Investment Highlight

• Overweight. We have Buys on the power companies in our coverage. We like Tenaga Nasional (TNB) (Fair value: RM11.40/share) for its integrated power operations while YTL Power International (Fair value: RM2.70/share (Under review)) is a BUY for the sterling profits in its Singapore unit. We like Mega First (Fair value: RM4.45/share) due to its undemanding FY24F PE of 8x. Also, the group has the highest exposure to renewable energy in our stock universe. Malakoff is a BUY (Fair value: RM0.75/share) as its net profit is expected to normalise in FY24F on the back of a turnaround in fuel margins.

• Malakoff’s FY24F dividend yield of 8% is the highest. Malakoff’s dividend per share of 5.1 sen is anticipated to be backed by a turnaround in earnings and free cash flow of 25 sen per share. The other power companies are expected to record dividend yields of 2% to 5% in FY24F.

• 3-star ESG rating. Our ESG rating for the power sector is only 3 stars as coal is still the main feedstock used to generate electricity in Malaysia. We believe that it will take time for renewable energy such as solar and hydro to replace coal. We think that gas powered plants co-fired with ammonia/hydrogen will replace expired coal PPAs (power purchase agreements) in future. Coal accounted for 58.6% of generation mix in Peninsular Malaysia in 3Q2023 while gas accounted for another 35.1%. Solar and hydro made up another 6.1% of generation mix while distillates accounted for the balance 0.2%.

Outlook and developments in 2024F

• More solar projects in 2024F. We believe that demand for solar systems would come from the rooftop segment, solar farms and data centres. We reckon that demand for solar rooftop systems will increase as C&I (commercial and industrial) companies seek to reduce electricity bills and carbon footprint. Solar EPCC companies are expected to benefit from the roll-out of solar projects in 2024F. These include companies such as TNB, Pekat Group, Solarvest Holdings and Samaiden Group. Under CGPP Phase 1 (Corporate Green Power Programme), 563MW of solar capacity were awarded to various companies and these are expected to be commissioned at the end of 2025F.

• Profit margins of solar projects are expected to improve as the cost of solar panels has declined. Hence, we believe that there is potential for companies to register a decent return under CGPP. The cost of solar panels is estimated to be US$0.18/kWh currently compared to the high of US$0.31/kWh in 2022. Off-takers are expected to be sister companies of the winners. For example, we believe that Sime Darby Plantation would be selling green energy under CGPP to Sime Darby or Sime Darby Property.

• Exports of electricity to commence in 1H2024. A successful trial run is expected to pave the way for more electricity exports from Peninsular Malaysia to Singapore. YTL Power Seraya is the electricity importer for the 2-year trial to import 100MW from Malaysia. Recall that Singapore plans to import up to 4,000MW of low carbon electricity by 2035F, making up to 30% of the country’s electricity supply. TNB would be receiving a freewheeling charge for the usage of its grid network and inter-connectors.

• Sarawak would be exporting hydroelectricity to Singapore but not so soon. We think that this will take place in 2032F. Sarawak is in advanced stages of commercial negotiations to export to Singapore through undersea cables. The cost of laying the undersea cables will be borne by Singapore. 80% of the cables will be in Indonesian waters with 20% in Malaysia. Sarawak is exporting electricity to Kalimantan currently.

• Electricity demand in Peninsular Malaysia to rise by 2% in 2024F (ex-RP3 cap of 1.7%). This is the same growth rate as 2023E. We believe that electricity demand would be muted in 2024F as export-based industries remain sluggish. Bloomberg consensus forecasts Malaysia’s GDP growth at 4.5% in 2024F vs. 4% in 2023E. We also think that electricity demand from the commercial sector would soften in 2024F after a strong recovery in 2023E.
• Tariff surcharge for electricity users to continue in 1H2024 but at a lower rate. As coal and gas costs are still higher than the reference rates stipulated in RP3 (Regulatory Period), we reckon that electricity users would continue facing a surcharge in electricity tariffs. Residential users are not anticipated to be affected by the tariff surcharge as they would be subsidised by the Energy Industry Fund. Under RP3, the reference rates are US$79/tonne for coal and RM26/mmbtu for gas.
• Coal and gas costs have stabilised. On the back of this, fuel margins for TNB and Malakoff are expected to swing into the black in FY24F compared to losses in FY23E. Fuel margins were negative in FY23E as coal prices plunged. TNB’s fuel margin losses were RM767.9mil in 9MFY23 while Malakoff recorded fuel margin losses of RM972mil. Since May 2023, Australian coal prices have been hovering between US$125/tonne and US$135/tonne. Bloomberg consensus forecasts coal price at US$147.50/tonne in 2024F compared to spot price of US$128/tonne. Henry Hub gas price is projected to be US$3.40/mmbtu in 2024F vs. spot price of US$2.80/mmbtu.
• RP4 (Regulatory Period) to be announced at the end of 2024F. RP4 would take effect from 2025F to 2027F. RP4 would set the parameters in which TNB will operate. We believe that TNB’s rate of return would not fall below 7% under RP4. There is no incentive for TNB to invest or carry out capex if the rate of return is too low. TNB’s rate of return was 7.3% under RP2 and RP3. After the base tariff and capex allocation have been announced, TNB will carry out capex to upgrade the grid in 2025F. The cost of upgrading the grid is estimated to be RM35bil over 5 years.
• WTE (waste to energy) plants are gaining interest. The outlook for waste management industry in Malaysia is positive as the volume of waste is forecast to increase to 19mil tonnes in 2050F from 14mil tonnes in 2021. Kedah, Pahang and Johor will be launching the bidding process for WTE plants in 2024F. We believe that Malakoff and YTL Power would be bidding for the projects. Recall that YTL Power and KDEB Waste Management are jointly developing a RM4.5bil WTE plant in Rawang, Selangor. The WTE plant will have a capacity of 2,400 tonnes per day and generate 58MW of electricity. The project is currently waiting for approvals from various parties.

• TNB to benefit from a higher number of data centres in the country as electricity demand from data centres is recurring. Electricity demand from data centres is expected to exceed 5,000MW in 2035F. TNB has signed electricity supply agreements with 8 data centre players amounting up to 2,000MW. Malaysia received investments worth RM76bil for data centres from 2021 to March 2023.

• Green financing gaining traction. We reckon that more companies would be using green financing to finance renewable projects in 2024F. In July 2023, Malakoff raised RM975mil by issuing the Asean Green SRI Sukuk Wakalah. The sukuk will be used to finance 3 small hydropower plant projects in Kelantan, with capacity amounting to 84MW in total.

• Acquisition of overseas renewable assets may pick up in 2024F if interest rates decline. We think that the pace of acquisition would accelerate when interest rates soften. In our stock universe, TNB is the most aggressive in asset acquisitions. We believe that TNB is eyeing solar assets in Australia and New Zealand. Currently, TNB has wind and solar assets in the UK. TNB’s gross cash and equivalents stood at RM15.6bil as at end-September 2023.

Source: AmInvest Research - 4 Jan 2024