Initiating Coverage on CESC - Microsec

CESC, flagship company of RP-Sanjiv Goenka group, was incorporated in 1978, now operates in 3 segments - Power (as generation and distribution utility), Retail (Spencers) and Property. Company owns 1225MW of generation capacity and provides electricity distribution services in Kolkata circle. Unlike other power utilities, CESC is immune to the deteriorating financial health of SEBs, since it buys power from them to meet increasing demand for its distribution business. Current valuations at 0.75x trailing adjusted book value fail to assign any value to its turnaround in Spencer and capacity additions in FY14-15. FDI in retail would be the key catalyst for the stock and furthermore its stable RoE in regulatory business, foray into merchant power post expansion and coal linkages for expansion till 2015, will improve its cash flow. Hence, we are initiating coverage on the stock with a STRONG BUY rating and a target price of INR 372.

Integrated Power Utility: CESC is a unique distribution franchise play with back ended capacity additions. CESC has its own distribution arm in Kolkata area, which secures company from delayed payments and longer debtor days. Besides, for securing its coal requirement, CESC has also acquired 26% stake in its group company ICML which meets 45% of the company's coal needs.

CESC to double capacity by FY15: CESC has a generation capacity of 1,225 MW. The company is expected to double its generation capacity to 2425MW by FY15, through addition of 600MW in Chandrapur and 600MW in Haldia, scheduled to commission by May 2013 and Sept 2014, respectively. In addition to this, 3240 MW of thermal capacities are under development.

Kolkata distribution business expected to remain cash cow: West Bengal Electricity Regulatory Commission (WBERC) had recently issued tariff order allowing an increase of Rs0.69/unit vs. demand of Rs0.80/unit to be recovered over 4 years (FY12-15). The tariff increase alleviated concerns on CESC's Kolkata distribution business. It has also increased the regulated ROE by 1.5%.

Stable & Regulated Biz with Assured ROE: CESC operates under regulated business model, which provides the Company with strong and steady income flow. Currently, it caters to Kolkata region with a capacity of 1,225MW having assured RoE at 15.5% & RoE of 15% on distribution.

Spencer's to breakeven by FY15E: Spencer's Retail has already started earning at store level and we expect it to breakeven at corporate level by FY15E. This would be driven by closing of unviable stores, increasing the number of same stores (stores that have been open for a year or more) and changing the product mix to higher margin segment.

Source : Equity Bulls

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