In the last month alone, the company has announced that Phase-2 of its Balavenkatpuram wind farm in Andhra Pradesh has been commissioned to add 50MW to Greenko’s operating capacity and take the total to 476MW, representing a 54 per cent increase since April. It also means that wind power capacity accounts for half of total power generation.
The capital cost of €43m (£36m) and anticipated plant load factor of 30 per cent are both inline with broking house Arden Partners’ expectations. Importantly, the benefits of using the Gamesa G97 turbines, with 97m blades that have been optimized for the relatively low wind speeds in the country, means that the farm will deliver the lowest cost per MW/hour in India. The third phase at the site is expected to be commissioned in June to add a further 50MW of operating capacity before the monsoon season kicks in. In addition, analyst Adam Forsyth at Arden expects project completions at Mangalore and Basvanbagewadi will lift capacity to at least 643MW in the coming months. In addition, Greenko has just announced the acquisition of the Budhil 70 MW run-of-river hydropower plant in the Chamba district of Himachal Pradesh, near Greenko's existing assets.
Profits set to flow from acquisition
The plant is being acquired from Lanco Hydro, one of India's leading private sector power developers, for a total consideration of €77m (£63m), funded from project finance debt and internal resources. The facility is fully built and is completing its stabilisation phase, with power sold through an open market purchasing power agreement. The project’s average load factor is expected to be around 57 per cent and according to Greenko’s chief executive Anil Chalamalasetty will deliver €14m of annual cash profits over the long term, based on current exchange rates. Once final pro-forma approvals are received from the State and the banks, Greenko expects to recognise revenue from Budhil at the start of its 2014-15 financial year.
This means that Greenko now has 12 run-of-river hydropower projects operating in its Himachal Pradesh cluster, totalling 141 MW. These projects have a strong hydrology profile due to their position at the base of the Himalayan Mountains, with diverse water catchment sources including snow melt, rainfall and glacier melt. In a normal hydrology year, the total Himachal portfolio should have a plant load factor in excess of 60 per cent. Greenko also has outline agreement to acquire two additional smaller projects in the Kangra district of Himachal Pradesh, from Lanco Hydro. These plants will add a total of 10MW to capacity when they complete later this year.
In addition, I understand that a further four wind farms, totalling 151 MW of capacity, are expected to be commissioned by the start of this year’s main generating season, which begins with the monsoon in July. This means that Greenko is making strong progress towards achieving its 2,000MW operating capacity target by 2018, double the target for 2015, and is delivering on its strategy of creating a diversified hydropower and wind portfolio for India's high demand power market, supported by a reliable roll-out of high yield assets to accelerate. It also has funding in place for execution following a £100m investment in Greenko Mauritius by an affiliate of the government of Singapore Investment Corporation (SIC), one of the world's leading sovereign wealth funds. In turn, the ramp up in capacity is expected to lift Greenko’s profits significantly in recent years.
Ramp up in profits and earnings
Following the Himachal Pradesh acquisition, Arden Partners has lifted its cash profit estimates for the financial year to March 2015 from €87.3m to €94.3m on revenues of €99m, to generate pre-tax profits of €42.2m and EPS of 15.4c. However, the full benefit of the transaction is expected to be seen the following year and, when combined with the higher output from Greenko’s operating capacity, revenues are predicted to grow to €152m in the 12 months to March 2016. On this basis, Arden has upgraded its cash profit estimates by 13 per cent to €144m for that financial year to produce pre-tax profits of €62.9m and EPS of 23.2c.
To put the scale of the increase in revenues and profits into some perspective, Greenko reported revenues up by almost a third to €27.9m (£23.2m) and adjusted cash profits up by half to €24.6m in the six months to end September 2013, driven by a near 75 per cent increase in operating capacity from 244MW to 426MW. The group invested €118m in operating capacity in that six-month period. Arden Partners forecasts that Greenko's revenues will rise from €36m to €50m in the financial year to March 2014 to produce pre-tax profits of €14.1m and EPS of 5.4c.
In other words, Greenko is predicted to treble revenues in the next two financial years, lift pre-tax profits by almost 350 per cent and more than quadruple net earnings per share. If the company achieves successful execution of its development pipeline, and the execution record to date has been impressive, then in a couple years time Greenko will be making EPS of 20p, four times more than the 4.5p expected in the financial year to March 2014. Or put it another way, with the shares trading on a bid-offer spread of 170p to 172p, they are being valued on a modest 13 times prospective earnings for the financial year to March 2015, falling sharply to a bargain basement 8.5 times estimates for the following year.
