Why power stocks are a healthy combination of high growth and reasonable valuations

There is a strong correlation between growth rate and power consumption and demand. From FY17 to FY24, power demand grew at a higher CAGR of 6.2% compared to the previous seven years, FY10 to FY17, which grew at a CAGR of 4.3%. During FY10 to FY17, India's increased at a faster rate than demand (10.7%), which led to a decrease in the use of coal plants. However, starting in FY17, this trend has reversed (demand growth exceeding capacity growth), with the use of coal plants slowly returning to 10-year highs. (Source: )

India experiences two daily peaks: one during the solar (day time) and one during the non-solar periods (when there is no or little sun). Both experienced growth of more than 10% in FY24. Because make up around 80% of the total supply during non-solar hours as opposed to roughly 70% during solar hours, their utilization levels are higher during non-solar hours. (Source: CEA)

In FY30E, there could be a of about 10% during non-solar hours, assuming a growth in power demand of about 7% and new capacity additions of about 261GW over the period of FY25–30E. This is because, during FY25FY30E, there will be an additional peak demand of 102GW, but there will only be an additional 72GW of plant load factor (PLF)-adjusted supply (because, of the 261GW additions, 57GW will be wind and 153GW will be solar,both of which would be ineffective during non-solar hours). The solution is to build storage capacity so that this massive 153GW extra solar capacity can be used during non-solar hours.

From an investment perspective, we believe, the sector's greatest draw is its consistent mismatch between supply and demand, which is unaffected by global risks. As India struggles to add 15 GW/year of evening supply and demand continues to surprise on the upside, evening power shortages are predicted to persist in the medium term. Consequently, generation capex can exceed twice as that of the previous cycle (due to a combination of thermal energy and storage to balance renewables and renewable energy sources, which are very capital intensive).

Power Sector Value-Chain (India)

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Source:

The overall theme for the sector, according to a research report by Bernstein, would be capex intensity that is two times higher than it was in the previous cycle, with significant import barriers from China that would benefit the entire value chain. For each unit of power supplied, renewable energy sources need to be invested in 2-3 times the amount of a thermal plant, adjusted for PLF. It is anticipated that producers of solar modules and suppliers of transmission equipment will benefit from the opportunities for export and domestic demand.

Investment in Power Generation and Green H2 in India ($ Bn)

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Source: , CEA, Bernstein Research

Power financiers are expected to witness multi-year loan book growth cycle and low default risks because the entire value chain is in a favourable position.

India is expecting its largest power deficit in 14 years in June 2024 as a result of a decline in hydropower generation. India is working quickly to prevent blackouts by postponing scheduled plant maintenance and reopening idled units. As per , the deficit also results from delays in the commissioning of 3.6 GW of new coal-fired power plants, which were supposed to go online by March 2024. Announcements and record additions are therefore necessary.

In addition to the additional thermal capacity being set up, the current grid and transmission lines also need to be prepared for the significant addition of renewable energy sources and eventually .

Attractive valuations

It's a well-known fact that India trades at a record premium to its international competitors. Though this is true for the majority of Indian industries, it's interesting to note that, despite having a clear path for future growth, the power sector trades nearly at par with global averages.

Valuation – 1-Year Forward PE

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Source: Factset, MSCI, Bernstein Research

A long run-way of higher growth coupled with a significant margin of safety in terms of reasonable valuation makes a bull case for the sector in our view.

(The author is Alok Agarwal, Head - Quant & Portfolio Manager, . Recommendations, suggestions, views, and opinions given by experts are their own. These do not represent the views of the Economic Times)