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Karvy PVT.LTD.

A FINAL REPORT ON VALUATION OF NTPC BY DCF METHOD

BY KAUSHAL KISHORE JAISWAL KARVY PVT.LTD.

A Final Report submitted in partial fulfilment of the requirements of MBA Program of JAIN UNIVERSITY, BANGALORE

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Acknowledgement
I would like to convey my appreciation to some parties that have made my project a success. I have achieved my goals, largely due to the support and courage I received from many sources. I would also like to say that the contributions by everybody towards the success of the project add a feather to the hat. The order of people that are recognized here goes without any prioritization. First and for most, I would like to thank Mr. Shomesh Kumar(Derivative Research Head), Karvy Pvt. Ltd. for giving me the opportunity to do my Internship in this company. I would like to thank my Fundamental research Guide Mr. Rahul Singh, for all his dedication and effort in giving me guidance and knowledge about the project. He has always been willing to help me when I was lost and her kind and positive disposition motivated me at times when I was on the verge of giving up. His patience is overwhelming despite the broken deadlines and my sometimesunproductive attempts during project development. Besides the project supervisor, words of praise and gratitude must go to my Faculty Guide Prof. Dr. Ram Krishna Panigrahi of MATS, Bangalore. His constructive comments and guidance during the course of my Internship were an eye opener to some elements that was not noticed by me and that helped to mitigate the risks at the earlier stages of the project. Finally I would like to thank anyone else whom I have not mentioned here but has played a role be it big or small in bringing me past yet another milestone in my life. Words are the apparatus I am using to acknowledge the gratitude to the people who assisted me. But, adore for them would remain sincerely in my heart.

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Indian energy sector: an overview

Energy has been universally recognized as one of the most important inputs for economic growth and human development. There is a strong two-way relationship between economic development and energy consumption. On one hand, growth of an economy, with its global competitiveness, hinges on the availability of cost-effective and environmentally benign energy sources, and on the other hand, the level of economic development has been observed to be reliant on the energy demand. The energy intensity of India is over twice that of the matured economies, which are represented by the OECD (Organization of Economic Co-operation and Development) member countries. Indias energy intensity is also much higher than the emerging economiesthe Asian countries, which include the ASEAN member countries as well as China. However, since 1999, Indias energy intensity has been decreasing and is expected to continue to decrease.

The indicator of energyGDP (gross domestic product) elasticity, that is, the ratio of growth rate of energy to the growth rate GDP, captures both the structure of the economy as well as the efficiency. The energyGDP elasticity during 19532001 has been above unity. However, the elasticity for primary commercial energy consumption for 19912000 was less than unity (Planning Commission 2002). This could be attributed to several factors, some of them being demographic shifts from rural to urban areas, structural economic changes towards lesser energy industry, impressive growth of services, improvement in efficiency of energy use, and inter-fuel substitution.

The energy sector in India has been receiving high priority in the planning process. The total outlay on energy in the Tenth Five-year Plan has been projected to be 4.03 trillion rupees at 2001/02 prices, which is 26.7% of the total outlay. An increase of 84.2% is projected over the Ninth Five-year Plan in terms of the total plan outlay on energy sector. The Government of India in the mid-term review of the Tenth Plan recognized the fact that under-performance of the energy sector can be a major constraint in delivering a growth rate of 8% GDP during the plan period. It has, therefore, called for acceleration of the

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reforms process and adoption of an integrated energy policy. Indias energy requirements have grown significantly since market reforms were initiated by the Government of India in the 1990s. Energy sector reforms, capacity addition and improvement in existing infrastructure are the governments primary focus areas as energy is a key necessity for meeting the countrys high economic growth expectations. The Tenth Five-Year Plan (2002-2007) and Eleventh Five-Year Plan (2007-2012) have seen greater emphasis on the increasing private sector particpation and investment in the industries. The report highlights the initiatives and progress on these accounts as well as covers the technological developments and international interest in the sector. In the recent years, the government has rightly recognized the energy security concerns of the nation and more importance is being placed on energy independence. On the eve of the 59th Independence Day (on 14 August 2005), the President of India emphasized that energy independence has to be the nations first and highest priority, and India must be determined to achieve this within the next 25 years. Demand and supply scenario

