The Coming "Power"-ful Collapse!!

Writing after a long time...but this is one topic which has almost picked up my hand and put it onto the keyboard to get it writing. The Indian stock market has had a great 2009 after a dramatic collapse in 2008. Things may not have improved as much as the market suggests there are not too many people who care for negatives when the market is going up at the rate at which is going right now.
The 2008 collapse started with the "Great" Reliance Power IPO in January. A company plans to put 28000 MW of power plants starting almost from scratch. It has no previous experience of putting up a power plant or running it. But if its coming from the most well known industrial family of India, then it has to be good. Or at least that was the perception. The IPO got subscribed in the first minute of opening and the Finance Minister commended it as a sign of the "Great Indian Growth Story". What happened later has become a part of stock market folklore and I will not repeat it here.
The hype around the "Great" entrepreneur of RPower is all but over, but it doesn't look like we are through with the whole "Power" story in India yet. The climax there is still awaited. And I am afraid it may turn out to be a disastrous anti-climax.
Almost every company (it doesn't matter whether it produces steel or anything else or nothing at all) has plans to put a power plant. The reason? Merchant power. The formula is pretty simple. Get your company a coal block allocation. Lets not delve into how that happens in India but anybody with sufficient "funding" should not have a problem with getting an allocation. Design a power project around that coal mine. The cost of producing power assuming 90% PLF etc. comes out to anywhere between 1 to 2 Rs depending upon how various assumptions change. Then project the selling price at 4.5 - 5 Rs. if not more and make an excel sheet, which will end up showing investors, bankers and shareholders an RoE of no less than 50%. Those number will make almost any investor salivate and then valuations go through the roof given that the company has "created" a goose which lays "Golden Eggs" (in this case "Powerful Eggs"), and of course, since the company has learnt lessons from the "Golden Goose" story, it is unlikely to kill it. So the company gets valued at 4,5,6 times its book value. The valuation could be higher, these are just indications. It looks like a win-win story. Investors are happy with the "excel sheet", bankers see the "Great Indian Power Deficit Story" (all stories in India are "Great") and see no problems in funding the Project at a nominal debt-to-equity ratio of 3:1 if not 4:1. Govt. is, of course, happy (but for the subsidies that it has to shell out). Consumers are happy because now there will be less load shedding and govt bears the cost of additional power through subsidies.So then where is the hitch?

Lets take the assumptions in the story one-by-one
1. Merchant Power @ 5 Rs.!!
For starters, merchant power is power produced which is not bound by a Power Purchase Agreement with a Fixed RoE. Given the power deficit situation in the country, merchant power sells at much higher realisations than what a normal Fixed RoE power purchase agreement would factor in. Given the fixed nature of costs, every additional paisa goes to the bottom line and RoE zooms. That is helped in no small manner by the 3:1 or 4:1 debt-to-equity ratio. The very fundamental question is how long will this merchant power rate sustain before the free markets take these heady RoEs down to reasonable levels?
Like all other commodities, power will also depend upon the classical demand-supply balance. Power, as a commodity has additional characteristic which not too many other commodities have. If not consumed, it perishes instantaneously.
Indian has been facing problems of power deficits for the last few years and it has only grown bigger with demand growth outpacing the capacity additions. (2008 was a particularly bad year for additions and the deficit galloped to unprecedented levels.) To encourage private power plants, Govt made the required regulatory changes to make it attractive for the private money to flow into the sector. The economics turned out attractive enough for private money to start pouring in. And it is still pouring in.
Now I think we have reached a point where all the "merchant" power plant companies will collectively kill the "Golden Goose". Have a look at the plans of Adani/Reliance/Sterlite/Jindals/Indiabulls/Lanco. I am mentioning only the big ones. There are lot many small ones, which will also add up to a quantum which will not be small in the scheme of things.
We are experiencing a peak hour power deficit of around 12-13000 MW. The power plans of the biggies total up to more than 30000 MW over the next 3-5 years. Of course, the demand will also go up, but I think this time around the tables are going to turn and the supply side growth is going to outpace the demand.
I have not included the plans of NTPC here. Have also not included anything on the Hydro or Renewable front.
Just to give you a sense of what might happen. According to CEA, in 2007-08, there was about 13000 MW of gas-based power capacity which was running at 50% PLF simply because gas was not available. There is another 1100 MW which never got commissioned because of gas shortage again. Now with Reliance coming out with gas from KG D-6 and other discoveries still pouring in, there is a good chance that these power plants will start running full steam. That alone will increase supply by 4000-5000 MW. That's almost half the deficit we are talking about.
2. The other thing about the deficit is that it is "peak" deficit. Every body talks about the load shedding across various parts of the country as an indication of how big the power problem in the country is. But the point to be noticed is that most of the load shedding happens in the peak utilisation hours of the day. i.e. somewhere between 9 AM and 5 PM. What is consumed in the remaining part of the day is the roughly equal to the base load and the deficit there is not so huge.
So is it reasonable to assume 5 Rs of power for whole of 24 hours.?? I don't think so. In fact if trends on Indian Energy Exchange is anything to go by, the difference between the power rates for these two different time periods of the day has already become substantial. For quite a few days now the off-peak hours merchant power is trading at well below 2 Rs. The reason I would think is that in the race to take advantage of the "Peak" power deficit the power producers have started to overwhelm the off-peak demand and are unable to sell everything at peak rates. Even the peak rates which used to hover around the double digit mark a year back have come down to 5 Rupee levels. (I am using the IEX as indicator of merchant power rates in the day-ahead market)
The base load demand wil probably grow in conjunction with GDP. It should majorly depend upon how deep has the T&D network spread. Distribution is mostly in the hands loss making SEBs (Last year all SEBs put together lost 31000 cr., if subsidies provided by the govt. are included it comes down to probably somewhere around 12000 cr.) . That makes it difficult to for these SEBs to keep putting up additional distribution capacities "fast enough".They necessarily have to be supported by Govt deficits which are already out-of-control.
So here we have a value chain in the overall power business, where the power generators are hoping to make 50% RoEs and their clients (SEBs) are in perennial loss making mode. How long this can sustain is any body's guess.
3. One of the reasons for the losses of the SEBs are the famous (or should I say "Great") T&D losses. They are at about 30%. Even a 5% saving on this front can cut the "peak" deficit by half. I don't have great hopes here, but have just presented it as a scenario.

