• Bloomberg reported that the Ministry of Energy, Science, Technology, Environment and Climate Change is reviewing a proposal to open up the retail electricity sector in Malaysia. The government is considering whether to allow consumers to choose electricity suppliers other than Tenaga Nasional.

• The government is studying whether the move will make tariff rates more competitive for consumers. The ministry will present the results of the study to the cabinet soon.

• There are several issues here. First, there will be two market segments i.e. wholesale and retail. We believe that in the wholesale market, the independent power producers (IPP) will still be selling energy to Tenaga Nasional and enjoying their capacity payments as these are already contracted under the power purchase agreements.

• In the retail segment however, consumers and retailers (middlemen) can buy electricity directly from the power producers or retailers. Retailers buy electricity from the power producers and then sell them to the consumers.

• In Singapore, the power producers compete to generate and sell electricity in the Wholesale Electricity Market (WEM) every half hour. The WEM is like a power exchange. Retailers buy electricity in bulk from the wholesale electricity market to sell to the customers.

• Second, looking at the Singapore model, power pooling would result in power producers competing to sell electricity at the lowest rates to gain market share. This would result in lower operating profit margins. We believe that fuel costs would still be passed through but operating profit margins would be thin. YTL Power’s power unit in Singapore recorded a pretax loss of RM149.1mil in 9MFY19 (ex-impairment). Due to its size and balance sheet, we believe that Tenaga Nasional would be a strong competitor if the retail segment is opened up.

• Third, if the IPPs are selling electricity directly to the consumers, we think that they would need to pay a fee to Tenaga Nasional for the transmission and distribution activities. In Singapore, government agencies are the grid operator. Currently out of Tenaga’s base tariff rate of 39.45 sen/kWh, about 11.58 sen/kWh are for transmission, distribution, customer services and grid system operations.

• Fourth, if the government is opening up the retail segment, there is a possibility that the imbalance cost pass-through mechanism might not be relevant. There may not be a need for the Electricity Industry Fund to subsidise rates for the domestic segment. This is because under the open system, retail electricity rates would fluctuate based on costs, demand and supply. Currently, the Regulatory Period 2 Framework for the power industry in Malaysia lasts from 2018 to 2020.

• Overall, we believe that the liberalisation of the retail segment would be negative for Tenaga as operating profit margins may be affected. On a positive note, Tenaga would be a strong competitor due to its size and balance sheet.

• Maintain HOLD on Tenaga with a fair value of RM13.50/share.

Source: AmInvest Research - 5 Jul 2019