Yesterday’s article on this page talked about some of the pressing issues confronting JSW Steel—primarily the hammer-blow suffered by the company after the Karnataka ban on illegal mining in Bellary, and the subsequent drought in iron ore for steel makers. Compared to JSW Steel, JSW Energy, also promoted by Sajjan Jindal, is perhaps on a relatively safe wicket.
Just about, though. Here too, without extensive captive coal supply, the company exposes itself to the vagaries of price and supply volatility which in turn has impacted its profitability. Unlike its peers such as Tata or Reliance ADAG, JSW Energy has not met with much success in coal acquisitions abroad.
The company is unfortunate enough to experience a double whammy. Fifty three per cent of the power it generates is sold through short-term contracts, versus the normal industry practice of selling the lion’s share of power generated via long-term power purchase agreements (PPAs). “JSW Energy’s business model in the medium term is largely a combination of merchant power sales and spot coal purchases. The model exposes the company to the risk of lower merchant prices and availability and price of imported coal,” said a recent report by Motilal Oswal in a section on key investment risks.
The markets haven’t reacted kindly either. The stock has been trading at almost half of its initial public offering price. It recently reported profits in the fourth quarter, but after a long spell of bad quarterly performances due to high international coal prices.
Still, its management argues that the model has worked just fine for them, with deficit states such as Karnataka still willing to pay premium merchant tariffs. Even last year, its average realisation was Rs 4.50-Rs 4.80 per unit, balancing out the drop in sales and rates in Maharashtra. “It is good that we have remained a merchant power player. Our average realisations are much higher than that of others,” says Nirmal K Jain, the vice-chairman of JSW Energy, Sajjan Jindal’s brain trust, who has been brought back after his retirement to turn the power ventures around. Long-term agreements at unsustainable rates of Rs 2 per unit, according to Jain’s calculations, would have been far worse.
Jain admits that obtaining raw material security is top priority for the company. “For my 1,080 Mw Barmer project, I am fully secured for fuel and insulated from any fluctuations.” The Rajasthan project comes with mines that have 450 million tonnes of captive lignite coal reserves, which can produce 9 million tonnes of fuel resources annually. After the land acquisition related delays have been sorted out, Jain expects to enjoy the upside going ahead.
While Rajasthan will not cause much anxiety, what will are the company’s plants in Karnataka and Maharashtra accounting for 2,060 Mw of operational capacity. Here, the reliance is entirely on imported coal bought from the spot markets, prices of which had skyrocketed to $135 per tonne last year, subsequently inflating the company’s fuel bill by 54 per cent despite high capacity utilisation at 89 per cent and high net generation volumes.. This is where the company is most vulnerable.
Not having secure coal supplies can send a project into a tailspin. For instance, JSW had a 300 Mw power purchase agreement with the Maharashtra state government, which bound it to supply power at the contracted amount. Then, the company’s Indonesian coal supplier cancelled the contract using the force majeure clause, forcing the company to source coal on a spot basis for its Ratnagiri plant. When the company tried to seek a hike in tariff, the Maharashtra government cried foul. The case is pending with the regulator. The company had ambitious plans to expand the 1,200-Mw project to 3,200 Mw but the setback forced Jindal to delay that till the coal crunch is settled.
Conventional wisdom may insist on reducing risk by cornering international sources, but Jain feels that spending top dollar for mining acquisition at this moment may turn counter-productive. “It’s not a life and death situation that we go for a buyout when there is scarcity. Acquisition prices are also abnormally high,” he explains.
Is that why they baulked at the last minute after signing an agreement to buy CIC Energy in Botswana last year? “It was a good quality mine with huge reserves. However, the area was underdeveloped and logistics are challenged. So, we thought, ‘Does it make sense to invest that kind of money and run a risk of that investment getting stuck as well?’” says Jain.
The right time to do a deal may be elusive, but Jain is confident of closing one at the right price. One alternative to buying could be long-term coal purchase contracts with binding price bands, but these too are becoming tough to come by. “What we have learned from the international market is that suppliers are ready to commit long term agreements for quantity. They are not able to commit to prices, and if they do, they try and charge a premium,” Jain adds.
The company may have found a way out of its predicament. It is has planned two power projects in West Bengal and Madhya Pradesh that come with allocated captive coal mines. The West Bengal project enjoys fuel security, according to the company. Chattisgarh’s, however, doesn’t, or at least not enough to fuel the entire project. “In Chhattisgarh, we have coal mines allocated in Mahanadi Coalfields where our share is 1.65 million tonnes per annum, enough for 660 Mw. We will go for one unit for now. We can only go to those places where there is fuel security,” he says.
Its new projects, secured by long-term PPAs, may well give much needed energy to JSW, but it says a lot about a company whose principal game plan was to become a power player by leveraging the spot markets in electricity and coal for profit.