In the recent years, Indias energy consumption has been increasing at one of the fastest rates in the world due to population growth and economic development. Primary commercial energy demand grew at the rate of six per cent between 1981 and 2001 (Planning Commission 2002). India ranks fifth in the world in terms of primary energy consumption , accounting for about 3.5% of the world commercial energy demand in the year 2003. Despite the overall increase in energy demand, per capita energy consumption in India is still very low compared to other developing countries. India is well-endowed with both exhaustible and renewable energy resources. Coal, oil, and natural gas are the three primary commercial energy sources. Indias energy policy, till the end of the 1980s, was mainly based on availability of indigenous resources. Coal was by far the largest source of energy. However, Indias primary energy mix has been changing

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over

period

of

time.

Despite increasing dependency on commercial fuels, a sizeable quantum of energy requirements (40% of total energy requirement), especially in the rural household sector, is met by non-commercial energy sources, which include fuelwood, crop residue, and animal waste, including human and draught animal power. However, other forms of commercial energy of a much higher quality and efficiency are steadily replacing the traditional energy resources being consumed in the rural sector.

Resource augmentation and growth in energy supply has not kept pace with increasing demand and, therefore, India continues to face serious energy shortages. This has led to increased reliance on imports to meet the energy demand. Coal

India now ranks third amongst the coal producing countries in the world. Being the most abundant fossil fuel in India till date, it continues to be one of the most important sources for meeting the domestic energy needs. It accounts for 55% of the countrys total energy supplies. Through sustained increase in investment, production of coal increased from about 70 MT (million tonnes) (MoC 2005) in early 1970s to 382 MT in 2004/05. Most of the coal production in India comes from open pit mines contributing to over 81% of the total production while underground mining accounts for rest of the national output (MoC 2005). Despite this increase in production, the existing demand exceeds the supply. India currently faces coal shortage of 23.96 MT. This shortage is likely to be met through imports mainly by steel, power, and cement sector (MoC 2005). India exports insignificant quantity of coal to the neighbouring countries. The traditional buyers of Indian coal are Bangladesh, Bhutan, and Nepal.

The development of core infrastructure sectors like power, steel, and cement are dependent on coal. About 75% of the coal in the country is consumed in the power sector (MoC

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2005).

Power

Access to affordable and reliable electricity is critical to a countrys growth and prosperity. The country has made significant progress towards the augmentation of its power infrastructure. In absolute terms, the installed power capacity has increased from only 1713 MW (megawatts) as on 31 December 1950 to 118 419 MW as on March 2005 (CEA 2005). The all India gross electricity generation, excluding that from the captive generating plants, was 5107 GWh (gigawatt-hours) in 1950 and increased to 565 102 GWh in 2003/04 (CEA 2005). Energy requirement increased from 390 BkWh (billion kilowatt-hours) during 1995/96 to 591 BkWh (energy) by the year 2004/05, and peak demand increased from 61 GW (gigawatts) to 88 GW over the same time period. The country experienced energy shortage of 7.3% and peak shortage of 11.7% during 2003/04. Though, the growth in electricity consumption over the past decade has been slower than the GDPs growth, this increase could be due to high growth of the service sector and efficient use of electricity. Per capita electricity consumption rose from merely 15.6 kWh (kilowatt-hours) in 1950 to 592 kWh in 2003/04 (CEA 2005). However, it is a matter of concern that per capita consumption of electricity is among the lowest in the world. Moreover, poor quality of power supply and frequent power cuts and shortages impose a heavy burden on Indias fast-growing trade and industry. Oil and natural gas

