Value Pick. Neyveli Lignite (A GOI Enterprise) A.K.Prabhakar CMP 102 BUY Target 130

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1 Neyveli Lignite (A GOI Enterprise) A.K.Prabhakar CA Vivek Gujrati Shweta Prabhu CMP 102 BUY Target 130 Neyveli Lignite (NLC) possesses several positives such as a backward integrated business model, negligible fuel supply risks, strong experience in setting up & operating power plant sand captive mines, fixed RoE model with incentives to reinvest in business, low generation costs. We think in current circumstances where Coal is big issue in country for coal based plants. NLC is one of the best pick in power sector with relatively low risk and high reward. Investment Arguments Key Matrix Price 52 W H / L Market Cap ( Rs. Mln) TTM EPS TTM PE Dividend Yield (%) NSE Code BSE Code / NEYVELILIG ~ Fully integrated power player, captive mines eliminates fuel risk ~ Power generation capacity to grow 5-fold by 2017 ~ Protected ROE mechanism & good customer base ~ Healthy Balance Sheet ~ Projects Details ~ Diversifying fuels basket and reducing geographic concentration ~ Potential Disinvestment Candidate ~ Valuation Company Description Income Statement ( Summary ) FY 2011 FY 2010 Sales Operating profit (loss) Pretax Income Net profit (loss) Diluted EPS Diluted Wtd. Avg Shares Reference Items EBITDA EBITDA Margin Operating Margin Profit Margin (Rs. in million) Neyveli Lignite Corporation Limited is engaged in lignite excavation and power generation using lignite excavated. The Company is having three lignite mines named as Mine I, Mine II and Mine IA. The company sells its lignite to small scale industries for use it as fuel in their production activities. It is also involved in the generation of thermal power. The company operates thermal power stations comprising Thermal Power Station-I with 600 mega watts, Thermal Power Station I Expansion with 420 mega watts, and Thermal power station-ii with 1,470 mega watts power generation capacities, as well as operates the Barsingsar Thermal Power Station with 250 mega watts power generation capacity. During the year ended December 31, 2011 (fiscal 2011), the overburden removal from all mines put together was lakh cubic meter. During fiscal 2011, the total Lignite production was lakh tons. During fiscal 2011, the overburden removal was lakh cubic meter. During fiscal 2011, the power generation from all power plants of the Company put-together million units.

2 Quarterly Income Summary FQ FQ Sales Operating Expenses Operating profit (loss) Interest Expense Net profit (loss) Diluted EPS Diluted Wtd. Avg Shares (Rs. in million) Shareholding Pattern (%) Dec,11 Sep,11 Foreign Institutions Promoters Public & Others Fully integrated power player, captive mines eliminates fuel risk Neyveli Lignite Corporation (NLC) is a fully integrated power generation player with a current capacity of 2,740 MW. NLC is the largest owner of lignite mining capacity in India of 30.6 mn MTPA and lignite reserves of 735 mn MT (produces ~ 80% of the total lignite production in India). Its own mines cater to 100% of the fuel requirement, thus, insulating the company from price increases in the raw material. Secondly, the lignite mines are located near the power plants thus providing cost advantage to the company. Further, lignite mines proximity to power generation plants and raw material supply based on transfer pricing (fixed by CERC) result in favourable EBITDA margins for the company. Power generation capacity to grow 5-fold by 2017 NLC is targeting to double its lignite mining capacity by FY2017. NLC plans to increase its current power generation capacity to 4,290 MW (1.5times) by FY and to 13,790 MW (5-fold) by the end of the 12th Five Year Plan. The lignite capacity of the company is planned to be more than doubled to 64.9 mn MTPA by FY2017.The total investment in the projects is expected to be more than Rs.567 billion. The company is diversifying across fuels and geographies which would help mitigate the geography concentration risk (heavy rainfall that hampered production and hence profitability) by FY2017 when ½ of the total capacity is expected to be based on fuel other than lignite and ~ 60% would be based in states other than Tamil Nadu. Protected ROE mechanism & good customer base NLC being a state-owned entity, its tariffs are regulated by the Central Electricity Regulatory Commission (CERC) norms. Power generation by the company is based on the (Return on Equity) ROE concept under which all costs are a pass-through and the power plant makes a fixed post-tax ROE of 15.5% (pre-tax 23.8%) with the plant being financed by a debt: equity ratio of 70:30. NLC s major customers for the sale of electricity are the State Electricity Boards of Tamil Nadu, Andhra Pradesh, Kerala, Karnataka and the Union Territory of Pudducherry. Apart from the captive use, NLC sells lignite to the 250 MW independent power

