CIMB Research retains Add for Tenaga, stronger earnings ahead

CIMB Research advises investors buy into more defensive sectors like utilities (Tenaga Nasional) and construction (Gamuda)

KUALA LUMPUR: CIMB Equities Research is maintaining its Add call on Tenaga Nasional Bhd as it believes its earnings will not be affected by the rising fuel cost. 

It said on Friday the power giant trades at 11 times CY17 price-to-earnings (P/E), making it the cheapest big-cap utilities stock in its coverage. 

However, the key downside risk to our call is a sell-down of Malaysian equities as Tenaga is often seen as a proxy for the Malaysian stock market.

Tenaga’s 2QFY17 core net profit fell by 3% on-year to RM1.453bil (US$334mil), due mainly to lower finance income, higher finance expenses, and higher allowance for receivables. 

Its revenue grew by 6% on-year while earnings before interest, tax and depreciation (EBITDA) rose 8% on-year. 

However, the impact of higher EBITDA on the bottomline was more than offset by higher depreciation charges and higher net financing cost. Completion of new power plants have resulted in higher depreciation charges (+8% on-year) and finance expenses (+63% on-year).

CIMB Research pointed out Tenaga recognised RM136mil allowance for receivables (i.e. bad and doubtful debts) in 2Q17, bringing the total allowance in 1H17 to RM446mil. These were significantly higher than the RM36mil recognised in 2Q16 and RM65mil in 1H16. 

“Management explained that the higher provisions were a result of deterioration in collection patterns as well as a shift in provisioning policy, where a more conservative stance has been adopted.

“While the higher-than-usual allowance for receivables may recur in the next few quarters due to the challenging economic outlook, we still expect Tenaga to report stronger earnings in 2H17,” it said. 

Last year, Tenaga’s 1H16 core net profit was only 45% of FY16’s. The research house expects stronger earnings in 2H17 to be contributed mainly by seasonally higher sales volume and higher positive accrued revenue adjustment, which is an accounting item that adjusts for the difference between estimated and actual billing of electricity usage.

“During the results briefing, several participants asked whether Tenaga needs to raise tariffs in 2H17 to pass through the higher fuel costs. The over-recovery of fuel cost under the Imbalance Cost Pass-Through (ICPT) mechanism was only RM796mil in 1HFY17, 43% lower on-year. 

“However, Tenaga revealed that it still has RM1.5bil of savings from renegotiations of first-generation power purchase agreements (PPA). These savings could be tapped into to offset the impact of higher fuel costs on tariffs in 2HCY17.

“In the worst-case scenario where Tenaga does not obtain the tariff increment as outlined in the ICPT mechanism, its accounting earnings may not be affected because the resulting lower billing could still be recognised as revenue (and treated as receivables) rather than written off. 

“These receivables could be reversed in the future through tariff hikes when economic and political climates are more conducive to higher electricity cost,” said CIMB Research.