Maharatna Status And Renewable Energy Investments Will Improve Future Prospects

Key Takeaways

• Robust growth in renewable energy project disbursements and asset management expansion bolster REC's revenue and earnings prospects.
  
• Operational efficiencies, diversification of funding, and non-performing asset recovery are enhancing profitability and financial stability.
  
• REC faces potential growth and profitability challenges due to repayment dynamics, non-power infrastructure risks, prepayment issues, PPA delays, and competitive pressure in project funding.

Catalysts

Engages in the provision of financing services for power generation, transmission, and distribution projects in India.

• REC Limited's significant growth in disbursements, particularly in renewable energy projects (increased by 79% in the first 9 months), may drive future revenue growth and strengthen their loan portfolio.
  
• The expectation of asset under management growth to ₹10 lakh crores by 2030 with continued support of renewable energy projects will likely support overall earnings growth.
  
• Operational efficiencies such as a reduced cost of funds (down to 7.15%) and increased net interest margins (up by 12 basis points to 3.64%) suggest an ability to enhance net margins and profitability.
  
• The anticipated recovery and resolution of non-performing assets may lead to provisioning reversals (a total reversal of ₹2,200 crores expected by December 2025), which could improve net earnings by reducing future credit costs.
  
• REC's diversified funding sources, including international bonds, and the greater operational autonomy from its Maharatna status, facilitate strategic expansions and investments which could positively impact revenue growth and stability in earnings.

REC Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming REC's revenue will grow by 11.7% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 74.6% today to 71.1% in 3 years time.
• Analysts expect earnings to reach ₹207.4 billion (and earnings per share of ₹79.78) by about March 2028, up from ₹156.2 billion today.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 11.4x on those 2028 earnings, up from 7.2x today. This future PE is lower than the current PE for the IN Diversified Financial industry at 24.3x.
• Analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 14.37%, as per the Simply Wall St company report.

REC Future Earnings Per Share Growth

Risks

• The elevated repayment rate in the distribution segment, mainly due to revolving bill payment facilities and some prepayments in the renewable genco book, could slow down growth in the loan book and, in turn, affect revenue growth.
  
• Potential challenges with REC expanding into non-power infrastructure, such as issues with long gestation periods and execution risks, could impact profitability and net margins.
  
• The renewable energy sector, particularly for private projects, may face elevated prepayment risks, affecting asset longevity and possibly leading to reduced consistent interest income streams.
  
• REC's funding for renewable projects is reliant on PPA-backed segments; delays or difficulties in signing PPAs could slow down disbursement growth, potentially impacting future revenues and loan book expansion.
  
• Competition for generating projects, particularly with under 9% yield expectations and long moratoriums, may challenge REC to maintain interest margins and profitability in conventional thermal project funding.

Valuation

• The analysts have a consensus price target of ₹602.727 for REC based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of ₹720.0, and the most bearish reporting a price target of just ₹525.0.
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2028, revenues will be ₹291.5 billion, earnings will come to ₹207.4 billion, and it would be trading on a PE ratio of 11.4x, assuming you use a discount rate of 14.4%.
• Given the current share price of ₹429.5, the analyst price target of ₹602.73 is 28.7% higher.
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.