Continued losses at Mundra UMPP and dwindling contribution from the coal segment marred Tata Power's (TPWR) Q2 FY14 results. However, we see some silver linings — the uptick in international coal prices, which have recovered 20% from the recent lows and CERC’s order on compensatory tariff for Mundra UMPP that is likely to be passed as early as this month, allowing CGPL to raise tariffs in beneficiary states (subject to appeal and litigation). We maintain ‘add’ with a target price of R87.
An improvement in coal prices and sustained cost reduction augurs well for the earnings of Tata Power — a combination of improved coal prices (by $10/tonne) and compensatory tariff for Mundra UMPP would imply 90% revision in FY2015E earnings and raise fair value to R130/share. In the absence of the tariff order (as potential litigations may follow) and visibility of sustenance of the current coal price trend, we maintain our earnings estimates of R5.35/share and R5.79/share for FY14 and FY15, respectively.
Coal prices have recovered by as much as 20% from their lows in September 2013. We note that a $10/tonne increase in coal realisations improves TPWR valuation by R21/share in case of full fuel pass-through, at Mundra, and R12/share in case of no pass-through. We previously highlighted the likely bottoming of coal prices near cash costs for the global production basket (~$70/tonne), though we also believe the current uptick can only be sustained through steady demand recovery by key Asian importers — China, India and Japan. We also note steady coal volumes (~20 mtpa) during the past four quarters and consequent improvement in cash cost of production that has gone unnoticed while the focus has been on steady price declines.
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