The latest estimates indicate that India has around 0.4% of the worlds proven reserves of crude oil. The production of crude oil in the country has increased from 6.82 MT in 1970/71 to 33.38 MT in 2003/04 (MoPNG 2004b). The production of natural gas increased from 1.4 BCM (billion cubic metres) to 31.96 BCM during the same period. The quantity

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of crude oil imported increased from 11.66 MT during 1970/71 to 81 MT by 2003/04. Besides, imports of other petroleum products increased from 1 MT to 7.3 MT during the same period. The exports of petroleum products went up from around 0.5 MT during 1970/71 to 14 MT by 2003/04. The refining capacity, as on 1 April 2004, was 125.97 MTPA (million tonnes per annum). The production of petroleum products increased from 5.7 MT during 1970/71 to 110 MT in 2003/04. Indias consumption of natural gas has risen faster than any other fuel in the recent years. Natural gas demand has been growing at the rate of about 6.5% during the last 10 years. Industries such as power generation, fertilizer, and petrochemical production are shifting towards natural gas. Indias natural gas consumption has been met entirely through domestic production in the past. However, in the last 4/5 years, there has been a huge unmet demand of natural gas in the country, mainly required for the core sectors of the economy. To bridge this gap, apart from encouraging domestic production, the import of LNG (liquefied natural gas) is being considered as one of the possible solutions for Indias expected gas shortages. Several LNG terminals have been planned in the country. Two LNG terminals have already been commissioned: (1) Petronet LNG Terminal of 5 MTPA (million tonnes per annum) at Dahej, and (2) LNG import terminal at Hazira. In addition, an in-principle agreement has been reached with Iran for import of 5 MTPA of LNG. Renewable energy sources

Renewable energy sources offer viable option to address the energy security concerns of a country. Today, India has one of the highest potentials for the effective use of renewable energy. India is the worlds fifth largest producer of wind power after Denmark, Germany, Spain, and the USA. There is a significant potential in India for generation of power from renewable energy sources, small hydro, biomass, and solar energy. The country has an estimated SHP (small-hydro power) potential of about 15 000 MW. Installed combined electricity generation capacity of hydro and wind has increased from 19 194 MW in 1991/92 to 31 995 MW in 2003/04, with a compound growth rate of 4.35% during this period (MoF 2005). Other renewable energy technologies, including solar photovoltaic,

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solar thermal, small hydro, and biomass power are also spreading. Greater reliance on renewable energy sources offers enormous economic, social, and environmental benefits. The potential for power production from captive and field-based biomass resources, using technologies for distributed power generation, is currently assessed at 19 500 MW including 3500 MW of exportable surplus power from bagasse-based cogeneration in sugar mills (MNES 2005). Future scenario

Increasing pressure of population and increasing use of energy in different sectors of the economy is an area of concern for India. With a targeted GDP growth rate of 8% during the Tenth Five-year Plan, the energy demand is expected to grow at 5.2%. Driven by the rising population, expanding economy, and a quest for improved quality of life, the total primary energy consumption is expected to about 412 MTOE (million tonnes oil equivalent) and 554 MTOE in the terminal years of the Tenth and Eleventh Plans, respectively (Planning Commission 1999). The International Energy Outlook 2005 (EIA 2005b) projects Indias gas consumption to grow at an average annual rate of 5.1%, thereby reaching 2.8 trillion cubic feet by 2025 with the share of electric power sector being of 71% by that time. Coal consumption is expected to increase to 315 MT over the forecast period. In India, slightly less than 60% of the projected growth in coal consumption is attributed to the increased demand of coal in the electricity sector while the industrial sector accounts for most of the remaining increase. The use of coal for electricity generation in India is expected to increase by 2.2% per annum during 200225, thus requiring an additional 59 000 MW of coal-fired capacity. Oil demand in India is expected to increase by 3.5% per annum during the same time.

