Tenaga Nasional Bhd (TENAGA) is clearly one of the heavyweights which benefited from the post-GE relief rally where its share price has risen 11% since then. However, we still believe there is still room for upside potential given clearer earnings visibility ahead once the fuel cost pass-through mechanism is in place. We do not expect an immediate full fuel cost pass-through but one done in stages to avoid shocks to the economy. A full fuel  cost passthrough means the tariff would jump as high as 45% immediately. Meanwhile, we are upgrading our FY13-FY14 estimates by 1%-5% and at the same time introduce our FY15 forecast where net profit is seen to grow at 10%. Given its FBMKLCI weighting, a prospective CY14 PER of 12x appears to be undemanding as the market is currently trading at more than 15x. We currently value TENAGA at RM10.33/share, based on CY14 14x PER. It remains an OUTPERFORM and TOP PICK for the power sector. 

A good run in share price. TENAGA recorded commendable gains of 31% in the past one year, outperforming the FBMKLCI by 20%. Post-GE 13, the share price has also risen 11% against the key index which advanced only 5% over the same period, on expectations of a  long-awaited tariff review expected after the GE as the last tariff adjustment was in May 2011. In fact, the Deputy Energy, Green Technology and Water Minister told the Parliament two weeks ago that the fuel cost pass-through mechanism will be implemented next year. In the past, the share price of TENAGA always responded positively in each of the reviews, soaring 3%-9% immediately the day after the announcement to as high as 8%-10% within a month.

Earnings to be less volatile. Before the Stabilisation Fund came into the system two years, TENAGA faced high volatility in earnings skewed by volatile fuel cost prices. With the impending fuel cost pass-through, TENAGA will see lower earnings volatility as the end-users will now bear the risks. However, we do not expect an immediate full fuel cost pass-through but one done in stages to manage the inflationary impact. Assuming a RM40/mmbtu for gas price, a full pass-through means the consumer’s bill will shot up as 45% immediately. Our sensitivity study shows that for every RM1/mmbtu increase in gas price from the current RM13.70/mmbtu, TENAGA’s FY14 earnings would be reduced by 9.5%. To neutralise the negative impact, TENAGA needs to raise the tariff rate by 1.7%.

New set of FY13-FY15 earnings forecasts. We have fine-tuned our key assumptions (refer to Page 2) such as electricity demand growth, USD/MYR forex rate, average coal prices, oil prices and generation mix but assumed gas price maintains at RM13.70/mmbtu. We expect the fuel requirement for gas and coal to normalise in FY14 as opposed to higher demand for oil and distillate in the past two years which was due to shortages of gas supply. With this, we upgrade our FY13-FY14 estimates by 1%-5% and at the same time introduce the FY15 forecast with net profit expected to grow at 10%. We have set the dividend payout at 35%, implying a  decent net yield of 2%-3%.

TP raise to RM10.33/share. Given its FBMKLCI weighting, a prospective CY14 PER of 12x appears to be undemanding as the market is trading at >15x. In our view, TENAGA should at least trade closer to the market’s valuation if not at par once the new tariff mechanism is implemented. In the past four tariff reviews, the integrated utility traded between 12x-14x. Thus, we are now valuing TENAGA at CY14 14x PER (from CY13 13x PER), implying a price target of RM10.33/share (from RM8.56/share). TENAGA remains as OUTPERFORM and is our TOP PICK for the power utilities.

Source: Kenanga