We continue to PREFER the Power sector over the Water sector. This is because the likely electricity tariff review post-GE13 and the impending IPO of Malakoff in 2Q13 will draw more interests to the Power sector. In our view, the start of the Melaka RGT in 2Q13 and the tariff review after GE13 will lead to a structural change in the power sector as a new pricing formula will be incorporated into the IBR, which includes a “fuel cost pass-through” mechanism. This will lessen the burden of Petronas as well as TENAGA with consumers expected to share the costs. However, all parties will benefit in terms of efficiency as the meritocracy-driven IBR will improve the overall quality and productivity. On the other hand, the fate of the Water sector is much depending on the outcome of the upcoming GE13 as PUNCAK is the only water player for now. TENAGA is the TOP PICK for the Power sector for our 2QCY13 Strategy.

Mixed bag of 4QCY12 results. In the recent just concluded reporting season, Tenaga Nasional Bhd (“TENAGA”, OP; TP: RM8.05) reported 1Q13 results, which came in above both ours as well as the market consensus with its 1Q13 net profit making up 30% of our FY13 fullyear estimate and 32% that of the market consensus due to a lower coal cost, higher fuel compensations and a better sector demand profile. While YTL Power International Bhd (“YTLPOWR”, MP, TP: RM1.51) and MMC Corp Bhd (“MMCCORP”, MP, TP: RM2.80) posted their 2Q13/4Q12 results, which were within our expectations, Puncak Niaga Holdings Bhd’s (“PUNCAK”, OP; TP: RM2.85) 4Q12 results were skewed by higher operating costs and impairment write-downs for its receivables (due from Selangor State Government) and LT payables for its concession. This resulted in its FY12 net profit coming in 17% and 20% below our estimate and that of the market consensus respectively.

Agreements for Track 1 and 2 signed in 1QCY13. On 21 Jan 2013, TENAGA signed three agreements for the RM2.47b 1070MW Combined Cycle Gas Turbine Power Plant in Prai under Track 1 where the PPA was signed in Nov 2012. This power plant is expected to start in Jan 2016, which will bridge the gap when the PPAs of three of the first Gen IPPs (total installed capacity of 2,131MW) expire by then. In addition, three other new plants namely the 1,000MW Janamanjung Unit 4, 265MW Hulu Terengganu Hydro and 372MW Ulu Jelai Hydro will come on-stream almost in the same period as that of the new Prai Power Plant. On 25 Feb 2013, TENAGA officially signed the PPA extension at new leverised rates with three of the first Gen IPPs namely 1MDB’s Genting Sanyen Power, MMCCORP’s Segari Energy Ventures and TNB’s Pasir Gudang Energy. As it is, both Track 1 and 2 rates are based on gas reference prices of RM44.6/mmbtu, which is equivalent to market prices.

PUNCAK turns down offer, but … PUNCAK was in the limelight again in 1Q13 after Selangor State Government made a new offer, the fifth one, to buy Selangor’s water assets for RM9.65b from the four water concessionaires in Selangor. The offer was as much as 29% and 12% higher than the previous third and fourth offers the concessionaires had received previously from the state government and GAMUDA respectively. However, PUNCAK eventually turned down the offer but said it is still open for discussion.

PREFER Power and TENAGA is the TOP PICK. All in, we remain OVERWEIGHT on the Power Utility sector as the sector is heading for a structural change after GE13, which would eventually benefit the sector as a whole. We believe a new tariff structure will be released in June 2013 (during the industry’s half-yearly review) should GE13 be concluded by then. This will speed up the IBR (Incentive-Based Based Regulation) implementation to lessen Petronas/TENAGA’s burdens. Although consumers are expected to pay higher prices, the IBR is aimed to improve efficiency, which will benefit the general consumers as well. As such, we are maintaining our OUTPERFORM rating on TENAGA and it is our TOP PICK for the sector. We are keeping, meanwhile, our MARKET PERFORM ratings on YTLPOWR and MMCCORP. For the Water Utility sector, we are NEUTRAL on the sector while retaining our OUTPERFORM call on PUNCAK.

Source: Kenanga