Coal India - Production Ramp-up to Boost Growth; Maintain "BUY" - Karvy

Coal India (CIL) is best-positioned to benefit from coal deficit, while we like CIL for its high returns, low-cost operation and improved realization any overhang related to FSA obligation and imported pooling.

Policy Reforms: We believe that the concerns over environmental and forest clearances, and the poor financials of the SEBs are likely to reduce, going forward, as the PMO is looking at key power sector issues like fuel supply and SEB reforms.

Improvement Likely on Volume Front: CIL registered record rise in coal output at 9%, while coal off-take recorded significant growth in the last two quarters, and coal supply to Power Sector rose by 12% in Apr-Oct'12. We believe that with these efforts the CIL would be able to achieve highest ever output during this year.

Improved Rake Availability & Logistics: The average rake loading grew 10.5% YoY to 170.6 rakes per day in Apr-Sept'12 (vs. 154.4 rakes in Apr-Sept'110, while the average loading rose to 182.4 rakes in Oct 15, 2012. CIL is set to invest ~Rs. 60 bn in next 4-5 years to develop railway lines in Jharkhand, Orissa & Chhattisgarh.

Rising Domestic Coal Deficit amid Burgeoning Demand: CIL is benefiting from high coal deficit in India on the back of higher capacity addition (110GW) by domestic power utilities. The demand for coal is likely to grow at 8.7% CAGR over FY11-17E, while the output likely to witness 6.7% CAGR over the same period.

No Material Impact of Higher Penalty on FSA Obligation: Based on our demandsupply analysis of 1.5% trigger level, we expect at minimal impact, while the impact could be at 15% of its FY14 earnings at 40% penalty. However, amid higher coal output, we believe there won't be any shortfall of coal below 65% level. At the current rate, we believe that <50% trigger level is unlikely, which could be key factor for CIL to comply with new penalty rate.

Outlook & Valuation

We expect CIL's revenue to grow at 10.7% CAGR over FY11-14 with 3.8% growth in realization, while its RoE & RoCE would remain higher owing to higher realization, margins and optimum utilization of assets. We valued CIL at 14x P/E FY14 earnings to arrive at target price of Rs. 385 per share.

Key Risks:

- Regulatory uncertainty on pricing flexibility,
- Diversion of E-Auction to power sector at notified price, and
- Delays in environmental, and forest clearances.

Source : Equity Bulls

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