The Golden Goose story has twisted slightly. The fate of the owners will probably be the same. Just that they are not going to kill their own goose but may collectively kill each others.
I wont be surprised, if some time in 2010 or 2011, the merchant power rates collapse and everybody starts running for cover. Beware Bankers!!

Awaiting the "Power"-ful Collapse!!

(I don't claim to be the know-all in this business. These are just my thoughts. and I retain my right to be absolutely wrong)

Ethanol - Are we heading towards another big investment bust??

Peak oil theory says that we are running out of oil.Half of the geologists agree with it, the other half, of course, do not. I am not a geologist but that doesnt stop me from having an opinion. I dont know if it is according to the peak oil theory but i believe in the concept of increasing scarcity of oil simply on the basis that we cannot be exploiting the earth endlessly. It might look like a philosophical call but it is not without reasons.US, UK and Russia have peaked out in their oil production, according to production figures.We have not had a major oil discovery in the last 3 decades and every year the gap between the oil found anf the oil produced is increasing in favour of oil being produced. Which means we have not been able to replen ish our reserves of known oil. Moreover any new oil find takes anything more than 3-4 years before it reaches the market. the only major discovery of oil was in Kazakhstan about 3years back but that too will not reach market before 2011. the project cost has also doubled in the meanwhile. So not only is oil becoming difficult to find, but is also more and more expensive. In short, we as a world are unsure about the fate of oil, to say the least.

So we come to ethanol - the magic fuel the whole world has gone crazy about. US and Brazil are leading the way.US is employing the biggest corn crop in the world and Brazil the biggest sugar cane crop.Ethanol has amde countries to believe that it can reduce their dependence on Middle East oil. That it is a panacea for a good part of their energy problems. But....is it really that??

Lets see if there is something more to it.

About 60% percent of global ethanol comes from sugarcane and the other part comes from grains, majorly corn.

It takes 1000 litres of water, edible water at that, to process one tonne of sugarcane.Sugarcane by itself is a water intensive. So the process of making ethanol through sugarcane is going to be water intensive.
Then comes the process of making ethanol from corn.Every litre of ethanol requires 2.5 - 3 kgs of corn.The it requires 4-4.5 litres of water. Natural gas or some other form of energy is also put in.In effect we are putting wheat/corn/grain and water into our automobiles and none of these were ever used for automotive purpooses before.
The production of ethanol is scaling up big time. In 2005, it was estimated at 12 bn gallons. And it is again estimated to go up 2-3 times in the next 5-7 years, as continents and not just countries get hooked onto the band wagon.
Imagine the amount of water that is going into a process that never before consumed water, and similar is the case for grains.

