Event: The CERC (Central Electricity Regulatory Authority) earlier today released draft regulations for power trading margins (open for public comments till 10th Nov.,2009).

Impact: We expect this to have a neutral to positive impact on all power trading companies.
The key take-away from these regulations is increase in margins for power traders, from the present flat rate of 4 paise per unit to 1.5% of the purchase price (subject to a maximum of 7 paise per unit – if sale price is more than Rs3 per unit, and maximum of 4 paise per unit – if sale price is less or equal to Rs3 per unit). These regulations are applicable for short-term trades, either through bi-lateral agreements or through any of the power exchanges.

PTC India (Not Rated)
We believe that these regulations, if finalised, would be positive for the company. PTC India is the largest power trader in India with a huge ~40% share. The company derives 44% of its volumes from short-term power trades (FY09: short term power traded volume: 6,064 mn units; total power traded volume is 13,825 mn units). The average selling price for the company was Rs4.60 per unit in FY09, and the average margin was 3.66 paise per unit. Given the company’s revenue and volume composition, we believe that these new regualations can only help the company increase its profitability as all the increases in the regulated margins would flow directly to the bottom-line.

Note: Our assumptions include increase in average trading margins from 3.66 paise per unit to 6.0 paise per unit, and a 20% growth in volumes. In Q1FY10 PTC India’s power traded volumes were up 56% YoY to 4,204 mn units, with average realisation at Rs5.64 per unit and margin at 5.21 paise / unit.

PTC current trades at ~25x the FY11 consensus EPS of Rs4.22. We expect these estimates to be upgraded by at least 60%-70%, indicating that even after the today’s run-up in the stock price, PTC India trades at ~14.8x FY11 estimated EPS.

The other players that could benefit include Tata Power.

CERC has, through a draft order, annouced that power tariff for all day-ahead transactions is capped at Rs11 per unit (kWh). This cap is applicable to all merchant power transactions whether through the power exchanges or on a bi-lateral basis. The CERC has also stated that this order is valid for the next 45 days, during which time (on 8th Sept, 2009) it would hold a public hearing. The commission would review it’s decision after these 45 days.

As of now, the power exchanges trade only in the day-ahead segment, all transactions for longer durations are on a bi-lateral basis. We do not rule out CERC capping these rates in the near future.

Since the beginning of the current water year (June 2009 to May 2010) the power tariff on the IEX has been higher than Rs11 / kWh on 20 days, with the max price reaching Rs17 / kWh on 13th Aug., 2009. Similarly, in the current water year there have been 9 days when the average price has been higher than Rs11 / kWh. Today the power day-ahead rates on the IEX was Rs3 / kWh to Rs12 / kWh.

As mentioned in our earlier reports (see below) this would be negative for players with large merchant / captive capacities. Further, we do not expect this to have any impact on power traders such as PTC as their margins are capped at 4 p/kWh, irrespective of the purchase / sale price of power.

We expect this to be negative for GMR Infra which sells merchant power from its Tanvir Bawi power plant. The other stocks which could be negatively impacted are JPSL, JSW Steel, Nava Bharat, etc.

Links: (1) Draft Order, (2) Public Notice

Merchant / Spot Rate on the Power Exchanges

Note: Spot rate on the power exchanges refers to the rates for power to be supplied the next day (day-ahead rates)
The spot prices of electricity had been trending downwards since the beginning of May, which was also the peak summer season when one would have expected the spot rates to rule higher. From Rs15.00 per unit at the high point on 1st May,2009; by the end of May, 2009 the scenario was such that there were no buyers (implying a zero rate) for a period during the day.
However, the past three weeks since 26th July, 2009 the rates for short-term power has shot up from Rs2.68 per unit to Rs12.83 per unit on 11th August, 2009 (yesterday). More significantly in the past week alone the electricity rates have increased from Rs6.36 per unit.

Spot prices since Jan 2009

Spot prices since May 2009

Given the operating mechanism of the power exchanges in India today, all the trades are based on actual delivery and on a day-ahead basis (i.e. for power to be supplied the next day), and hence it is difficult to precisely forecast what can it expected in the next fortnight or month.
We believe that concerns stemming from lower than normal rainfall, with a possibility of drought in substantial parts of the country, is driving short-term power rates higher. We also believe that if the rainfall situation does not improve, power shortages would increase over the next two months, resulting in even higher power prices.

While utilities such as Tata Power & Torrent Power would benefit to the limited extent of merchant capacity, utilities such as GMR Infrastructure, Adani Power, etc which have larger merchant power capacities would benefit in the short term from higher merchant / spot prices. In addition, players in the metals sector with large captive power plants such as JSPL, JSW, Nava Bharat Ventures, etc would also benefit. Power trading firms such as PTC would benefit only due to increased volumes, as their margin on inter-state power trading is capped by regulation. However, it should be noted that the power is not storable & that the total volume of power traded is still very low in India.

Thus, though these rates are not a benchmark, they do offer some indication.

Note: All analysis based on data from IEX, one of the two operational power exchanges in India.