S&P Downgrades Tata Power Outlook To Negative

The global credit rating agency Standard & Poor’s has lowered the outlook on Tata Power from ‘stable’ to ‘negative’. The long-term corporate credit rating has been retained at BB- by the agency. This outlook has been revised mainly due to the higher risk in its 4,000 MW Mundra UMPP. The company is expected to keep the debt to equity ratio in proportion of 3:1 as the project falls under the regulated returns model. Under this model the company is expected to supply electricity to five states at the price of Rs 2.26 per unit. The project will consume imported coal from Indonesia.

With the change in the Indonesian regulations, the company has been finding it unviable to sell power at the earlier rates as it will incur loss in the project. The company has been seeking the government’s nod to raise the tariffs which, however, has not been approved as yet.

The debt to equity ratio in Tata Power’s subsidiary Coastal Gujarat Power limited (CGPL) in FY11 was 3:1. CGPL is its subsidiary under which the Mundra UMPP is being developed. It is not clear what was the debt to equity in FY12 as the company has not gave any firm answer to this question during the conference call for the fourth quarter of the last fiscal which gives a way that the debt to equity ratio has increased breaching the threshold limit.

S&P lowered the outlook of the firm stating that the risk profile and the cash flows of the firm may deteriorate in future. It has also said that the firm has breached the covenants of its debt to equity ratio and hence further funding options for the project will be limited. S&P may also downgrade the credit rating of the company if it is unable to secure a waiver from its lenders on the breaching of the covenants. It will also consider a downgrade if the expenditure incurred on this project is increased. The same will be analysed on the basis of a ratio of ‘funds from operations’ to ‘adjusted debt’ which if it is in the level of 10 per cent would lead to a downgrade.

On the other hand, a revision of the outlook may be considered if the company secures the necessary waivers from its lenders and the project continues as per the plan. And an upgradation in the outlook is also possible if the ‘funds from operations’ to ‘adjusted debt’ ratio is in the range of 10-12 per cent.

To provide a cushion to the project, the company is in process of transferring 75 per cent of its stake in the profitable Indonesian coal mines to CGPL. The company is also in the process of transferring the coal dividends to CGPL which will see stabilised debt to equity ratio as per the regulations. It is also hopeful of getting the lenders’ nod.

The Mundra project has been a big set-back to the company due to the change in the Indonesian coal regulations as well as lower tariffs from the projects. We had analysed this company in December 2011 and had asked our readers to avoid this scrip due to the risks related to this project. We maintain our original call due to the risks associated with the supply of coal, lower tariffs as well as the political issues revolving around the power tariffs.