Investment Highlights

• We maintain our SELL recommendation for Petronas Gas (PGas) with unchanged forecasts and sum-of-parts-based (SOP) fair value of RM16.60/share, which implies an FY17F PE of 18x, a 20% discount to the 2-year average of 23x.

• Since our downgrade from HOLD on 18 November last year, the share price has fallen by 18% on concerns of value erosion from the Energy Commission’s (EC) plan to implement IncentiveBased Regulation (IBR) initiatives on the group’s gas transportation tariff under the Gas Supply Act 2016.

• Based on management's guidance that its gas transportation segment’s depreciated replacement cost is 3x its current historical book value, our FY18F-FY19F return on regulated asset base (RAB) translates to 9% for the gas transportation segment vs. Tenaga Nasional’s 5.4% ROA in FY17.

• PGas held a teleconference yesterday post-9MFY17 results yesterday helmed by MD/CEO Kamal Bahrin Ahmad and CFO Shariza Sharis Mohd Yusof. The key points of the briefing are:

• Management did not provide much clarity on the third-party access (TPA) negotiation with the EC other than reaffirming that the group is working with the authorities to minimise the impact to its business operations.

• The TPA negotiation with the EC is still ongoing while the group's licence submissions for the Peninsular Gas Utilisation system together with the Melaka and Pengerang regasification terminals were made on 24 October this year.

• Even though the effective date of the TPA will be by 16 January next year, management is not able to provide any clarity on the timeline of the EC's decision or the tariff structure.

• The group’s 65%-owned Pengerang LNG regasification terminal (RGT), which has a capacity of 490 mmscfd that is 8% lower than the Melaka RGT’s 530 mmscfd, has reached commercial operation on 1 November 2017 and will marginally contribute to the group’s revenue and earnings in the final 2 months of this year. At a cost of RM2.7bil, we have already incorporated this RGT to account for 6% of FY18F-FY19F pre-tax profit.

• Management did not comment on the possibility that Petronas Gas may be securing an equity stake in Petronas’ 1,220MW Pengerang co-generation gas-fired power plant, which costs RM5bil. The first gas supply was sent via the group’s 70km gas pipeline on 14 June this year. In our view, this additional project returns, if secured, is unable to fully offset the potentially adverse IBR-led impact to the group’s transportation tariff.

• The stock currently trades at an unjustified FY17F PE of 20x with its earnings likely to erode over the longer term under the new TPA terms.

Source: AmInvest Research - 14 Nov 2017