We turn negative on TENAGA following the 5.8% tariff cut which wasannounced yesterday. This would reduce 2H15 earnings by RM1.09b, or morethan RM2b on an annualised basis, assuming the new tariff rate structure tostay beyond Jun 2015. Based on past records, TENAGA did not get its tariffrevision often albeit there is a regular half-yearly review in Jun and Decrespectively. Together with the low fuel cost, especially the current coal priceis much lower than the reference price of USD87.5/mt, there is a strong casethat TENAGA is unlikely to get an upward tariff revision in the upcoming Jun-Review window. As such, we trim FY15-FY17 estimates by 8%-13%. We alsolower our targeted CY15 PER on TENAGA to 14.3x which is a 5-year average,from 16x previously. In view of the uncertainty and its share price haddoubled in the past two years, we believe it is time to take money off thetable. Thus, we downgrade the stock to UNDERPERFORM fromOUTPERFORM with new price target of RM13.59/share from RM16.82/sharepreviously.

5.8% tariff cut, effective Mar-Jun 2015. After a much outcry by the general publicin view of low fuel costs, the government finally announced yesterday a 2.25sen/kWh or 5.8% cut for the electricity tariff in the Peninsular for the period of Mar-Jun 2015, from the current average of 38.53 sen/kWh. This is the first tariff cutsince Mar 2009. The new tariff adjustment is based on the ICPT saving ofRM726.9m for Jan-Dec 2014. However, there is no disclosure of fuel costassumptions. We assume there is no change to the assumptions, such as (i)domestic gas price of RM15.20/mmbtu; (ii) imported LNG price of RM41.68/mmbtu;and, (iii) coal base price of USD87.5/mt.

2H15 going to take the heat. If there is no change in current cost structure, with alower revenue of RM726.9m in Mar-Jun 2015, the bottom-line should be reducedproportionally. This would reduce 2H15 (Mar-Aug 2015) earnings by RM1.09b ormore than RM2.0b a year, assuming the new tariff structure to remain unchangedpost Jun-Review period. Although TENAGA has a RM848m ICPT compensation,which have yet to recognise in the profit & loss account, is enough to offset the lossearning of RM726.9m, the question will be how it could cover the earnings loss inthe future should TENAGA unable to get an upward revision in tariff.

An upward revision in Jul 2015 is unlikely. Given the current low fuel costssituation coupled with fear of inflationary pressure after the GST implementation inApr 2015, we believe a case for an upward revision is unlikely in the coming Jun-Review window. Assuming the average coal price is to maintain at 1Q15 level ofUSD70/mt in the coming quarters, TENAGA could have a fuel cost saving ofRM1.0b-RM1.2b a year for coal alone as the reference price for coal was fixed atUSD87.5/mt. With this scenario, TENAGA may not be easy to get tariff hike. Assuch, the RM726.9m suffer may not be a 4-month event but longer than that.

FY15-FY17 estimates trimmed by 8%-13%. Before the change, our estimates are10%-15% below market consensus, we attribute this to our conservativeassumptions on higher coal price and effective tax rate. To reflect the currentprices and rates, we decided to lower our FY15-FY17 assumptions for coal price toUSD70/mt for all three years from USD75/mt in FY15 and USD80/mt in FY16-FY17while effective tax rate to straight 15% for three years from 22% in FY15 and 24%for both FY16-FY17 previously. Management had guided a low-teens effective taxrate given the reinvestment allowance arising from its new power plants. As such,together with the new tariff rates effective Mar 2015 we have cut FY15-FY17estimates by 8%-13%.

Time to take profit; cut to UNDERPERFORM. Given the uncertainty of earnings,especially for the 2H15 results, we decided to de-rate our targeted CY15 PER backto 14.3x, which is 5-year average, from 16x previously, our new price target isnow reduced to RM13.59/share from RM16.82/share previously. Its share pricehas risen more than double in the past two years and this is fairly commendable fora heavyweight key index-stock. We believe it is time to take profit for now, thus downgrade the stock to UNDERPERFORM from OUTPERFORM.

Source: Kenanga