Tenaga powers up

Long shunned by investors in favour of the independent power producers (IPPs), Tenaga Nasional Bhd (TNB)’s prospects are now powering up nicely. Investors have historically preferred the IPPs over Tenaga for their earnings certainty and consistent dividends. Much of the IPPs’ appeal, ironically, has been at the expense of Tenaga.

This week’s tariff hike is only one of many re-rating catalysts. More importantly, we believe the government is becoming more receptive to tariff hikes to ensure that the national utility has the financial capability to sufficiently invest for the country’s growing power needs. Thus, we expect more gradual tariff hikes ahead.

On its own, Tenaga is employing a more aggressive approach in expanding its own generating capacity, and is taking on more market share after having lost out to the IPPs over the last two decades. Its cost outlook is looking good, as the company controls its fuel cost mix and benefits from low coal prices.

Tenaga is also shaping up to be one of the market’s cheapest large cap stocks with a decent yield to boot. The tariff hike announced this week, combined with higher capacity, will give earnings a major lift over the next two years. The stock is currently trading at P/E multiples of only 13.2 and 10.8 times for FYAug14-15, with a net dividend yield of 3-3.7%, comparable to bank deposit rates.

Demand for electricity is expected to grow by between 3.5-4% per annum going forward. With the tariff increase, Tenaga’s turnover is estimated to grow by some 10% pa, on average, for the next two years.

Cost-wise, things are also looking good for Tenaga.

Thermal coal prices have fallen well off their peak. They averaged as high as US$142 per tonne in January 2011, and are currently selling for around US$85 per tonne. Prevailing market forecasts for the next few years are modest, with prices ranging from US$80-US$100 per tonne. This will help keep a lid on Tenaga’s future fuel bill.

Coal is the cheaper fuel compared to gas and oil. Its per unit cost is roughly 11 sen compared to about 13 sen for subsidised gas and up to 35 sen for imported LNG.

Tenaga is building proportionately more coal plants. The coal-fired Manjung 4 and 5 with total capacity of 2,000MW are slated to commission in FY15 and FY18, respectively, while only 1,000MW of gas-fired plant is planned for FY16. It is also commissioning two hydro plants which have zero fuel cost. These have a total capacity of 637MW and will be commissioned in FY16.

In short, the overall fuel cost per unit generation is expected to be relatively steady while the company builds up its own capacity.

We forecast Tenaga’s net profit will rise to nearly RM4.7 billion in FY14 and RM5.7 billion in FY15 – up from RM4.12 billion in FY13, excluding unrealised forex gains. At the current price of RM10.94, its shares are trading at 13.2 and 10.8 times our estimated earnings for the two years.

In line with the higher earnings and operating cash flows, we expect Tenaga to raise its dividends to about 33-40 sen per share in FY14-FY15, respectively. That will earn shareholders net dividend yields of 3-3.7%. Based on our forecasts, its balance sheet will remain strong with gearing estimated at 39% and 36% for the two years.

A more detailed analysis is carried in The Edge Malaysia this week.