Tenaga’s 1QFY16 (Aug) core earnings were in line with our/consensus estimates, making up 28%/30% respectively. Maintain BUY with an unchanged TP of MYR18.20 (38% upside) based on 14x FY16F EPS. Despite Malaysia’s dimming economic outlook, we maintain our forecasts as we believe the slower economic growth has been reflected in our assumptions.

Maintain BUY. We continue to like Tenaga for its defensive earnings, large market value and high share liquidity. We also expect Tenaga to gradually regain lost ground in the lucrative power generation business (Figure 2). We also maintain our MYR18.20 TP based on 14x FY16F EPS, which is at its 5-year historical average P/E of 14x. Our DCF model also corroborates a valuation of MYR18.20, based on a similar discount to TNB’s Imbalance Cost Pass-Through (ICPT) framework predetermined WACC of 7.4% and terminal growth rate of 1.5%.

Forecasts and earnings risks. In view of the reduction in Malaysia’s official 2016 GDP growth forecast to 4-4.5% (from 4-5%), management has also guided for lower consumption growth going forward (1QFY16: 3.2%). As such, we view our 2.6% growth assumption as reasonable. Key risks to our forecasts are: i) decline in electricity consumption, ii) setbacks in the new power plant projects and iii) unscheduled outages.

Core earnings +5% YoY on higher demand. Core earnings grew 5% YoY to MYR2.03bn, resulting from higher electricity consumption in the peninsula, which grew 3.2% YoY. The gains had more than offset the higher effective tax rate of 10.9% during the quarter (1QFY15: 6.2%). While operating costs were flat, benefiting from cheaper gas prices, this was primarily offset by higher staff costs following the introduction of the Long-Term Incentive Plan (LTIP), which costs MYR44m.

Headline 1QFY15 includes ICPT. Tenaga’s headline revenue and core earnings saw YoY declines of 3.2% and 12% respectively. This was due to the differing accounting treatment for the ICPT. Net revenue figures (excluding ICPT) were only reported from 3QFY15 onwards. Adjusting for the ICPT over-recovery of MYR486m in 1QFY15 (MYR365m nett of tax), 1QFY16 revenue grew 1.3% YoY while EBITDA margin expanded by 1.6ppts YoY.

Decent Start To The Year

Recommendation Chart

Source: RHB Research - 29 Jan 2016