“But that said, there are new use cases of power coming up. One is data centres. Second is electric vehicles. And third is green hydrogen. So, all these three combined create the possibility of upside to this long-term demand growth expectation for the power sector in India,” says Nikhil Nigania, Director, Bernstein.
I just want to understand, overall, when you are looking at the power sector, we every time talk about in terms of the demand trends that are there for the power sector as well, what is it that one should look at right now in terms of the demand trends, given that data centres are also something that is a key focus area for most of these companies? Is that something that is interesting for you?
If you can see, in terms of power demand, last three years have been quite good in India. We have seen high single-digit growth in power demand in India. Going forward, if we look at it, we typically expect power demand to grow in line with the real GDP growth, that is the volume growth expectation we have from a longer-term perspective.
But that said, there are new use cases of power coming up. One is data centres. Second is electric vehicles. And third is green hydrogen. So, all these three combined create the possibility of upside to this long-term demand growth expectation for the power sector in India.
With each of these energy modes comes the entire infrastructure as well along with it. So, just walk us through that when you talk about the power infra, what all does it entail in terms of investable options?If we look at the power value chain, in terms of the equipment supplier, there are a bunch of them. So, one of the most interesting ones where there is a big interest, not just in India but globally, is the transmission equipment suppliers.
There is Hitachi, Ge T&D, Siemens, CG Power, a number of players in that space in India. And then there are conductor and cable companies as well. The likes of Apar and so on, so that is the transmission bit of the value chain.
Then, there are the equipment suppliers to the generators, where for thermal you have the likes of BHEL.
For solar, you have the likes of Waaree, etc. And for wind, you have the equipment suppliers again in the sense of Suzlon and Inox. So, these I would say are the broad spectrum of power equipment suppliers in the Indian landscape.
Given that there have been so many steps as well taken by the government on this front, how have you looked at all of the progress made? Being election year, is there some sort of more thrust within this space that you are expecting?
Oh, absolutely. See, power sector we think is up for a multi-year capex cycle. We have no doubts on that because there is a combination of these factors. There is strong power demand growth and we are trying to do energy transition at the same time and there are these new use cases of power coming up.
So, all of it put together, we think we are completely set up for a multi-year capex cycle in the power sector in India for which these equipment suppliers are very big beneficiaries from the value chain.
And from a government perspective, in terms of what steps they are likely to take, I think one of the immediate challenges we have in India is something we have been talking about for some time, is the evening power shortage, that we have enough power in the daytime but when the sun goes out that is when the challenge really comes for us, so that is one area of which we expect the government to address.
And second again is the transmission side, the grid side. We have excellent grid but incrementally as all these use cases and all this capacity comes up, grid will definitely become a constraint where the government will have to focus to expedite new substation and transmission line commissioning.
Just curious to understand what has changed in the last few odd years for everyone now looking to power as a sector, I mean there was always that demand shortage, power was always a problem in many parts of the country but why now?
So, what has happened, if you look at the history of India’s power cycle, so the first big leg started in 2008 and 2009 where Jindal Steel and Power set up a merchant plant, made a lot of money and others followed suit.
Before 2013-14, we had big shortages in power. Post that, within a span of three-four years we saw a number of thermal plants come in and there was not power shortage per se for about a period of five years from 2015 to 2020.
There was a very negligible power shortage. But during that phase, we stopped investing in new thermal power capacity and we did not have even at storage. We only kept adding solar. So, that five years of limited investment in this space is leading to us where we are today, where now we have shortages in the evening hours.
One, we have power shortages in the evening hours and second, as I said, energy transition is something which is getting a big thrust. So, these two things combined is what is causing a big cycle, so power shortage and energy transition, that is what has changed.
We spoke about the evening power shortage, the non-solar hours power shortage, that is where the trend is right now. But do you think the transmission side, that is quite important as well and is that something you see that is going to be given more importance or the more capex that is going to be required on that front from companies as well?
Completely agree, they are both important. So, we initiated on NTPC last year on the evening power shortage theme because we thought we needed more thermal plants than what we had early envisaged. But over time, as we discussed with renewable companies in this space, as we discussed with the other industry stakeholders, we realised the transmission grid is becoming a massive challenge to add all these renewable capacities.
So, renewable is intermittent. Renewable tends to be geographically concentrated. Hence, you need a massive transmission capex to be done to evacuate that power from the remotest areas of Gujarat and Rajasthan to the rest of the country. And hence, Power Grid is one name in our coverage, which we like from a transmission grid capex perspective.
I wanted to understand from your perspective, what the outlook is when it comes to the power financiers really benefiting from capex, low renewable NPA risk, how you are looking at that theme?
We do not cover the power financers. But as you look at the value chain, there are the equipment suppliers which we discussed earlier; there are the developers, the likes of NTPC and Power Grid and the third chunk is the power financers, who would be the ones funding all this capex.
So, they obviously stand to be a key beneficiary in terms of loan book growth because given the quantum of capex needed, someone has to fund them. And usually, these are very long duration loans. For renewable plants, you need loans as long as 20 years, so they are not the ideal set of loans for banks to participate in. So, power sector NBFCs become the ideal candidates to fund those kind of projects.
Additionally, if you look at the NPA risk, so the last cycle in India, a lot of plants were set up without a power purchase agreement hence the plants got distressed. This time, the majority of the renewable plants coming in India are with 25-year-long power purchase agreements with good visibility on cash flows.
Hence, the NPA risk in a renewable plant by nature is much lesser than what it is in a thermal plant which we had in the last cycle. So, hence, both these aspects benefit the power sector financing companies.
The other thing is that power is now a discovered story in the market. So, basis the investment implications, where is it that you find value on the table still and what is your pecking order?
You are right as a theme it is a very strong theme, but the stocks have re-rated quite a bit over the last year. Within our coverage, our preferred number one is Power Grid, followed by NTPC. We think the government-owned companies, both of them, have an inherent advantage in this cycle given the low borrowing costs they have and the access to tonnes of capital which they have.
Those are two names which we like. And on the construction side, we cover L&T, which we think is a beneficiary of the power capex, broader India capex, and Middle East capex as well.
These three names are the ones in our coverage which we like to play the power sector theme. But yes, I mean, to your point, valuations have re-rated quite a bit, the upsides unlikely to be anything similar to what we had last year.
And across the spectrum, what do you think would be the biggest challenges and what would be the three biggest levers for growth?
In terms of challenges, for all of them, as I said, the grid is becoming an incremental challenge, not just in India, everywhere in the world. Any country you take, whether it is UK or US, just we do not have enough grid to add all the renewables that we want, so in India also incrementally we think grid could be one constraint. Second could be land. Renewable has a big footprint, so adding all those solar and wind plants is not going to be easy.
So, these two, I would say, are big challenges to the power story. And other than that, the third challenge, I mean, the stocks also react a lot to interest rates, so high interest rates impact the returns of renewable companies, for say. So, these three are the challenges that we foresee.
