Suzlon Energy shares up 270% in 2023. What Kotak says on stock valuation

Kotak Institutional Equities in a strategy note on Tuesday said its reverse-valuation exercise on Suzlon Energy Ltd shows the flaws in the market’s approach to valuation of companies. The domestic brokerage said its math shows that the increase in market capitalisation of Suzlon Energy is far ahead of the likely value creation from incremental capacity addition of the next several years, "let alone the next few years of potential opportunity for the companies in the best-case scenario."

Kotak said stock prices of electricity generation equipment suppliers such as Suzlon Energy and BHEL have increased sharply over the past few months on anticipation of a large step-up in generation capacity. "We agree with the premise of requirement of additional electricity generation capacity given electrification of the Indian economy and steady growth in electricity demand."

Shares of Suzlon Energy are up 270 per cent in 2023 so far. The stock is up 738 per cent in the last five years.

The brokerage however feels that India is unlikely to add large amounts of coal-based thermal generation capacity or wind-based renewable capacity, given the superior economics of solar-based electricity versus wind-based electricity, Kotak said.

To justify its m-cap, Kotak said Suzlon Energy would need to deliver wind turbine generator (WTG) corresponding to 8-12 GW of new wind generation capacity every year in perpetuity. This, it said, is unlikely as India has added only 8.6 GW of new wind generation capacity over FY2018-23 and Suzlon Energy has added mere 2.1 GW of total wind generation capacity over the same period.

"The market’s propensity to give multiples (and high multiples, to boot) to ‘limited opportunity’ earnings of companies in certain sectors as quite odd. The electrification theme in vogue currently is a good example of this laxity, while the pharmaceuticals has had this problem historically but less so currently. Lastly, the tendency to use multiples for non-recurring earnings is most prevalent in periods of extreme bullishness in the market," it said.

Kotak said the market’s excessive focus on near-term earnings results in an exaggeration of fair values of companies on both sides. As a corollary, this results in market participants being more inclined to momentum investment, an increasingly common phenomenon in investing, it said.

Also read: Suzlon Energy shares rise over 4% in early trade, reclaim Rs 41 mark

To be sure, Kotak does see a pickup in wind-based generation capacity over the next few years, given the government’s ambitious targets for renewable capacity target for FY20230 and Suzlon’s improved financial position.

"However, we expect solar capacity to dominate renewable capacity addition in India, given: well-established economics of solar electricity generation; solar has accounted for 75 per cent of total renewable capacity in India in the past five years," it said.

Besides, it cited ambitions of large conglomerates including the Adani and Reliance groups to produce solar PV modules in India. Also, the government’s PLI scheme could result in massive amount of new solar PV cell/module capacity in India.

"We estimate 60 GW of solar PV cell/module capacity could be established alone under the PLI scheme against 30 GW of WTG capacity in India," the brokerage said.

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