The rush of private equity (PE) funds to purchase a slice of power producing companies has slowed down, despite a fall in asset value, as fuel linkage and tariff issues play spoilsport.
“Interest in the power sector is higher, but deals don't go through, as transactions are taking longer,” says Manish Agarwal, partner, corporate finance, at audit and consulting firm KPMG India. “Domestic fuel linkages and issues related to tariff do not let the transactions complete easily.”
PE firms invested $671 million (R3,086 crore) in 17 companies in the first eight months of 2011, 12.5% lower than $766.41 million (R3,525 crore) in 10 companies in the same period in 2010, according to VCCedge, a data provider on M&A, private equity and venture capital investments in India. The funds invested $1,145 million (R5,267 crore) in 13 companies in 2010, $456 million (R2,098 crore) in 13 companies in 2009 and, $714 million (R3,284.4 crore) in nine deals in 2008.
Indian power companies are finding it tough to source coal, the fuel to fire their plants, either from Coal India (CIL), India’s largest coal miner, or from international miners. CIL has been slow in releasing mines for competitive bidding or is unable to meet the demand. International coal is expensive, given higher procurement costs and challenges in transporting.
India generated 217.6 billion units of power during the first quarter of 2011-12 and has a total generation capacity of 1,75,000 MW, even as 600 million Indians do not have power to light up their homes.
According to the Central Electricity Authority (CEA), in 2010-11, India’s energy shortage was 8.5% and its peak shortfall was 9.8%. CEA has projected a shortfall of 10.3% and a peak shortage of 12.9% for 2011-12. The country plans to set up additional generation capacity of 1,00,000 mw during the 12th Plan, which will run from 2012-17.
Cost to produce power has also risen with thermal coal prices. Coal prices have risen by 28.11% to $120.55 a tonne in the past one year, and is expected to trade higher, as expected demand for coal touches 529 million tonnes by financial year 2013, according to an analyst with a Mumbai-based brokerage. Local coal mines supply 445 million tonne (mt), leaving the rest for imports. But analysts believe even this target may be difficult to achieve, with Jharkhand’s state pollution control board asking CIL to shut down 22 of its mines.
“The key issue is unavailability of fuel,” says BV Krishnan, director at PE fund Kohlberg Kravis Roberts India Advisors, which manages $1 billion (R4,600 crore) in India. “Given the structural power shortage, meaningful capacity addition will require significant amounts of thermal coal. We do come across all these hurdles while considering investments in the power generation sector,” added Krishnan. KKR had invested $75 million or R345 crore this June in Avantha Power & Infrastructure, which is in the process of setting up a generating capacity of 2,400 mw.
“With investors turning cautious and needing more comfort around fuel tie-ups, power purchase agreement (PPA) and various clearances, deals are taking a lot more time to close,” says Navneet Singh, executive director and head of infrastructure group at investment bank Avendus Capital. “Deals are taking one to one and a half years to close now, despite favourable valuations.” Valuations of power companies have softened in the last 8-9 months, in line with the fall in listed companies’ share prices, coupled with a decline in merchant power tariffs, the price at which companies sell power to private buyers other than state electricity boards, Singh added.
Vikram Limaye, executive director at Infrastructure Development Finance Company (IDFC), India’s largest lender to companies which build power plants, roads, ports and bridges, on August 26 told business television channel CNBC TV18 in an interview that there is uncertainty surrounding the fuel supply situation on coal and gas in power projects. “The uncertainties are surrounding coal linkages and environmental clearances,” he had said. IDFC makes 43.5% of its total loan disbursements to energy companies. The lender gave R26,797 crore until June 30, 2011, higher than it lent (R22,234 crore) in the same period the previous year.
“The outlook towards the sector has changed in the past two years,” says Abhishek Loonker, associate vice-president at Bangalore-based PE firm Ascent Capital, which invested in power companies GMR Energy, Ind Barath Power and Shriram EPC. “Risk capacity was more earlier but today, PE firms will not touch anybody who doesn’t have fuel linkages.” Ascent Capital manages a $600 million (approximately R2,760 crore) fund in India.
Investors who invest in PEs, known in industry parlance as limited partners, have become cautious even as they show interest in India’s renewable energy companies in hydro and wind. “Issues with land acquisition and environment clearance have led to a growing concern with global limited partners, who have now become more cautious on due diligence,” says Ascent Capital’s Loonker.
The funds now prefer to invest in projects rather than in parent companies, even though they have both the options. “We will see more of the second layer deals this year at the special project vehicle level,” says Vikram Utamsingh, executive director and head of private equity at KPMG India. “Some PE firms are now getting more comfortable with the sector and hence, are ready to put all their eggs in one basket by investing in the SPVs.”
“We put an option to companies whether they want to invest in SPVs or the holding company,” says Issac George, chief financial officer, GVK Power and Infrastructure, which is planning to expand its power capacity to 4,500 mw by 2013-2014 from the current 900 mw. “The comfort level rests with them.” If they want exposure in all projects across infrastructure, then investing in promoter company makes sense; otherwise, SPV investment is ideal for specific project exposure, George added.
“PE investors normally prefer being closer to the business operations at the project level than at the holding company,” says KKR’s Krishnan. KKR, which invested in renewable energy companies in Europe, is evaluating similar investments in Indian companies.
“Issues still rest with renewable energy like solar power,” says Anita George, director at International Finance Corporation (IFC). IFC is a member of the World Bank Group and globally provides project finance to companies in the developing countries. “The solar panels are still expensive and scaling up solar energy is still an issue.” IFC prefers investment in companies with diversified projects and verticals like wind, hydro and biomass, she added. Renewable energy has growth prospects, as every state has the obligation to buy power from credible companies in the renewable energy segment. IFC typically invests up to 20% in power companies. “We look at the fundamentals of the company and renewable energy certificates are also an added attraction,” George said.
“Execution and raw material security is a challenge today,” agrees Vishal Gupta, managing director at Bessemer Venture Partners (BVP), a venture capital firm with over $2 billion invested across 130 companies globally. But ignoring the sector is out of question for investors, he says. “Long-term power infrastructure sector remains attractive. It’s a question of value and time,” Gupta added.
“There is greater involvement of the private sector in power generation, and hence, power distribution is still not attractive for investments,” says Darius Pandole, partner at PE fund New Silk Route, which manages $1.4-billion Asia dedicated fund and have invested in power projects. IFC’s George agrees with BVP’s Gupta. Ignoring the sector is out of question for investors, she says.”The risk-return profile of the sector is good and the Electricity Act of 2005 has helped garner investments in the sector due to regulations. PE firms will enter the solar sector in 4-5 years from now,” she added.