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Power: Long way to go!

Sep 12, 2003

The rally seen on the Indian bourses seems to have been driven largely by fundamentals. This can be mainly attributed to healthy improvement in profitability of India Inc. and also on account of an upturn in the economy. Power and engineering stocks have also been a part of this rally. This optimism was mainly due to developments, which took place in the sector. Most power and engineering companies are trading at their 52-week highs.Power is a utility on which growth of the industrial sector in a country is dependent. Till now reforms in the power sector have remained sluggish largely because of political reasons. However, with the passage of Electricity Act 2003, the sector is expected to witness growth at a faster rate as compared to what it has seen till date.

Company11-Sep-0311-Sep-02% change52 week H/L
BSE-Sensex 4,3933,12640.6%4,474 / 2,828
S&P CNX Nifty1,40399940.5%1,431 / 920
Tata Power19410094.0%200/92
Reliance Energy36921868.7%375/191
BHEL350163114.4%384 / 144
ABB47628666.4%520 / 213
Cummins India825160.5%89 / 45
Siemens44629153.2%456 / 236
Larsen & Toubro (L&T)30418068.6%312/166

One of the major developments, as a result of these reforms, in the sector came through phasing out of the licensing policy. With the passage of the act, the red-tapism involved in obtaining a license to set up a power plant has been done away with. As a result of this, private players are likely to expand their capacities in the long run and their share in the total domestic capacity is likely to move up to 16% (by 2009) from the current 11%. For example, BSES is planning to expand the generation capacity by at least 10 times the existing level by 2012. Tata Power on the other hand has plans to increase its generation capacity by about 70% in the next 6 years.

In the Act, the government has planned that it would pay back the dues of SEBs to the generating companies in the form of securitised assets. Reserve Bank Of India (RBI) has already issued bonds worth Rs 115 bn to power generation major NTPC. This would boost the financial health of the company. National Thermal Power Corporation (NTPC) has plans to increase its generation capacity by about 100% in the next ten years. Though the developments in the sector will take time, over a long term the reforms would definitely boost growth. Thus, Indian power sector companies are likely to benefit immensely from these reforms in the sector.

Coming to the engineering sector, companies here have a major chunk of their revenues coming from the utilities segment. As generation capacities and distribution networks are expanded, an increase in investments in the power sector will directly increase the order book of the companies in the engineering sector. Recently, the order book of BHEL has crossed 2.3x its FY03 sales. ABB also has an order book of about 1x its FY03 sales. This apart, an increase in industrial activity has also helped the companies from this sector to increase their order book size. As a result of this, optimism towards these stocks has gained ground and led to the stocks trading at their 52-week highs.

Though from a one-year perspective, we feel that the valuations have been stretched to some extent, however from a long-term perspective, companies in these (power and engineering) sectors would witness a healthy growth. Thus, investors must exercise caution on this front before making investment decision as far as the time frame of investment is concerned. Any investment decision at the current levels in the sector should be made from a long-term perspective and one should study the company's business model properly before making any such decisions.

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