Investors in Adani Green Energy Ltd should be on Red Alert

A 25-bagger in two years.

The current Market Cap is 115362 Cr.

Based on FY20 numbers, the share price currently trades at 45 times Sales.

Enterprise Value (EV) as on 1st Oct, 2020 is calculated as below:

Enterprise Value
11536
Equity 2
Debt 14866
13022
  8
Less: Cash 695
EV (INR 12953
Cr) 3

So, EV/EBITDA comes to around 85. (FY20 EBITDA is INR 1530 Cr)

Such exorbitant valuation reminds one of IT stocks during the Y2K euphoria. Warren Buffett, on that
occasion, said this:

“When we buy a stock, we always think in terms of buying the whole enterprise because it enables us to
think as businessmen rather than stock speculators. So let’s just take a company that has marvelous
prospects, that’s paying you nothing now where you buy it at a valuation of $500 billion. If you feel that
10% is the appropriate return and it pays you nothing this year, but starts to pay you next year, it has to
be able to pay you $55 billion each year – in perpetuity. But if it’s not going to pay you anything until the
third year, then it has to pay $60.5 billion each per year – again in perpetuity – to justify the present
price… I question sometimes whether people who pay $500 billion implicitly for a business by paying
some price for 100 shares of stock are really thinking of the mathematics that is implicit in what they’re
doing. For example, let’s just assume that there’s only going to be a one-year delay before the business
starts paying out to you and you want to get a 10% return. “If you paid $500 billion, then $55 billion in
cash is the amount that it’s going to have to disgorge to you year after year after year. To do that, it has
to make perhaps $80 billion, or close to it, pretax. Look around at the universe of businesses in this
world and see how many are earning $80 billion pretax – or $70 billion or $60 or $50 or $40 or even $30
billion. You won’t find any…”

Even if Adani Green starts generating profits and Cash Flows (CF) from this year itself, for a 10% return
p.a. we should expect it to generate CF of INR 11536 Cr every year until perpetuity. Assuming 20% tax,
PBT from this year until perpetuity should be at least Rs. 14420 Cr. Only 12 listed companies in India
produce a PBT of higher than INR 14420 Cr.

Now, that was for 10%. If we have the target of 15%, the PBT increases to INR 21630 Cr. Only 7 Indian
companies have a PBT of higher than 21630 Cr.

Those are here:

No Company’s Name PBT (FY20) (INR Cr)

1 Reliance Industries 53606
2 TCS 42248
3 HDFC Bank 38195
4 State Bank of India 30317
5 HDFC 26193
6 Coal India 24071
7 Infosys 22007

All the above businesses have been able to come this far after multi-decades of strong performance.
Adani Green has barely completed 5 years of operations and has made losses in all of them.

If market is right on the valuation, then there must be an explosive growth path for the business and the
industry going forward.

Let’s get into the Renewable Energy sector and see how Adani Green is positioned in it.

Renewable Energy Sector of India in a snapshot

Source: Central Electricity Authority, Ministry of New and Renewable Energy, India

So, sector tailwinds are there for sure.

What about the business model?

“Adani Green is one of the largest renewable companies in India, with a current project portfolio of 14K
MW. The company develops, builds, owns, operates and maintains utility-scale grid-connected solar and
wind farm projects. The electricity generated is supplied to government entities and government-backed
corporations.

Key points:

 Long gestation projects

 Government is their customer
 Regulations play a crucial role in their business
 Highly Capex intensive
 Long working capital cycle

And now this:

Cumulatively, 4.2K Cr of CFO produced by Adani Green while investing a huge 12.3K Cr in Capex. That
has resulted in increasing the debt multifold. That’s not enough.
Check the clipping below from the recent concall:

INR 20000 Cr of capex planned for the next couple of years already. From where will the money come?

Two options: Equity dilution or Debt.

Either option points at a dismal return to owners/shareholders.

Does Adani Green show any characteristic of a sustainable competitive advantage? Let’s run a quick
checklist.

Sl. No. Economic Moats Checking for Adani Green

1 Brand Power
2 Patents/ IP
3 Regulatory License
4 Customer Switching
Cost
5 Network Economics
6 Cost Advantages
7 Corporate Culture
A commodity/utility business. No Brand power
No innovation or unique product. So no Patents/IPs
Yes. Adds a little to the competitive advantage.
Customer is government. Government can switch at will.
No network economics at play here
Not evident as of now as the business is making losses
No great stories of excellent culture demonstrated yet.

Tailwind in the sector might help increase revenue and profits to some extent but how will that translate
to better return ratios?

Now, look at this:

Do you want to invest in a business which has Reliance as a direct competitor?

I would not.

Reliance has the capacity to suffer for a long period during which life of a competitor is like hell.

There are many problems with the accounts. Let me highlight a few:

1. EBITDA is calculated in a unique way.

“Other Expense of more than 500 Cr is not deducted from Revenue while calculating the
EBITDA. See the type of expense which form part of the other expense:
Ideally, this should be deducted from Revenue to arrive at the correct EBITDA.

2. Depreciation going down even when they are investing in large projects. Simple. Change the
method of calculation:

3. Finance Cost optically going down but the devil lies in the details. Exceptional Profit on
Derivatives contracts used to adjust the finance costs.
 4. There are 74 subsidiaries and Joint Ventures making it difficult to analyze the performance.

Adani Green reminds of

The HD drive industry in the USA (1980s)

The IT companies around the world (Late 1990s)

Housing mortgage companies in the USA in (2003-2007).

Real estate & infra companies in India in (2003-2007).

All of them had:

Phenomenal growth potential

Valuation rose leaving no room for error

One Black Swan event

And

All the past glory vanished.

However, as Ray Bradbury said, “Insanity is relative. It depends on who has who locked in what
cage.”. So only the future will reveal the reality.

In summary, Adani Green

 Is too complex a business (multiple subsidiaries) to understand

 Commits many accounting irregularities
 Has a giant competitor in Reliance
 Has no competitive advantage
 Overstretched valuations.

Investors must avoid it.

Impossible to predict when the stock price will fall.

Naturally, some will make money from this stock.

That cannot be the reason to buy.

Reminds me of Charlie Munger:

“Envy is a really stupid sin because it’s the only one you could never possibly have any fun at. There’s a
lot of pain and no fun. Why would you want to get on that trolley?”

Investors of Adani Green should rather be on Red Alert.