Utilities stocks were not as badly hit by the recent market meltdown especially for bigger caps TENAGA and the gas-based players, with their share prices retreating 5%-9% YTD, thanks to their resilient earnings profile. However, the two IPPs and PESTECH saw their share prices tanking 22%- 38% YTD due to their vulnerable earnings track records. Nonetheless, we expect a less severe impact to their earnings in this virus-driven crisis as they are in essential sector where demand is less elastic. In view of depressed environment, we decided to switch our valuation method to PBV to better reflect business condition from earnings-based PER and SoP valuations previously. We are now valuing all Utilities stocks at -1.0SD PBV mean with ideal entry level of -2.0SD assuming a fullblown financial crisis scenario. This is except for YTLPOWR in which we placed its target price at - 2.0SD given its higher earnings risk from loss-making PowerSeraya and YES. In all, we remain NEUTRAL on the Utilities Sector given limited growth prospects.

A mixed performance amidst market meltdown. Generally, in this round of market rout, players with resilient earnings stream such as TENAGA (OP; TP: RM13.00), PETGAS (MP; TP: RM16.25) and GASMSIA (MP; TP: RM2.50) are seen to be less affected as their share prices were not as severely hit, down by 5%-9% YTD, while those companies with inconsistent earnings like IPPs

MALAKOKF (MP; TP: RM0.78) and YTLPOWR (MP; TP: RM0.57) and utility EPPC contractor PESTECH (OP; TP: RM1.15) saw their share prices tanking 22%-38% YTD. The quick take from this is that resilient earnings track record with inelastic demand business is the preferred investment qualities in this uncertain environment. However, continued losses at PowerSeraya and YES put YTLPOWR at higher risk during this difficult time while the unfilled earnings gap as local IPPs are facing phase-out also led to the sell-down in MALAKOF. Likewise, the cyclical earnings stream on seasonality has also put PESTECH on the edge. Nonetheless, despite the sell-down, we remain neutral on the sector as IPPs’ earnings prospects remain sound being sheltered by concession agreement while PESTECH’s projects are still on-going during the Movement Control Order (MCO) period.

Earnings hit expected to be less severe. Given their status as essential needs providers, we expect business volume to be only mildly lower for TENAGA, PETGAS and GASMSIA. Demand growth is likely to be fairly neutral as the uptick in domestic segment will neutralise the expected decline in industrial usage. Even then, the drop in industrial demand may not be severe as not all industries are closed during this MCO period. In addition, the 2%-15% 6-month electricity bill discount under the 2020 Economic Stimulus package is also financially neutral to TENAGA as it will be fully funded through the KWIE fund while the additional staggered discount ranging from 15% to 50% amounting to RM532m announced last Friday, will be jointly funded by the government and TENAGA. TENAGA will be supporting the government with RM150m under CSR initiative which has a mild financial impact given its yearly core earnings of c.RM5.5b. On the other hand, PETGAS and GASMSIA are likely to face a similar scenario as TENAGA where drop in demand would be mild during the MCO period. For IPPs, we believe the main concerns are old issues such as unplanned outages, KEV’s losses for MALAKOF and continued losses at PowerSeraya and YES for YTLPOWR, rather than the drop in energy dispatch which is covered under PPAs. Lastly, work progress for PESTECH could slow down but this is mainly due to adhering to MCO requirements rather than full closure as its projects are still on-going during this period.

Switch to PBV; mostly valued at -1.0SD. Given the depressed market condition, earnings prospect is challenging as well as dicey to forecast for the near term. We believe PBV valuation methodology is more appropriate to apply under this current market condition. Nonetheless, we decided to keep our forecasts for all stocks under our Utilities coverage universe, pending the upcoming 1QCY20 results next month as the impact from MCO could be minimal. So far, Utilities stocks are mostly traded at -1.0SD to -1.5SD PBV mean, as the sell-down was not as severe to hit critical level of -2.0SD with the exception of YTLPOWR which surpassed -2.0SD, probably due to earnings risks from PowerSeraya and YES. All the PBV means are based on 5-year average except PETGAS at 3-year mean and MALAKOF at 4-year mean given the change of risk profile for PETGAS since 2017 on concern of TPA tariff cut while MALAKOF was only relisted in May 2015 - short of 5 years data. Under such depressed market condition, we have fair value of -1.0SD PBV mean for all the Utilities stocks except for YTLPOWR which is placed at - 2.0SD PBV 5-year mean for its earnings risks as mentioned above. Meanwhile, given the market volatility, a full-blown financial crisis will place entry price at -2.0SD PBV mean for all stocks except YTLPOWR at -2.5SD PBV. In the case of “business as usual’’ scenario, all stocks should trade at least at mean levels.

Lacklustre outlook; reiterate NEUTRAL. With new valuation methodology to reflect the current depressed environment, we downgrade our target prices of: (i) TENAGA to RM13.00 with unchanged OP rating at an ideal buying zone of RM11.75; (ii) PETGAS to RM16.25 with unchanged MP recommendation at ideal entry price of RM14.85; (iii) GASMSIA to RM2.50 with recommendation cut to MP from OP at ideal entry price of RM2.30 as it is fully valued; (iv) MALAKOF to RM0.78 with new rating of MP from OP at ideal buying zone of RM0.65; and (v) YTLPOWR to RM0.57 with unchanged MP rating at ideal entry price of RM0.44. Meanwhile, we maintain our OP call with TP of RM1.15 and ideal entry price of RM0.80 for PESTECH as we have switched our valuation method to PBV in a report last week. Given the lack of factors to be upbeat about the sector given limited upside for the industry players, we maintain our NEUTRAL stand on the Utilities Sector.

Source: Kenanga Research - 2 Apr 2020