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CESC: Aggressive coal mine bid triggers earnings cuts

News that CESC Ltd has managed to retain its existing coal mine Sarisatolli in the auction brought no comfort to investors. Compared with the broader S&P BSE 500 index’s gain of close to 2%, CESC lost 16% of its value from the auction date to 2 March. Even though the stock recovered a bit on Tuesday, it is still lower than the pre-auction levels. Weighing on the stock are concerns about the company’s negative bid. For every tonne of coal CESC extracts from the mine, the company proposes to pay the government Rs.470. In this case, the cost is non-recoverable in the power purchase agreement (PPA). True, the coal mine provides fuel security to CESC’s Kolkata generation capacity of the Budge Budge plant. But non-recoverability of cost means the company stands to lose. According to ICICI Securities Ltd, the negative bid can lead to under-recovery of 57 paise per unit, amounting to an annual loss of Rs.230 crore. The company plans to use a portion of the coal produced from the mine to generate power it can sell, which offers better realizations. This can lower the loss by around Rs.180 crore, analysts say. Even after accounting for this, the stand-alone company can be hit by annual losses of Rs.40-50 crore. “As per CESC management, the cost of mining at Sarisatolli is in the range of Rs.450-500/ton. Accordingly, in FY16, CESC would incur a non-recoverable cost (loss) of Rs.820-870/ton of coal utilized to generate electricity sold via medium/long-term PPAs and Rs.875-925/ton of coal utilized to generate electricity sold on a merchant basis,” Nomura said in a note. The CESC management hopes to recover the amount through fixed cost escalation. But analysts doubt if it will be allowed to do it. “While the management has indicated at passing on the same by escalating the fixed cost, we have refrained from doing the same, factoring the commentary made by the Coal Secretary, which suggests that such loopholes will be capped while fixing the final tariff,” ICICI Securities said. Fearing under-recovery, Nomura lowered its earnings per share (EPS) estimate for CESC for the current and next fiscal years in the range of 5-14%. ICICI Securities reduced its EPS estimate for the next fiscal by 12%. In short, CESC is paying a hefty price for fuel security. Good merchant power prices and healthy off-take can limit the damage.


source:http://www.livemint.com/Money