It is quite apparent that coal will continue to be the predominant form of energy in future. However, imports of petroleum and gas would continue to increase substantially in absolute terms, involving a large energy import bill. There is, therefore, an urgent need to conserve energy and reduce energy requirements by demand-side management and by

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adopting more efficient technologies in all sectors. Overview : NTPC Indias largest power company, NTPC was set up in 1975 to accelerate power development in India. NTPC is emerging as a diversified power major with presence in the entire value chain of the power generation business. Apart from power generation, which is the mainstay of the company, NTPC has already ventured into consultancy, power trading, ash utilisation and coal mining. NTPC ranked 341st in the 2010, Forbes Global 2000 ranking of the Worlds biggest companies. NTPC became a Maharatna company in May, 2010, one of the onlyfourcompaniestobeawardedthisstatus. The total installed capacity of the company is 34,194 MW (including JVs) with 15 coal based and 7 gas based stations, located across the country. In addition under JVs, 5 stations are coal based & another station uses naptha/LNG as fuel. The company has set a target to have an installed power generating capacity of 1,28,000 MW by the year 2032. The capacity will have a diversified fuel mix comprising 56% coal, 16% Gas, 11% Nuclear and 17% Renewable Energy Sources(RES) including hydro. By 2032, non fossil fuel based generation capacity shall make up nearly 28% of NTPCs portfolio. NTPC has been operating its plants at high efficiency levels. Although the company has 17.75% of the total national capacity, it contributes 27.40% of total power generation due to its focus on high efficiency.

In October 2004, NTPC launched its Initial Public Offering (IPO) consisting of 5.25% as fresh issue and 5.25% as offer for sale by Government of India. NTPC thus became a listed company
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in November 2004 with the Government holding 89.5% of the equity share capital. In February 2010, the Shareholding of Government of India was reduced from 89.5% to 84.5% through Further Public Offer. The rest is held by Institutional Investors and the Public.

At NTPC, People before Plant Load Factor is the mantra that guides all HR related policies. NTPC has been awarded No.1, Best Workplace in India among large organisations and the best PSU for the year 2010, by the Great Places to Work Institute, India Chapter in collaboration with The Economic Times. The concept of Corporate Social Responsibility is deeply ingrained in NTPC's culture. Through its expansive CSR initiatives, NTPC strives to develop mutual trust with the communities that surround its power stations.y, NTPC generates power from Coal and Gas. With an installed capacity of 34,194 MW, NTPC is the largest power generating major in the country. It has also diversified into hydro power, coal mining, power equipment manufacturing, oil & gas exploration, power tng & distribution. With an increasing presence in the power value chain, NTPC is well on its way to becoming an Integrated Power Major.

Subsidiaries :
NTPC Electric Supply Company Ltd. (NESCL) The company was formed on August 21, 2002. It is a wholly owned subsidiary company of NTPC with the objective of making a foray into the business of distribution and supply of electrical energy, as a sequel to reforms initiated in the power sector. NTPC Vidyut Vyapar Nigam Ltd. (NVVN)
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The company was formed on November 1, 2002, as a wholly owned subsidiary company of NTPC. The companys objective is to undertake sale and purchase of electric power, to effectively utilise installed capacity and thus enable reduction in the cost of power. NVVN NTPC Hydro Ltd. (NHL) The company was formed on December 12, 2002, as a wholly owned subsidiary company of NTPC with an objective to develop small and medium hydroelectric power projects of up to 250 MW. More>> Pipavav Power Development Co. Ltd. (PPDCL) A memorandum of understanding was signed between NTPC, Gujarat Power Corporation Limited (GPCL) and Gujarat Electricity Board (GEB) in 2004 for development of a 1000 MW thermal power project at Pipavav in Gujarat by forming a new joint venture company between NTPC and GPCL with 50:50 equity participation. Pursuant to the decision of Gujarat Government, NTPC Ltd. has dissociated itself from this company. PPDCL is under winding up. Kanti Bijlee Utpadan Nigam Limited, (formerly known as Vaishali Power Generating Company Limited) To take over Muzaffarpur Thermal Power Station (2*110MW), a subsidiary company named Vaishali Power Generating Company Limited (VPGCL) was incorporated on September 6, 2006 with NTPC contributing 51% of equity and balance equity was contributed by Bihar State Electricity Board. This company was formed to renovate the existing unit and run the plant. The second unit has been successfully re-synchronised on October 17, 2007 after 4 years of being idle. Renovation and modernisation of the first unit is under progress. The company was rechristened as Kanti Bijlee Utpadan Nigam Limited on April 10, 2008. Bharatiya Rail Bijlee Company Limited (BRBCL) A subsidiary of NTPC under the name of Bharatiya Rail Bijlee Company Limited was incorporated on November 22, 2007 with 74:26 equity contribution from NTPC and Ministry of Railways, Govt. of India respectively for setting up of four units of 250 MW each of coal based power plant at Nabinagar, Bihar. Investment approval of the project was accorded in January, 2008.

