Malaysia Power Demand Growth Is Expected to Remain Stable at +2.0-2.5%, Based on 0.5x Multiple to Our Forecasted +4.4% 2020 GDP Growth. The IBR/ICPT Mechanisms Remain Intact, Protecting the Sector From the Fluctuation of Fuel Prices. Government’s Aspiration of More REs and MESI 2.0 Are Neutral to Transmission and Distribution (TNB) Under IBR/ICPT Mechanisms, But Negative to IPPs Given the Potentially Lower Capacity and More Competitive Replacement for Their Expiring PPAs. Maintain NEUTRAL on the Sector With HOLD Recommendations for TNB (TP: RM13.50) and YTLP (TP: RM0.75).

Sustainable power demand. For 9M19, Malaysia power demand (Peninsular) registered a growth of +3.2% (driven by Domestic and Commercial segments), higher than RAB’s assumptions of +2.0% for 2019. However, under RAB framework, TNB is unable to keep the higher than assumed 2.0% power demand sales and need to pass back the excess sales revenue to KWIE fund (Kumpulan Wang Industri Electrik), which subsequently will be used to stabilize (subsidize) the electricity tariff in the future. We expect the power demand growth to sustain at +2.0-2.5% in 2020, based on 0.5x multiple to our GDP forecast of +4.4% for 2020.

IBR/ICPT. Implementation of IBR/ICPT remains intact in 2020 under the new government, and coming to a new RAB 3 in 2021-2023. Base tariff is maintained at 39.45sen/kWh with periodic half yearly adjustments on ICPT with regards to the fluctuation of fuel costs (i.e. coal, LNG and piped gas) and energy mix. For 1H20, TNB is allowed to charge ICPT of +2.0sen/kWh (on top of 39.45sen/kWh) to Industry and Commercial users to cover the higher coal cost in 2H19 and increase in piped gas price of RM1.50/kWh in 1H20. On the other hand, Domestic users will continued be charged at base tariff 39.45sen/kWh with ICPT being subsidized through KWIE fund.

Focus on REs. In line with its target of 20% power generation capacity from RE by 2025, government is pushing forward with more renewable energy initiatives such as FiT (Feed-in-Tariff), LSS (Large Scale Solar), SELCO (Self Consumption) and NEM (Net Energy Metering). Large IPP players would be negatively affected by the government’s new aspiration towards RE, as they face risk of lower capacity replacement (each LSS capacity is only up to 100MW) for their expiring PPAs as well as increasing competitions from new players.

MESI 2.0 is to introduce liberalisation across the utility industry from fuel sources; to generation; to transmission and distribution; and to retail. There will be no more risk free PPAs going forward as IPPs will not receive guaranteed capacity and energy payments. We expect increasing earnings risks to the Power sector, especially towards power generation IPPs. IPPs will inherit the uncertainty of securing the supply and prices of fuel (i.e. coal, gas, etc.) and subsequently uncertainty in its ability to sell their capacity/energy generation and the selling prices under the auction mechanism.

Maintain NEUTRAL as we believe both TNB (HOLD, TP: RM13.50) and YTLP (HOLD, TP: RM0.75) are fairly valued at current pricings.

TNB. We maintain HOLD recommendation on Tenaga with unchanged DCFE-derived TP: RM13.50. Tenaga’s near term earnings remain shielded under IBR/ICPT mechanisms, while its power generation and retail segment may be subject to lower earnings post effective implementation of MESI 2.0.

YTLP. We maintain HOLD recommendation on YTLP with higher TP: RM0.75 (based on 20% discount to SOP of RM0.94) from RM0.68 post upward adjustments to SOP. YTLP is trading at an attractive P/B valuation of only 0.5x with potential dividend payout of 3 sen.

Source: Hong Leong Investment Bank Research - 9 Jan 2020