Highlights/ Comment

The government reiterated the need to restructure subsidies, which is detrimental to the economy and government’s budget. The combined subsidies of Federal Government and Petronas has escalated to RM70.3m in 2012, and expected to be even more in 2013, given the increased energy prices and population growth.

The recent fuel price hikes (15-20 sen/liter) signifies the government’s message and we expect the next measure to be the revision on electricity tariff and gas prices by mid-2014 (Fuel Cost Pass Through- FCPT).

The implementation of automatic FCPT is imminent to warrant the successful implementation of IBR (incentive based regulation) in 2015, benefitting Tenaga (remove major uncertainties on government’s policy).

We believe Tenaga’s earnings and cash flow is very much guaranteed and shielded from the uncertainties of fuel cost. Automatic FCPT protects Tenaga from fluctuations and increasing power generation costs (including fuel cost) while IBR incentivizes Tenaga to improve operational efficiency and guaranteed returns to shareholders.

Government is determined to ensure continuous low electricity cost to the country through various measures:

1.Higher coal power generation mix to meet increasing future demand (coal is the cheapest source of energy).

2.Undersea cable transmission by 2022 to source hydropower generation from Sarawak to peninsular (no fuel cost involved in hydropower generation).

3.Investment into Indonesia to secure coal power generation and inter-country power transmission between both countries.

4.Competitive biddings for new power plants, which involved international players and benchmarked against Tenaga’s internal acceptable IRR. This is negative to IPPs (Malakoff and YTLP), as they need to cut their IRR target in order to win new PPAs.

Risks

Downside risks –

• Surge in global energy prices (natural gas and coal).
• Supply disruption of energy resources.
• Depreciation of RM.

Forecasts

Unchanged.

Rating

Overweight

Positives –

• Expect continued economy growth albeit slower pace.
• Commencement of Melaka RGT (Stable gas supply).
• Implementation of FCPT and IBR.

Negatives –

• Unclear fuel cost pass-through mechanism policy.
• Depreciation of RM against US$.

Valuation

Maintained Buy on Tenaga with unchanged TP of RM10.20.

Maintained Hold on YTLP with unchanged TP of RM1.66.

Source: Hong Leong Investment Bank Research - 6 Sep 2013