Importantly, there is clear visibility on how these revenues are going to be generated from a designated pipeline of new capacity across a number of wind and hydro projects in India. It’s also worth flagging up that all of Greenko's renewable projects can achieve grid parity, the point at which they do not rely on state subsidies to turn a profit. In fact, due to the relatively high cost of coal in India, the cost of wind and hydro generation projects is below that of coal fired projects. In turn, this places the company in a far better position than other developers of renewable projects in other parts of the globe, not to mention an enviable position too.
Equally clear to me is that if Greenko can hit its targets over the next 15 months, as seems realistic given the company has both funding and a development pipeline in place, then it is only reasonable to assume that the share price will start to reflect the upside that the SIC sees in the revenue-generating potential of the power generation assets.
Positive technical set-up
Having first recommended buying Greenko shares when the price was 138.5p ('Buy signal flashing green', 18 Mar 2013), and subsequently repeated the advice in the past eleven months, the shares came close to hitting my 200p target price earlier this year. A pull back of some sort was always likely from the share price peak of 190p in mid-January given that the 14-day relative strength indicator (RSI) was very overbought at the time with a reading of 80.
Reassuringly, this pull-back has been modest and the share price appears to have found strong support at the 20-day moving average at around 170p. Furthermore, it has enabled the 14-day RSI to unwind to a neutral reading around 50, so offering scope for the share price to start the next leg of the bull-run from a more neutral relative strength position.
For good measure, although the trend-following moving average convergence divergence momentum indicator, known as the MACD, is below its ‘signal line’ and has been in a downtrend since the January highs, it looks as if it is could be on the point of bottoming out. The MACD is calculated by subtracting the 26-day exponential moving average (EMA) of the shares price from the 12-day EMA. A nine-day EMA of the MACD, called the ‘signal line’, is then plotted on top of the MACD, functioning as a trigger for buy and sell signals. For Greenko, a positive crossover of the MACD above the ‘signal line’ would certainly take place if, as I believe, the share price has now bottomed out and the next leg of the bull run is about to start.
Determining a fair valuation for Greenko
So, with Greenko making strong operational progress, and profits and earnings set to ramp up sharply over the next couple of years, it’s hardly surprising that investors are now taking notice of the potential for the shares to do well too.
Analyst Harold Hutchinson at brokerage Investec has a target price on the shares of 275p. To arrive at this figure a number of metrics including valuing capacity have been analysed. Mr Hutchinson notes that: “Given the over-riding ‘net short’ position in the Indian power market, in practical terms we would expect Greenko assets to trade at a premium to new build costs, reflecting the value of having assets actually in the ground to benefit from the excess demand for power. The question boils down to estimates of new build costs, and a reasonable ‘premium’.’ Investec use an estimate of €0.8m/MW for new build of wind and €1.1m for hydro in India. On this basis, their capacity multiples approach suggest a fair value for Greenko’s shares of between 251p to 417p.
Investec also look at the cash profitability of the business in relation to the company’s enterprise value (market value plus net debt). The advantage of this approach is that it captures some of the ‘growth value’ of a company, rather than just the value of the assets in the ground. True, the ‘fair’ cash profit multiple valuation for a company is dependent on a number of factors including: underlying cash flow, the age of assets, the underlying tax rate, weighted cost of capital employed, and longer-term growth.
That said, a high growth company like Greenko should be able to achieve a multiple of between 9 to 11 times cash profits, according to Mr Hutchinson. On this basis, Investec expect Greenko to generate cash profits of €144m in the financial year to March 2016, and after factoring in net debt of €551m, analysts arrive at a value of the equity between 295p and 453p a share.
On this basis, Investec’s 275p target price doesn’t seem unreasonable and makes the 245p target price of Arden Partner’s look very conservative. It also makes my 200p target on the low side too. So having factored in the operational progress being made and the benefits of the Budhil acquisition, I have decided to upgrade my fair value target price range on Greenko shares to 225p to 230p, or the equivalent of 11 times earnings estimates for the financial year. This could prove conservative.
So trading on a bid offer spread of 170p to 172p, valuing the company’s equity at only £259m, and offering 30 per cent plus upside to my new target price, Greenko is a growth company well worth buying into.
