Motilal Oswal Retail Research in its latest report has come-up with an investment idea in the stock of Indian Energy Exchange (IEX). This is an electricity exchange that offers a transparent and efficient platform for the Short-Term trading of power.
Huge growth potential:
The report has noted that India's Electricity market is dominated by long-term power purchases (LT PPAs), which account for 90% of electricity generated.
"The need for a Short-Term (ST) market (10% share) is currently driven by supply disruption, load variations and price arbitrage opportunities. However, as LT PPAs slowly get utilized and market reforms pan out, the power market could evolve and shift toward ST. Thus, the long term potential for IEX remains huge, with just 4-5% market share for exchanges in India's power generation (v/s 40% for the two largest exchanges in Europe)," the report has stated.
New product launches to aid market share gains:
"We expect market share gains for IEX to continue with: 1) its entry into the Real Time Market (RTM), facilitated by higher renewable penetration and peak power management, 2) the launch of Longer Duration Contracts (LDCs), and 3) continued opportunities for Open Access (OA) consumers, supported by an oversupplied market. Expect IEX's share within ST to increase to 53% in FY23 from 39% in FY20," Motilal Oswal Retail Research has stated.
Low operating cost structure aids profitability and cash generation:
It also believes that a 16% CAGR in volumes over FY21-23 would drive a 16% CAGR in revenues.
"The cost structure is lean, with an EBITDA margin of 80%. Given the company's lean operating structure, we expect the EBITDA margin to increase 140bps, led by a sharp uptick in volumes, resulting in a 17% CAGR in EBITDA and 16% CAGR in PAT over FY21-23. Furthermore, with an insignificant capex requirement and negative working capital, FCF generation would remain high and broadly mimic growth in profitability.
Growth in the gas exchange platform could provide upside: IEX is trying to rope in multiple players as strategic partners in its wholly owned subsidiary - Indian Gas Exchange (IGX) which is India's first gas exchange. It has already attracted investment from Adani Total Gas, Torrent Gas and Gail and is in talks with NSE. India is targeting rapid growth in natural gas' share in the overall energy basket from 6% now to 15% by 2030. This creates a need for a transparent and market-driven pricing mechanism and IGX is a step towards achieving that goal," the report has stated.
Valuation & view:
The launch of newer products such as RTM and Green Term-Ahead Market (G-TAM) has provided a fillip. In particular, RTM exceeded >1BU for Dec and contributed ~14% to IEX's electricity volumes for 3Q. There is massive long-term potential for IEX given the nascent market share for exchanges in India's power generation. With new product launches, a continued oversupplied market, and IEX's competitive positioning, we expect volumes/PAT for IEX to increase at a 16% CAGR over FY21-23. Given the strong growth and high return profile (RoEs of 45-50%), the stock trades attractively at 33x FY23E EPS.
The report has noted the key risks as below:
(i) transaction fee cuts, (ii) increased competition intensity, (iii) stagnant share in the ST market, (iv) a change in market design and (v) implementation of market coupling.