bythe company. This is one of the important metrics tojudge the attractiveness of a stock, and thus gets thehighest weightage in our risk matrix. NTPCs P/E onour estimated FY10 earnings stands at 19.3 times.As such, we have assigned a rating of 1 to the stockon this parameter.

Considering the above analysis, the total rankingassigned to the company is 79 that, on aweighted basis, stands at 5.6. This makes thestock a medium-risk investment from a long-term perspective.

Valuations

We had recommended a Hold on NTPC in March2009 at Rs 177 with a 2-year target price of Rs 220.Since then, the stock has gone on to meet our

target. At the current price of Rs 207, it is trading ataround 2.4 times our estimated FY12 book value pershare.

We reiterate our HOLD view on the stock, this timewith a higher target price of Rs 265. This implies anupside of around 27% from the current levels. Wehave arrived at the intrinsic value of the company(which is ultimately the target price) using thediscounted cash flow method. As such, we shall notspecify any particular investment horizon for thestock but would expect investors to hold it from a 2to 3 year perspective. Overall, we continue to derive

confidence in the companys ability to execute large-scale projects and generate adequate cash flows tofund its expansion.

Valuations

(Rs m) FY09 FY10E FY11E FY12E

Revenue (Rs m) 442,453 506,698 569,888 642,987

PAT (Rs m) 80,925 88,747 86,971 90,744

EPS (Rs) 9.8 10.8 10.5 11.0

Price to earnings (x) 21.2 19.3 19.7 18.9

Price to book value (x) 3.0 2.7 2.5 2.4

Table 1- NTPC's owned projects under construction

Project Capacity (MW) Fuel Esti. Cost (Rs m)

Sipat-I (Super-critical) 1,980 Coal 83,234

Barh-I (Super-critical) 1,980 Coal 86,930

Korba-III 500 Coal 24,485

NCTPP-II, Dadri 980 Coal 51,353

Farakka-III 500 Coal 25,704

Simhadri-II 1,000 Coal 50,385

Bongaigaon 750 Coal 43,754

Barh-II (Super-critical) 1,320 Coal 73,410Mauda-I 1,000 Coal 54,593

Rihand-III 1,000 Coal 62,308

Vindhyachal-IV 1,000 Coal 59,150

Kol Dam 800 Hydro 45,272

Loharinag Pala 600 Hydro 28,951

Tapovan Vishnugad 520 Hydro 29,785

Total 13,930 719,314Source: NTPC FPO prospectus

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Risk Matrix

Rating accorded

Rating Weightage* (A) Rating# (B) Weighted (A*B)

Sector risk - High NA

Company's standing - Medium NAPerformance parameters

Sales 5.0% 10 0.5

Operating margins 5.0% 7 0.4

Long term EPS growth 10.0% 2 0.2

Return on invested capital 10.0% 2 0.2

Technical parameters

Dividend payout 5.0% 7 0.4

Promoter holding 10.0% 10 1.0

FII holding 5.0% 10 0.5

Liquidity 10.0% 10 1.0

Safety parameters

Current ratio 5.0% 7 0.4

Debt to equity ratio 10.0% 6 0.6

Interest coverage ratio 5.0% 7 0.4

P/E ratio 20.0% 1 0.2

Final Rating** 79 5.6

# Rating has been assigned on the basis of the company's performance over the past five years and expected performance over the next 3 to5 years. Rating is on a scale of 1 to 10, with 1 indicating highest risk and 10 indicating lowest risk. * 'Weightage' indicates the relativeimportance in percentage terms of the parameter. For instance, for an investor, given all the performance metrics, Return on Equity should bethe foremost criteria for buying/not buying stocks. ** The final rating has been arrived at by multiplying the rating/points given on eachparameter with the respective weightage

Financials at a glance

(Rs m) FY09 FY10E FY11E FY12E

Sales 442,453 506,698 569,888 642,987

Sales growth (%) 14.5% 14.5% 12.5% 12.8%

Operating profit 105,437 119,548 117,559 122,651

Operating profit margin (%) 23.8% 23.6% 20.6% 19.1%

Net profit 80,925 88,747 86,971 90,744

Net profit margin (%) 18.3% 17.5% 15.3% 14.1%

Balance Sheet

Current assets 324,633 341,135 366,515 437,657

Fixed assets 658,954 658,222 673,054 680,180

Investments 116,960 114,621 112,328 110,082Total Assets 1,100,547 1,113,977 1,151,897 1,227,919

Current liabilities 120,334 138,235 161,508 185,790

Net worth 575,738 626,338 675,926 727,666

Loan funds 388,226 349,403 314,463 314,463

Other liabilities 16,249 - - -

Total liabilities 1,100,547 1,113,977 1,151,897 1,227,919

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Equitymaster Agora Research Private Limited. All rights reserved.

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