The effects are already visible.US is starting to use an increasing amount of its corn in ethanol production.So are China and other countries.Corn prices are already at their ten year highs.And with more capacity coming up, the prospects for corn are bullish, to say the least. US and China are the biggest producers of corn and their exports have started coming down drastically. China's exports are expected to go down by about 45% this year. This is going to have a huge effect on the agricultural markets as a whole because the enhanced demand for corn is going to have reciprocating effects on other agri commodities.
This is very similar to what has happened in the biodiesel market. The demand for palm oil has caused the price of even coconut oil to go up.Increasing prices of agri products make them all the more less affordable for the poor as we go on putting their food into vehicles.

The water intensity of the whole process is scary in a scenario where we are increasingly struggling to meet the basic human demands for water. I have already given my views on water shortage in the previous article and would not deliberate further on it here. But in short, it is scary.

Ethanol, to me, is at the crux of this food-fuel war and the effects seem to be disastrous. I think this is one of the biggest mis-allocations of resources of every kind. Capital, agriculture or water.
Ethanol might turn out to be a big fraud on humanity.

WW - World War or Water War??!!!!

Did you know

- that more than a billion people have no access to safe drinking water?? (if that doesnt hit you then this will - every sixth human being doesnt have access to safe drinking water - imagine the whole of India not having water!!!)
- than in India only 30% of total cultivated land is irrigated??
- that India has only 4% of world's fresh water resources to support 16% of world's population???
- that by 2050 it is expected that Tibet plateau is expected to lose one third of its glaciers??...(remember is a big source of rivers for China and India!!)
- that some of the biggest lakes in the world like Victoria in Africa or Qinghai in China are shrinking or getting contaminated beyond repair??
- that demand for fresh water has tripled over the last 5 decades!!!

We can go on and on and on about this...the numbers are scary to say the least.Not oil, not copper, not zinc and not any other commodity, but water will probably lead to a lot of strife in the world.

Its not India alone. China, USA...well pretty much across the globe with no exceptions at all.Major rivers,including Nile in Egypt, Ganges in India, Yellow river in China, across the world are carrying lesser and lesser water.Fisheries have getting depleted at an alarming rate because the sea water is turning too salty for them as rivers increasingly fail to unload water into the oceans.
More and more water is now being diverted from irrigation to the growing urban population, leading to two consequences. One being the lower productivity of the land and secondly, disenchantment with agriculture as an economic activity since returns are too low to sustain living. Global warming is not helping the water cause with erratic and at times, extreme in nature, kind of rainfall.

In the increasingly tricky global geopolitical scenario, water will add a dimension like none other.The fight for water has the potential to escalate to a scale never seen in the history of mankind.

Can you imagine:
- China choking off Brahmaputra before it reaches India??
- Higher security around Lake Superior than around the White House??

Dont know if these are just hallucinations or the upcoming reality? But as an investor, optimism has to be in your DNA.

So how about large scale desalination plants doting the landscape across all the beaches in the world!!!!hmmmmmmm..........

What will power the next superpower??