Future Capacity Additions :


NTPC has formulated a long term Corporate Plan upto 2032. In line with the Corporate Plan, the
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capacity addition under implementation stage is presented below: PROJECT Coal 1. 2. 3. 4. 5. 6. 7. 8. 9. 10. 11. 12. 13. Hydro 1. 2. 3. Total Indira Gandhi STPP- JV with IPGCL & Haryana HPGCL ( 3 x 500) Chhattisgarh Sipat I (3 x 660) Andhra Pradesh Simhadri II Unit - IV( 500) Tamilnadu Vallur I -JV with TNEB ( 2 x 500) Vallur Stage-I Phase-II -JV with TNEB ( 1 x Tamilnadu 500) Assam Bongaigaon(3 x 250) Maharashta Mauda ( 2 x 500) Uttar Pradesh Rihand III(2X500) Madhya Pradesh Vindhyachal-IV (2X500) Muzaffarpur Expansion (2x195) JV with Bihar BSEB Bihar Nabinagar TPP-JV with Railways (4 x 250) Bihar Barh II (2 X 660) Bihar Barh I (3 X 660) Koldam HEPP ( 4 x 200) Tapovan Vishnugad HEPP (4 x 130) Singrauli CW Discharge(Small Hydre) Himachal Pradesh Uttarakhand Uttar Pradesh 1000 1980 500 1000 500 750 1000 1000 1000 390 1000 1320 1980 800 520 8 14748 STATE MW

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Basic Valuation Methodologies


