We initiate coverage on Adani Ports & Special Economic Zone Ltd, India’s largest private port developer, with an 'Outperform' share price rating and a target price of Rs 186, implying a 24% upside.
With or without Abbot, gearing set to fall: Despite Abbot Point’s (Adani-owned coal terminal in Australia) divestment addressing gearing concerns at APSEZ, concerns over the $807m of corporate guarantees provided to Abbot’s lenders continue to exist. While such concerns are valid, our analysis suggests that APSEZ’s consolidated gearing is set to decline (from 3.4x as on Mar-2013 to 1.4x as on Mar-2016) even in the worst-case scenario of Abbot Point returning to APSEZ’s balance sheet. This is likely to be driven by strong core operating cash flows from flagship asset, Mundra Port and reducing losses at Abbot Point.
Further, APSEZ has already incurred a bulk of capex in the development of its port assets and incrementally, we expect only Rs 28 bn capex until FY17. However, reported operating cash flows have been impacted by a sharp increase in loans and advances (Rs 47 bn during FY13/H1FY14), which the management has attributed to cash deployment to earn higher yields.
Concern of Adani Power stress spill-over overstated: Potential diversion of port cash flows towards Adani group’s stressed power business (Adani Power) is another key concern for APSEZ. However, APSEZ should continue to largely remain insulated from stress at Adani Power. In the worst-case scenario, our analysis still suggests no downside for APSEZ (from CMP-current market price) even if it is forced to fund up to 85% of Adani Power’s cash deficit over FY14-18e from Mundra Port’s free cash flows. For this analysis, we assume that Adani Power does not get any PPA (power purchase agreement) renegotiation for its Mundra power projects, lenders do not agree to restructure any of Adani Power’s loans, and Mundra Port is forced to fund Adani Power’s cash flow deficit (for all years over FY14-18e) from its free cash flows, which we believe is an extremely pessimistic assumption.
Coal imports to drive Mundra’s 14% cargo CAGR: We expect Mundra's 14% volume CAGR (compound annual growth rate) to be driven by 21% CAGR in coal volumes and 15% CAGR in container cargo. Our analysis suggests that India’s coal import needs should reach 247 mt by FY17 led by demand from domestic coal deficits. Mundra Port, due to its surplus coal capacity (100 mtpa by end-FY14) and superior