Life is a flow of energy, and it requires a flow of energy to sustain itself. No wonder it is true for nations and more so for Superpowers!!
World has had superpowers before and it doesnt look like we are going to be deprived of one in the future as well.
Romans and Greeks probably did it on the basis of their agricultural prowess.Not surprising given that we did have these energy guzzling machineries in that era.
British did it on coal and steam engine. This brought about an industrial revolution and an inflexion point in human history.
USA carried that forward but on a magic liquid called the black gold a.k.a oil.
All the erstwhile empires lost their prominence on the world stage with loss of control on the source of energy or an alternative source coming about.And it also not surprising that the empires perished trying to get hold of these resources.
Greeks, Roman and British Empires were all victims of their own expansionary and imperialistic ambitions.These ambitions were not whims and fancies of the empire but became a requirement as needs of the empire and its people grew. It became the pre-requisite for sustenance.
Today we recognise US as the sole superpower.Oil is what powered it to these heights. It won the World Wars on oil.It achieved the highest state of living in the history of human civilisation, driven by oil.But as i have argued before, think we are at the begining of the end of the US era of dominance.
Just that i will be seeing it from the perspective of energy.
US was largely self sufficient in oil through a big part of last century. But its oil production peaked out in 1970s. and since then it has become increasingly dependent on others for its oil requirements. It was not that big a problem till the dependency was limited to its friends like UK. And also a big bear market commodities helped it sail through in the last quarter of the century.
But now it imports more than 60% of its oil. And more importantly, increasingly from not so good friends like Venezuela. UK production also seems to have peaked out with North Sea struggling.Like all good old empires US is now trying to get control of as many resources as possible. First to bear the brunt was Kuwait under the pretext of saving it from Iraq. US troops has still not left Kuwait a decade after the war is over. US has a massive troop presence in Saudi Arabia as well.Then came Saddam Hussein. Since they could not find any other valid reason to oust him, weapons of mass destruction were introduced as a pre-cursor to an ultimate invasion on Iraq's sovereignity.US presence in the Middle East is not at all funny.It is just doing what it has to do to survive.These regions are the last rich source of oil as we know it today. Next on the cards is Iran.
But then it is here that the picture changes. Because now China comes into picture.It is equally hungry to feed its own people and cannot possibly allow US to have an overwhelming presence and dominance in the region.So a war with Iran is fraught with th risk of plunging the whole world into a massive conflagration, which you might want to call the Third World War or Second Cold War.
Oil would be one of the reasons for the possible war besides many others including water.
But whoever comes out victorious from this clash has to sustain itself and oil may not be the answer this time.We have to turn to some other sources.
Alternatives:
Natural Gas: This is at present seen as an alternative, but the question is the same. Is their enough gas? and if yes where??...hope we dont again get to the Middle East for a very big part of the answer.
Wind Energy : Big source but not likely to have a the capacity to feed humans given its limitations in the sense wind speed, open land requirement etc.
Cold Bed Methane, Geothermal and so many others but they are a few decades away before making any meaningful contribution.

Think the source to bet on is the Sun. Everyday we get energy from the sun which ten of thousands of times the energy requirement for the whole year.The potential is much bigger than wind because of the retail penetration potential it has. You can have your power generator on your terrace.Clean and environment friendly. Solves so many problems that it almost sounds like an elixir for all our energy problems.The only problem as of now is the economic viability.But that after all is a relative measure.
5 of the biggest oilfields in the world have been producing oil from 1940s maybe. the last big discovery of oil was more than 3 decades ago. Ghawar, the oil field which supplies 5 mbpd oil out of a total world production of 84 mbpd, requires 15 million barrels of water to be pumped in to sustain the pressure to sustain production.The estimated reserves of these oil fields have been calculated to be the same over the last 25 years with no significant efforts for futher exploration.Mind you we are drawing oil from these fields big time and it is a little hard to digest that the reserves are still the same.
I believe oil will go beyond 100$. its a question of time and a time which is not too distant in future.And when that happens other sources of energy will follow suit given their supply limitations. Except maybe the Sun.

My bets are with the sun. How about you??

Of Hegemonies, Monopolies and Leaderships....

Disclaimer: a lot of views in the article are based on conviction and gut feel and i may not have any numbers to support my views...

lets look at media first...
Unlike in politics, incumbency is a boon in the media business. Its a headstart people will give their right hand for. And also unlike politics, its very difficult to remove an incumbent in media.
We have a very interesting situation in Mumbai. We are witnessing one of the most interesting battles in this media fiefdom called the "newspaper".
Times Of India has been the undisputed lord of this fiefdom in Mumbai.And that for decades.But now we have two candidates trying their might on the "as-of-now" impregnable fortress.Both Hindustan Times and DNA have in their own way started their journey, which they also understand is a going to be a long one and not necessarily successful.
lets see what was the state of ToI before these guys came in:
- Decades of dominance has made it complacent.
- Editorials are more often than not an apology for the meaning of the word.
- It was on its way to becoming a complete tabloid.

Lets see what it is after these guys came in:
- It is a few more steps down the lane to becoming a tabloid.
- In fact it has come up with a new tabloid itself, "Mumbai Mirror".

as far as i can see it, a response from ToI is conspicuous by its absence.

And this complacency is reflected across the board for the whole group Bennett & Coleman itself.