In determining value, there are several basic analytical tools that are commonly used by financial analysts. These methods have been developed over several years of research and refinement and are based on financial theory and market reality. However, these tools are just that tools and should not be viewed as final judgment, but rather, as a starting point to determining value. Each methodology is fairly simple in theory but can become extremely complex. These tools include: DCF Discounted Cash Flow Analysis. Free cash flows to firm discounted over projection period Especially relevant especially where there arent any comparable companies Other Methods Break up Analysis sum of parts valuation based on different business lines. Asset Valuation analysis of tangible assets such as auto plants and refineries LBO Valuation financial engineering based on leverage or use of debt Valuation Multiples Inherent in all valuation methodologies is the idea of a multiple. A multiple is simply a ratio of value to a financial statement statistic such as Revenue, EBITDA and EBIT and Price / Earnings (PE) multiple . For example, the PE multiple is a multiple of earnings; however, there are numerous other multiples, such as Revenue, EBITDA and EBIT multiples. Generally , the name of the multiple is simply the denominator of the ratio; the numerator will vary according to the denominator. For purposes of valuing entities that are cash-based businesses (such as an insurance brokerage ), a multiple of EBITDA is typically utilized. EBITDA is an accounting term that is defined as: Earnings Before Interest, Taxes, Depreciation and Amortization and is sometimes used as a proxy for cash flow. However, depending on the industry, other multiples are also important. For example, during the Technology boom, revenue multiples were crucial for valuing and benchmarking unprofitable businesses. Also, in the insurance industry, Price / Book multiples are typically used to value insurance companies because of the relatively stability of book value. Multiples are either forward-looking or backward-looking: backward-looking multiples, or trailing multiples, use statistics that have been realized, such as last full year earnings or a last twelve months (LTM) statistic. For example , if a stock price is $20 per share and last years earnings per share (EPS) was $1, the PE is 20 /1 20x. Forward-looking multiples, or simply forward multiples, use estimates. For example, if a stock price is $20 and is estimated to have EPS of $2 this year, the PE is 20/2 10x. Thus, its important to clarify not just the multiple, but also exactly what is being measured within that multiple.
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In general, the higher the multiple, the higher the value ascribed to future earnings or cash flow of a company; in other words, the higher the multiple, the more an investor is paying for the stock or the company. A higher multiple is usually attributed to younger, high growth companies whereas a lower multiple can be attributed to a mature, slow growth or negative growth company. If a companys LTM EBITDA was $100 million and if comparable companies were trading at a 7x EBITDA multiple, the company would have an implied value of $100 million x 7x = $700 million based on an LTM or trailing basis. EBITDA multiple ranges are based on either comparable publicly traded companies or past transactions of similar companies. This provides a valuation range based on the markets perception of the growth potential and profitability of similar publicly traded companies at a given point in time. Discounted Cash Flow Analysis In addition to the multiples approach to valuation and especially relevant for purposes of internal buy-sell agreements, a Discounted Cash Flow (DCF) analysis is often utilized. The DCF approach is among the most scientific and theoretically precise valuation methodologies because it relates specifically to the profitability and growth of the business being valued. In a DCF analysis, free cash flows are modeled over a projection horizon and then discounted to reflect its present value, or value in todays dollars. In addition to these cash flows, a value must be determined for the cash flows generated beyond the projection horizon, commonly called the terminal value. Thus, DCF accounts for time value of money and relative risk of investment, but is highly sensitive to the discount rate. Despite rigorous theoretical foundations, the valuation parameters derived through the DCF methodology are driven primarily by long-range forecasts (usually produced by company management) which attempt to model the numerous company and industryspecific factors and macroeconomic trends that exert varying degrees of influence on the companys results. The terminal value component of a DCF analysis generally accounts for the majority of the ultimate implied value and is extremely sensitive to the cumulative effects of the underlying operating assumptions. Consequently, the long-term projections and choice of terminal value exit multiple and / or perpetuity growth rate occupy a central role in determining a companys value under this analytical framework. The selection of the discount rate is extremely important to a DCF and there are countless publications on the theory and applicability of discounts rates. The following inputs are required for calculating the discount rate, or WACC (weighted average cost of capital): 1.> Interest rate of debt, if applicable (cost of debt) 2.> Interest rate of preferred, if applicable (cost of preferred) Estimate of the cost of equity, including the following assumptions Beta measures the systematic risk of a security, or its relationship with the overall market

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CAPM Capital Asset Pricing Model used to approximate a companys cost of equity Other Methodologies In addition to trading companies, deal companies and DCF, there are several other valuation methodologies that can also shed additional insight. These other valuation methodologies include break-up analysis, asset valuation and leveraged buyout analysis (LBO). A break-up analysis is simply a sum of parts valuation based on different business lines. Each part would be valued separately utilizing above methodologies and then summed together. This is very relevant for companies with disparate business lines; however, the methodology for valuing each part still remains the same. Asset valuation applies to companies that have hard assets, such as manufacturing plants or refineries. Asset valuations are rarely used in relationship-based businesses except in certain distress situations. The valuation methodologies for specific types of assets vary significantly among industries and are generally highly specialized. For example, one could place a value on Toyotas automobile manufacturing plants based on number of autos produced and some efficiency factor of the assembly line. Another valuation methodology sometimes utilized is a fairly complex financial engineering the Leveraged Buyout or LBO analysis. Leverage is simply the use of debt; an LBO is the purchase of a company through the use of borrowed funds, or debt. This is also known as Going Private as the target company is usually public and the public equity is being bought out, and thus, going private. In most cases, an LBO requires and involves strong management support and participation and thus, is also referred to as an MBO or Management Buyout.

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