The power sector is hot, for good reasons. India will remain power-hungry for decades and this demand will translate into a steady cash flow for Indian power companies. But you must be careful about what you buy. Most large standalone power companies are expensive. Many of them have poor management practices. The two best ones, NTPC and Tata Power, are among the more conservative and may not record great growth, relative to their current valuation. A good idea is to look for stocks that benefit from the growth in the power sector, but which are relatively small. Look at these three stocks.

Genus Power Infrastructures operates mainly in three segments—meters, transmission & distribution (T&D) projects and power inverters. Genus's growth opportunity arises partly from the Indian Electricity Act 2003, which ushered in power reforms mandating 100% metering at every stage of supply of power and stringent measures for controlling theft of electricity. This has accentuated the need for efficient electricity distribution and accurate billing. The electronic energy meters manufactured by Genus are low-cost and can easily replace mechanical meters. 

Some of its products have software built into them, which brings additional features, and are priced higher. Genus offers to local authorities a streetlight management system which has an IT-enabled, automatic online monitoring system, backed by data analysis software, that is far superior to manually-controlled systems. It not only measures the electricity consumed but also has controls for the on/off timings, with seasonal variations, using the internal real-time clock of the meter and low-power-consuming latching relays.

Genus is also increasingly focusing on the power T&D business. In this segment, its work entails setting up and upgrading existing power T&D networks, commissioning sub-stations, energy accounting and auditing at all distribution levels. The government's accelerated power development and reform programme (APDRP) is aiming to reduce the aggregate technical and commercial (AT&C) losses in urban areas, as also outages and interruption. This will be accomplished through the upgradation of sub-station transmission lines and distribution transformers—a segment in which Genus has strengthened its position over the past few years. The Rajiv Gandhi Grameen Vidyutikaran Yojana (RGGVY), launched in April 2005, aims to provide electricity in every village in India which is another opportunity. The meter and T&D segment contributed almost 90% of the company's revenues in FY08-09. With the hike in the budgetary allocation for the RGGVY and APDRP, Genus is on a growth path. As of March 2009, its order backlog stood at Rs1,070 crore, of which about Rs200 crore worth of orders are from the meters segment and about Rs800 crore were from the T&D segment. In the September quarter, revenues were up 39% and operating profit was up 18% while operating margin was a decent 16%. The stock is going cheap. Its market-cap to sales and operating profit ratios are just 0.36 and 2.19, respectively.

A few months ago, we had written about HEG, a graphite electrodes-maker; it's worth looking at again. HEG can make 60,000 tonnes per annum (tpa) of electrodes and is also present in hydro-power and sponge iron business. It is one of the lowest-cost producers of graphite electrodes, used to produce steel from scrap by electric arc furnace technology. It exports almost 80% of its production to clients such as Nucor, US Steel, ThyssenKrupp and Ispat Industries Ltd. In the domestic market, Ispat, TISCO and SAIL are the major customers. Aided by higher realisation and reduction in raw material cost (except for needle coke), the graphite segment is expected to generate higher profits in the coming days. 

The HEG management's buoyant outlook is clear from its decision to increase capacity from 60,000tpa to 66,000tpa. Earlier, it had planned to increase capacity to 80,000tpa which was deferred because of the low global demand for steel. It expects to increase the capacity to 80,000tpa by FY11-12. The two major global players, SGL Carbon (Germany) and Graftech International (US), are expected to increase their capacities from 215,000tpa to 220,000tpa by FY11-12.

However, during the same timeframe, global electrode capacities are expected to increase from 910,000tpa to around 10,25,000tpa. The two Indian players—HEG and Graphite India—are expected to account for around 35% of the incremental capacity. This is expected to increase HEG's market share from 6.5% to around 8%. 

HEG has three power plants for its electrodes manufacturing—a 13.5MW hydro-power plant and two thermal power plants of 30MW and 33MW. Commissioning of the new 33MW power plant in May 2009 has helped the company generate more revenue through merchant sale of power from the June-September 2009 quarter. HEG also holds a 36% stake in Bhilwara Energy which generates 86MW of hydro-electric power. It is also setting up a 192MW power plant through its subsidiary Malana Power (MPL). Bhilwara Energy has plans for setting up additional power generation capacity of 2,000MW in the next four-five years.

Three hydro plants of 85MW in Punjab and two 170MW plants in Nepal are also at the construction stage. With these new projects going on stream, HEG would have a non-cyclical, high-growth revenue model. We feel that the market is still not valuing the stock correctly, given the huge scope for windfall gains from the spin-offs and divestment of its stake in Bhilwara Power. Its market-cap is 1.05 and 3.73 times its sales and operating profit, respectively.

Gujarat Mineral Development Corporation happens to be an evergreen stock and must be bought on serious market declines. It is India's largest lignite merchant seller and the second-largest producer of lignite in the country, after Neyveli Lignite. Lignite is more cost-effective than coal as a fuel but it is combustible and so cannot be transported over long distances. Current regulations allow GMDC to sell lignite only in Gujarat. Moreover, user industries are not permitted to sell lignite to third parties even though they may have the mining rights for lignite. This insulates GMDC's profitability. But GMDC is also getting into extraction of other minerals. Although around 90% of its revenues come from lignite, its product range includes bauxite, fluorspar, granite and marble; it has also recently won coal blocks in Chhattisgarh and Jharkhand. Two years ago, GMDC entered the power sector by setting up the 2x125MW Akrimota thermal power project. The lignite required for the project is supplied from its own mine in Panandhro. In FY08-09, GMDC promoted Bhavnagar Energy Company, along with seven other companies, to set up a 500MW power plant in Bhavnagar district (Gujarat). It has also signed an agreement with KSK Energy Venture for the supply of seven million tonnes of lignite from the Morga II block in Chhattisgarh for a 1,750MW power plant. This power plant, in which GMDC has a 26% stake, is expected to be commissioned by 2012. The September quarter has been good for GMDC as its sales and operating profit grew 35% and 31%, respectively, compared with the same period last year. It operates with a high operating margin (45%). The stock is not going cheap. Its market-cap is 3.95 and 8.69 times its sales and operating profit, respectively. Buy it at around Rs111.