ET- the financial newspaper - is also one tabloid.
I strongly believe Cartoon Network can poach a few talented artists from ET because it has got better cartoonists than journalists.
Quite a few times a personality like Penelope Cruz is on the front page. If you are thinking why should that be for a business daily, then you are normal.
Getting the Who's Who in Indian Inc. to take over the editorial is an obsession with ET which makes me believe that the post is probably filled in by a non-serious part-timer.This belief is also supported by the quality of editorials.
The research work is shoddy and appalling and quite a few of the news items seem to be planted.
ET sells the paper on Saturday and Sunday at an obscene 9 Rs. Thats taking the "bottomline" focus a little too seriously.

So much for what is considered to be the best business daily in the country. There is more but we will leave that for some other day.

Now lets come to Radio Mirchi, the group's FM radio arm.
- they tell us that only 5% of the listener are "out-of-home" type.I dont know when this research was done but i will be shocked if the result is similar if the survey is done today. In the last 3 years, we have sold millions of mobile phones and a decent percentage of them would have FM. 5% number comes from the Stone Age i believe.
But that doesnt stop them from floating this so called "fact" around to support the "fact" that people dont switch channels.
- One of their other researches point out that only 5% people recall RJs and are therefore are irrelevant in the broader sense of things.
I wouldnt mind being absolutely unimportant and get paid 3 lac per month for being so.
With no content differentiation,RJs are probably the only link you have to make people stick around with your channel.But for them this is "irrelevant".
- They feel RJs having contacts in Bollywood are really important. I think RJs able to connect with people are a thousand times better.
- No wonder their programming content is hopeless.

What will probably happen is:
- HT would probably give ToI a run for its money much before a lot of people expect, if at all they expect.
- ET has already shown a drop of 25% in its readership in the last one year.Its a question of time before a quality daily like maybe a Hindu Business Line or somebody else will topple ET.
- Radio Mirchi will be no different.

And if these things turn out as i think they will, BCCL will become even more bottomline focused and give us more even more crap. Because that is the way they believe they can make money.
This "give-crap-n-take value' relationship is not sustainable.
In short I see BCCL group not being the same dominant group as before.And thats an understatement.

now lets our attention to Chennai where Deccan Chronicle is trying to create a dent in the Hindu stronghold. DC's contention is that its not too difficult because Hindu is not contemporary and DC will give people what they want.
Well, this "tits"-n-"bits" approach is going to attract some "eyes"-n-"balls". But only for some time.
Again, betting in a "nuisance vs value" fight is a no brainer.

In the TV business, we have seen leadership change 2-3 times now.
First we had Doordarshan, a monopoly and so a default leader.
But it did have some very popular serials like "Hum Log" and "Buniyaad".
TV business is a little different from newspaper in the sense that value here is in "entertainment" whereas "information" is what matters in a newspaper.But DD never renovated itself.
And when Zee came along in the early 90's, people yearning for a change just grabbed it with both hands and the slide of DD began. And it is still sliding for a number of reasons.
"Hum Paanch" and "Tara" became talk of the town in every town.And Zee prospered. Everything Zee did seemed to be perfect.
But over a period the offerings lost their freshness and again there seemed to be a vacuum.
This is when Star TV, KBC and Ekta Kapoor came along and just blew away Zee in practically no time.We have had a Star monopoly on prime time since then.Again whatever Star did seemed to be perfect.
Today we are at a stage where Star offerings are turning stale. It needs a renovation or it is a question of time before somebody blows them away.
the most likely candidate seems to be Zee again. Its got the momentum going. Some of its operas have started to feature in the top rung of the ratings.
Zee will have to keep delivering on content and maybe we have another change in leadership on the cards.

Now lets come to airlines.
The domestic story about LCCs and their increasing market share is all well known.
But what is not well known is that Yash Chopra, Javed Akhtar and Shahrukh Khan are on the Board of Directors of Jet Airways!!!
I would not be surprised if you hear Shahrukh Khan make in-flight announcements a few days from now.
What is also not probably well known is that Jet agreed to buy Sahara Airlines for a meagerly sum of Rs. 2500 Cr, when all it was interested in getting was the parking lots and some other airport infrastructure.That Sahara was losing money with every flight that was taking off didnt probably come to the notice of Jet!!!
Fortunately Jet on-the-ground performance has still not reflected the events of the boardroom. But that doesnt necessarily augur well for the shareholders i think. Because that leaves the scope for a Rani Mukherjee or Preity Zinta to join the Board.
Other airlines are eating away at Jet and it busy digesting Sahara, which is essentially "nothing". God bless Jet's shareholders.Amen!!!

well here i go....