Power sector financing companies’ valuations may be cheap but investors still don’t see value in them. Shares of Power Finance Corp. Ltd (PFC), Rural Electrification Corp. Ltd (REC) and PTC India Financial Services Ltd hit new lows this week after the power minister asked the first two companies to restrain lending to loss-making distribution companies (discoms). The minister’s aim may be to jolt the discoms to mend their errant ways.
But this development also brings to the fore the skewed business structure of these companies, changing dynamics of the power sector and the threat it poses to their prospects.
The power financing companies lend primarily to the electricity discoms (many of whom are loss making). These loans are looked upon as being secure, as the discoms are owned by the states and therefore there is an implicit guarantee. But fault lines began to emerge as lending opportunities reduced, bad loans rose and yields began to shrink.
The December quarter results showed some signs of stabilization, with PFC reporting slower bad loan accretion on a sequential basis and REC showing decent growth in disbursements. But this brought no reprieve. The stocks continued to lose ground as the shrinking net interest margins weighed on investor sentiment. The correction deepened on renewed concerns about growth and bad loans.
Jefferies India Pvt. Ltd warns that the recent lending restraint will add to the growth challenges as about 80% of the electricity discoms’ debt remains concentrated within states whose aggregate technical and commercial losses are higher than 15% (against which the government has suggested lending restriction). “Factoring this, we cut FY17-20E loan growth estimates to 6.6/6.7% for Power Finance Corp. and & Rural Electrification Corp., respectively," analysts at Jefferies India said in a note.
Adding to the concerns is asset quality. With the central bank pushing for resolution of bad loans by the banking sector, there are fears that the coming quarters may see heightened accumulation of bad loans, especially in the private sector.
“We assume a 70% haircut in private sector power exposure, although we have generously assumed ‘zero’ losses on state sector loans. Near-term news flow will remain weak, as we expect downgrades in asset quality," adds the Jefferies India note.
While the headwinds are taking a heavy toll on the stocks, given the limited opportunities and loan quality issues, companies would do well to look beyond the power sector. PTC India Financial Services is diversifying into roads, ports and infrastructure logistics financing. Competition for infrastructure financing may make this a tough business to build. But it will ensure long-term growth prospects and help companies reduce sector-specific risks.