3 project of ST-CMS Electric Co, Tamil Nadu Newsprint Ltd and some cement units in Tamil Nadu. Healthy Balance Sheet NLC has a healthy balance sheet with cash balance as on September 2011 of Rs million. In addition, the company has investments of Rs million. Sundry debtors on NLC s books (Sep,2011) is Rs million i.e. 7% of net sales. As against this, the company has a debt of Rs million. Debt to market cap ratio is around 0.29 which is lowest in industry while RoE is relatively higher among peer group category. Projects Details NLC is poised for a rapid growth in mining and power generation capacity and is expanding its activities not only at Neyveli (Tamil Nadu state) but also in other parts of the country. Apart from above project NCL is also building power plant in Utter Pradesh, Jharkhanda, Gujarat & Orissa to diversify its product portfolio.

4 Diversifying fuels basket and reducing geographic concentration Of the expected incremental capacity of 11,050 MW expected to be operational by the end of 12th Five Year Plan - 1,550 MW is expected to start commercial operations by FY2013 with a total cost of Rs.7676 million - 7,300 MW would be based on fuels other than lignite (coal and wind) i.e. 2/3rd of incremental capacity and ½ of the total capacity - 6,500 MW (~ 60%) would come up in regions other than Tamil Nadu Apart from a 50 MW wind mill power plant (project cost of Rs3.1 bn) being set up in Tirunelveli district in Tamil Nadu, the company has also proposed to set up a 25 MW solar power project. On the thermal power project front, NLC is also exploring possibilities for participating in Ultra Mega Power Projects. Even after the increase in capacity, the power plants of Neyveli Lignite would largely continue to source their fuel requirements through captive resources with only 28% of the total increased capacity (based on the current plans) expected to be dependent on coal linkages from Coal India. With the coal-blocks allotment opened-up for Central Power Utilities, Neyveli Lignite has plans to take up development of coal blocks either individually or in joint venture. If these plans materialise, it would enable the company to be self-sufficient with its fuel requirements, there by generating higher margins. Potential Disinvestment Candidate The Union Finance Ministry came out with the "minimum public shareholding guidelines" on June 4, 2010, which was later revised in August 9, 2010 that PSUs are expected to maintain minimum public shareholding of 10 per cent within a period of three years. So companies have time till June 3, 2013 to comply with this requirement. SEBI on 4 th Jan 2012 allowed government holding more than 90% in PSUs to reduce their shareholding through an auction to institutional players.

5 Valuation Relative Valuation Stocks P/E FWD P/E:2012 Fwd P/E:2013 ROE P/B NEYVELI LIGNITE CORPORATION NTPC LTD RELIANCE POWER LTD TATA POWER CO LTD ADANI POWER LTD JSW ENERGY LTD CESC LTD Average Financial Estimates Income Statement ( Summary ) FY 2013 FY 2012 Sales Operating profit (loss) Pretax Income Net profit (loss) Diluted EPS Diluted Wtd. Avg Shares PE Ratio Reference Items EBITDA EBITDA Margin Operating Margin Profit Margin (Rs. In millions ) We valued the company based on relative valuation and found NLC very attractive both in terms of P/BV and PE. Average forward PE ( FYe 2013 ) of sector is around 15 which gives NCL price target of Rs. 130 ( 102 *15/11 ). Key Risk - Any disruption in lignite mining activities due to heavy monsoons in the state of Tamil Nadu may hamper the operations of power plants; - Neyveli Lignite may face delays in the implementation of power generation projects leading to escalation in costs on account of land acquisition and environmental clearance issues. DISCLAIMER: This report has been issued by Anand Rathi Share & Stock Brokers Ltd.(ARSSBL ), which is regulated by SEBI. The information herein was obtained from various sources; we do not guarantee its accuracy or completeness. Neither the information nor any opinion expressed constitutes an offer, or an invitation to make an offer, to buy or sell any securities, options, future or other derivatives related to such securities ( related investment ). ARSSBL and its affiliated may trade for their own accounts as market maker/ jobber and /or arbitrageur in any securities of this issuer(s) or in related investments, and may be on the opposite side of public orders. ARS, its affiliates, directors, officers, and employees may have a long or short position in any securities of this issuer(s) or in related investment banking or other business from, any entity mentioned in this report. This research report is prepared for private circulation. It does not have regard to the specific investment objectives, financial situation and the particular needs of any specific person who may receive this report. Investors should seek financial situation and the particular needs of any specific investing in any securities or investment strategies discussed or recommended in this report and should understand that statements regarding future prospects may not be realized. Investors should note that income from such securities, if any, may fluctuate and that each security's price or value may rise or fall. Past performance is not necessarily a guide to future performance. Foreign currency rates of exchange may adversely affect the value, price or income of any security or related investment mentioned in this report.