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DLF may find it hard to exit wind power business says report

According to reports, DLF is now seeking shareholders’ approval to sell its wind power business which has a total installed capacity of 161.2 mw. Reports indicate that the unit will be sold at Rs 1,000 crore. The windmill division posted revenue of Rs 90.88 crore in FY11 and an operational and maintenance cost of Rs 17.61 crore thus generating an operating profit of Rs 73.27 crore. The selling price of Rs 1,000 crore seems too high given the fact that it will take over 13 years to achieve operational break-even.

Perhaps, DLF held on to its windmill division a bit too long. Companies invest in windmills to avail of tax benefits on account of accelerated depreciation and not for generating power. As the government has recently removed all such benefits, windmills no longer are a financially viable proposition.

Windmill manufacturing companies (like Suzlon) used to sell them as a financial product which earned a high internal rate of return. The calculations included benefit of high rates of depreciation that windmill owners were allowed to charge in the earlier years. Since revenues and profits were low as compared to the investment, windmills posted losses in the initial years on account of front-loading depreciation, which were used by the corporate to set off against their profits.

With the removal of accelerated depreciation, the losses will come down and the incentive of investing goes out the window. Windmill providers will have to reduce the rate of setting up a unit substantially in order to keep this mode of power generation viable for companies to invest. In such a case, DLF will have a tough time finding a buyer for the price it wants.

Edelweiss has put an enterprise value (market capitalization + debt) of Rs 780 crore for DLF’s power asset, which is 8 times EBIDTA (earnings before depreciation interest and tax) of Rs 91.1 crore that it is likely to achieve in FY14, two years from now. In other words if an investor puts in Rs 780 crore today, it will take him 10 years to reach operational breakeven, in a sector which has lost all its charm.
DLF might have to look at selling some other assets to bring down its debt or bring down its expectation drastically if it wants to sell this unit.

We do not believe that the above report looks at potential business model improvements that can be made once an IPP acquires such an asset. Industry experts that we spoke to have said, factors like modification of existing PPA’s, REC’s and O&M would also have been factored in by the potential buyer. Also, we also believe that the assets continue to remain attractive at the lower end of the price range being discussed in the market.

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