Reliance Power set to open IPO market on high note

The spin-off from Reliance Energy is expected to attract good demand despite its greenfield status.
While Reliance Power may not be a stock for short-term investors to consider, the company is poised to get the Indian IPO market off to a good start this year. The greenfield power producer is seeking to raise between Rs105.3 billion and Rs117 billion ($2.7 billion to $3 billion), which will make it the largest Indian IPO ever û ahead of property developer DLFÆs $2.25 billion deal in June last year.

According to terms set last week, Reliance Power, which is a spin-off from Anil AmbaniÆs Reliance Energy, will offer 260 million shares, or 11.5% of the company, at a price of Rs405 to Rs450 per share. The deal, which was delayed from the fourth quarter last year after investor complaints about Reliance EnergyÆs transfer of certain high-value power projects to the listing vehicle, will be open for subscription from January 15 to 18. The Indian regulators dismissed the complaints late last year.

To help ensure a successful outcome of such a large sale, the promoters will buy 32 million of the shares, or 12.3% of the deal. Retail investors will be able to buy the shares at a Rs20 per share discount to the price paid by institutional investors and high-net-worth individuals. Depending on the final price, the discount will range from 4.4% to 4.9%. Unusually, retail investors also wonÆt have to pay the entire subscription amount when submitting their orders, but can choose to divide the payments into two parts with the balance to be settled only after they know how many shares they will receive. This could make some investors more inclined to subscribe.

Aside from the large size, the Reliance Power IPO also stands out because the company has no plants in operation yet. The first project (Rosa Phase I) is due to start generating power and revenues in December 2009 with the other 12 plants scheduled for completion at a staggered pace until April 2016. As a result, the execution risk is much greater than for a typical IPO and it will require a big leap of faith from the investors to raise the cash that is needed to see these projects through.

Analysts note that the 600MW Rosa Phase I plant is the only one that will have even begun construction at the time of listing and, for some of the projects, the company doesnÆt yet hold the required land. In its preliminary listing prospectus, the company acknowledges that its power projects have a long gestation period and says it cannot assure that they will commence operations as expected.

ôThe completion targets for our projects are estimates and are subject to risks, including, among other things, contractor performance shortfalls, unforeseen engineering problems, force majeure events, unanticipated cost increases or changes in scope and delays in obtaining certain property rights, fuel supply and government approvals, any of which could give rise to delays, cost overruns or the termination of a projectÆs development,ö it states.

ôThe IPO is quite dicey and people will be putting money into it solely on the reputation of the group,ö says one India-based analyst.

That reputation counts for a lot though and the deal is widely expected to be well received by the market amid a perception that Anil Ambani will make sure people wonÆt lose money on this spin-off. They are also counting on the familyÆs contacts and negotiation skills when it comes to removing various road blocks and making the necessary headway to realise the plans.

Meanwhile, the company and its eight bookrunning lead managers stress the fact that the power plant under development will make Reliance Power one of the largest power generators in India, and no other company will be able to show the same rapid growth rate in the coming seven to eight years. The assets will also be well-diversified, both geographically and in terms of fuel sources, and will be strategically located near its potential customers in the northern, western and north-eastern regions of the country as well as near its fuel sources or load centres.

And underlying it all is of course the expectation that the demand for power will continue to rise. According to projections made in IndiaÆs National Electricity Plan, power demand will grow at an average annual rate of 9% between 2007 and 2012 and at 7% in the five years to 2017. The company says it plans to develop additional power projects on top of the 13 that are currently in the works to meet this demand increase and it has already submitted bids for four hydroelectric power projects in the state of Himachal Pradesh. It also intends to invest in overseas opportunities that are a strategic fit with its business.

The fact that the promoters have agreed to take up part of the deal also shows that they see value at the offered price.

Because Reliance Power doesnÆt have any operations at present, it is difficult to compare it to existing power generators, but the same India-based analyst argues that the valuation is rich versus both NTPC and Tata Power based on the market value per megawatt. Adding up the installed capacity of 28,200 megawatts at all the 13 plants that are planned to come on stream over the next seven to eight years, Reliance Power is offered at a price ranging from Rs32 million to Rs36 million per megawatt. This compares with less than Rs30 million for the other two, based on their current installed capacity, the analyst says, adding that Tata Power also has a lot of unlocked value in the form of coal mine stakes.

Investors will also have to take into account that Reliance Power will need to raise more cash over the next few years to cover the capital expenditures for the 13 plants, which are estimated at about $22.1 billion. The net proceeds from the IPO will go towards the funding of six of these projects, which will have a combined installed capacity of 9,860MW, including the 3,960MW coal-fired Sasan plant and the 4,000MW Shahapur plant, which will have one coal-fired unit and one combined cycle gas-fired unit.

The company will however need to raise a further $5.8 billion to fully fund these six plants. About 70%-80% of its total project costs are expected to be financed by debt.

Of the 228 million shares on offer to investors other than the promoters, 60% will go to qualified institutional investors, 10% to non-institutions such as high-net-worth individuals and the remaining 30% to retail investors.

The IPO comes as the Indian stock market continues to set new records, seemingly oblivious to the concerns about high oil prices, a weakening dollar and a potential slow-down in the US economy that have weighed on most other Asian markets in the first few days this year. However, the deal is likely to be closely watched given the pipeline of other Indian power companies that are also looking to go public over the next couple of months.

According to Bloomberg News, Jaiprakash Power Venture at the end of last week mandated six banks for an IPO that could raise more than $1 billion. Other companies waiting in the wings are JSW Energy and Sterlite Power.

ôSpaced over a reasonable period of time there should be enough liquidity in the market to cater for the other IPOs that are coming to market, because power seems to be the hottest sector right now û provided that the issuers have the right business model and can show some profitability,ö the Indian analyst says. ôAnd if Reliance Power can command these valuations for non-existing assets, then companies with existing assets should surely get a fair price.ö

Reliance Power will be brought to market by ABN AMRO, Deutsche Bank, Enam Financial Consultants, ICICI Securities, JM Financial, JPMorgan, Kotak Mahindra and UBS.
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