3QFY19 core earnings, which contracted 12% sequentially to RM446.3m on statutory turnaround at Utilities, is on track. On the other hand, the expected tariff cut in the RP1 next Jan will continue to suppress its share price in the near term which is already down 13% YTD. However, in our view, near-term negativity should have been priced in. Thus, we are keeping our MP call and TP of RM15.75 which is supported by decent dividend yield of c.4%.

3QFY19 results in line. 3QFY19 core profit of RM446.3m met expectations with 9MFY19 core income falling 6% to RM1.41b making up 73%/76% of house/street’s FY19 full-year estimates. It declared 3rd interim NDPS of 18.0 sen (ex-date: 05 Dec; payment date: 18 Dec) in 3QFY19, which is the same amount paid in 3QFY18 but higher than the 16.0 sen paid in 2QFY19. This totalled 9MFY19 NDPS to 50.0 sen which is the same payment in 9MFY18.

Sequential weakened by Utilities’ statutory maintenance. 3QFY19 core profit declined 12% QoQ to RM446.3m while revenue fell 3% over the quarter. This was mainly attributable to lower earnings from Utilities by 81% or RM48.2m as revenue contracted 12% on lower volume following planned statutory turnaround at one of the Air Separation Unit in Kertih. Meanwhile, Gas Processing’s (GP) earnings normalised which fell 10% or RM21.0m after a lower depreciation in 2QFY19 as certain assets ended their useful life, which led the group’s depreciation higher by 7% or RM18.9m. Earnings for Gas Transportation (GT) were also higher by 6% as it incurred lower opex in 2QFY19 while RGT’s earnings were fairly flattish at RM154.4m. Associate incomes, largely from Kimanis IPP, fell 22% or RM10.4m to RM35.9m.

Yearly earnings impacted by tariff cut. On a YoY comparison, 3QFY19 and 9MFY19 core profits declined by 12% and 6% to RM446.3m and RM1.41m, respectively, mainly due to tariff rates cut for GT and RGT Pengerang for the Pilot Regulatory Period in 2019. As such, operating profit for both segments declined 22% and 13% in 3QFY19, and 21% and 11% in 9MFY19, respectively. Utilities also posted lower earnings by 82% in 3QFY19 and 22% in 9MFY19 owing to the abovementioned statutory turnaround. Nonetheless, GP posted stronger earnings by 32% in 3QFY19 and by 27% in 9MFY19 due to lower depreciation charges as mentioned above.

TPA remains the only issue going forward. Although the Pilot Period of 2019 will see less severe impact to PETGAS, its earnings will be impacted by two step-downs; in Regulatory Period 1 (RP1) in 2020- 2022 and Regulatory Period 2 (RP2) in 2023-2025, before stabilising from 2026 onwards. We take the view that its ROA will eventually taper to 8% by 2026. Hence, we expect base-tariff for PGU to reduce sharply by 60% to RM0.502/GJ in 2026 from RM1.248/GJ in 2018. As such, this will continue to dent sentiment on PETGAS. In all, we keep our FY19-FY20 estimates unchanged where we have factored in a basetariff cut in 2020 as mentioned above.

It is priced in; maintain MARKET PERFORM. As time is drawing closer to the announcement of return rates for RP1 which is due by year end, share price of PETGAS would continue to come under pressure given the expected tariff cut. Nonetheless, we believe nearterm negatives would have been priced in with share price already falling 13% YTD. Thus, we keep our MARKET PERFORM rating and target price of RM15.75/SoP share unchanged. The stock is supported by a decent yield of c.4%. Upside risk to our call is higher-than expected return on regulated asset base.

Source: Kenanga Research - 20 Nov 2019