We believe REC effectively captures the quintessential Indian infrastructure story: lending to the funds-constrained power sector with chronic shortages, inching its generation and non-rural exposure up while maintaining its rural focus, and doing all of that with minimal credit losses due to the nature of the underlying business. Our earnings estimates are above consensus.
Strong demand environment, and well-capitalised to benefit from it
REC is likely to continue its loan expansion as the last two years of the current Five-Year Plan see substantive power sector investments, combined with increased exposure to the private sector where REC's presence had hitherto been modest. The structural advantage on the cost of funds due to funding mix could be bolstered by greater access to low-cost foreign currency borrowings. REC's already high capital adequacy ratio, even without any Tier 2 bonds, could provide an often sought-after high level of growth with leverage expansion opportunity.
Valuation; state banks' competition & hedging policy key risks
We value REC on an average of three methodologies: single-stage and twostage Gordon Growth models, and P/E-to-growth. Our target price of INR400 gives ~34%upside. Overcrowding of the rural market driven by state banks' financial inclusion initiatives, a new hedging policy keeping large forex positions open, and management changes are the key risks.
Some forward looking statements on projections, estimates, expectations & outlook are included to enable a better comprehension of the Company prospects. Actual results may, however, differ materially from those stated on account of factors such as changes in government regulations, tax regimes, economic developments within India and the countries within which the Company conducts its business, exchange rate and interest rate movements, impact of competing products and their pricing, product demand and supply constraints.
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