Meridian Energy. On tax depreciation NZ$2.08 NEW ZEALAND. Event. Impact. Earnings and target price revision. Price catalyst. Action and recommendation

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1 NEW ZEALAND MEL NZ Price (at 05:00, 13 Jul 2015 GMT) Outperform NZ$2.08 Valuation NZ$ DCF (WACC 7.8%, beta 0.6, ERP 7.0%, RFR 3.6%, TGR 2.0%) 12-month target NZ$ month TSR % Volatility Index Low/Medium GICS sector Utilities Market cap NZ$m 5, day avg turnover NZ$m 8.4 Number shares on issue m 2,563 Investment fundamentals Year end 30 Jun 2014A 2015E 2016E 2017E Revenue m 2, , , ,692.6 EBIT m Reported profit m Adjusted profit m Gross cashflow m CFPS CFPS growth % nmf PGCFPS x PGCFPS rel x EPS adj EPS adj growth % nmf PER adj x PER rel x Total div yield % Franking 1 % ROA % ROE % EV/EBITDA x Net debt/equity % P/BV x NZ imputation credits are only able to be used by shareholders to offset NZ income tax liability. MEL NZ vs NZSE50, & rec history Note: Recommendation timeline - if not a continuous line, then there was no Macquarie coverage at the time or there was an embargo period. Source: FactSet, Macquarie Research, July 2015 (all figures in NZD unless noted) 14 July 2015 Macquarie Securities (NZ) Limited On tax depreciation Event MEL has indicated that the IRD has reached a final decision on tax treatment of hydro powerhouse structures and that this will have a positive one-off impact on FY15 NPAT (Macq est +$30m prior year restatement) and a small ongoing positive impact on OCF (approx +$2m pa or ~0.5% to FY15 OCF). Impact You ll readily recall that in May 2010, the Government announced that tax depreciation deductions for buildings would be disallowed effective July The problem was that there was no definition of a building in the Income Tax Act and so the generator/retailers had to make a call on a range of generation assets as to whether they were plants/buildings. We think that MEL was relatively conservative in this regard. The final ruling (which essentially allows tax depreciation deductions for hydroelectric powerhouses applicable from 2012) gives rise to an approximate $30m deferred tax liability reinstatement for MEL, we think. Relatedly, you might have wondered whether MEL s $1.33b (3/14) deferred tax net liability will ever crystallise. We think the answer is, for the most part, no. A $0.94b of this liability related to assets revaluations and since any asset sale would be unlikely to attract CGT in our view, this leaves an approximate $0.4b liability relating to accelerated depreciation. Macq. assumes this liability will crystallise over a 10-year period from FY25 (-$0.05ps equity valuation). Earnings and target price revision FY15E-17E EPS increases of ~2% (2H15 generation output mark to market +115 GWh and higher MT intl energy margin on lower NZDAUD assumptions). PT largely unchanged at $2.60 ($2.50). Price catalyst 12-month price target: NZ$2.60 based on a DCF methodology. Catalyst: TPM final proposal ~1Q16, Futures and retail prices, Aug 2015 result/cap return. Action and recommendation The stock, and wider sector, have tended to rise and fall over the past few years on perceptions around three key risks/factors: 1) re-regulation (now largely behind us, we think); 2) Tiwai closure in the medium term (a live risk albeit a very small one in our view see NZAS termination option rolled; 3) equity supply (the market has digested $5.7b of new issuance in the sector over the past two years). If we are right on our views around 1) and 2) above, then the sector looks, broadly speaking, attractive (~8% +1 FCF yield pre some quite material refinancing kickers). MEL trades on a +1 FCF yield of 7.2% but this moves closer to the sector average once potential TPM benefits are taken account of (~+50bp). Please refer to page 4 for important disclosures and analyst certification, or on our website

2 Fig 1 Summary financials - Summary Financials Interim Results 1H/14A 2H/14A 1H/15A 2H/15E Profit & Loss 2014A 2015E 2016E 2017E June y/e June y/e Operating Revenue $m 1,098 1,411 1,334 1,223 Operating Revenue $m 2,509 2,556 2,558 2,693 Energy Margin - NZ $m Energy Margin - NZ $m Energy Margin - International $m Energy Margin - International $m EBITDAF $m EBITDAF $m Depreciation and amortisation $m Depreciation and amortisation $m EBIT - pre non-recurring $m EBIT - pre non-recurring $m Total EBIT $m Total EBIT $m Net Interest Income $m Net Interest Income $m Pre-Taxation Profit $m Pre-Taxation Profit $m Taxation expense/(credit) $m Taxation expense/(credit) $m Profit after taxation $m Profit after taxation $m Minority Interests $m Minority Interests $m Reported Profit after taxation $m Reported Profit after taxation $m Underlying NPAT $m Underlying NPAT $m Discounted Cashflow Valuation Summary assumptions 2014A 2015E 2016E 2017E PV (FY15-20) $m 4522 GWAP $/MWh PV of perpetuity $m 2651 LWAP/GWAP / Less Net Debt $m 797 Contracted Sales Price Grow th pcp -2.0% -3.0% 2.4% 2.4% Non-core net assets held for sale $m 27 Contracted Sales Volume Grow th pcp 2% 1% 1% 1% Equity Value $m 6402 Acquired Generation Cost $/MWh Shares Outstanding (m) 2562 NZ Generation Production GWh 13,149 13,332 12,987 13,198 DCF Equity Value per share 2.50 Mean Generation Production GWh 13,030 13,332 12,987 13,198 Assumptions Ratios 2014A 2015E 2016E 2017E Risk free rate % 3.6 EPS (adj) cps Asset beta 0.6 PE (adj) x Post-tax market risk premium % 7.0 EV/EBITDA x Nominal post taxation WACC % 7.8 Effective tax rate % Payout ratio (NPAT) % Payout ratio (adj FCF) % DPS cps Imputation % ROE % Net Debt $m Net Debt/Equity % Net Interest Cover (EBIT) x SIB capex $m SIB capex/depreciation % Cashflow Analysis 2014A 2015E 2016E 2017E Balance Sheet 2014A 2015E 2016E 2017E Pre-taxation Profit $m Cash $m Depreciation & Amortisation $m Receivables $m Tax (Paid)/Credit $m (99) (102) (90) (96) Inventories $m Other $m (38) (11) - - Investments $m Gross Cashflow $m Property, Plant & Equipment $m 6,929 6,782 6,782 6,640 Changes in Working Capital $m 33 (10) (1) (0) Intangibles $m Operating Cashflow $m Other Assets $m Acquisitions $m Total Assets $m 7,590 7,481 7,481 7,343 Capital Expenditure $m (293) (143) (70) (74) Current Payables $m Asset Sales $m Short Term Debt $m Other $m Long Term Debt $m 1,008 1,089 1,089 1,052 Investing Cashflow $m (293) (143) (70) (74) Other Liabilities $m 1,579 1,564 1,564 1,564 Equity raised $m Net assets $m 4,634 4,480 4,480 4,365 Dividends paid $m (261) (387) (341) (341) Total Liabilities $m 2,956 3,001 3,001 2,977 Other $m Shareholders' Funds $m 4,634 4,480 4,480 4,365 Financing Cashflow $m (261) (387) (341) (341) Minority Interests $m Net Change in Cash (inc FX) $m (122) (107) Total Shareholders' Equity $m 4,634 4,480 4,480 4,365 Source: Company data, Macquarie Research, July July

3 Fundamentals Macquarie Wealth Management Macquarie Quant View The quant model currently holds a marginally negative view on Meridian Energy. The strongest style exposure is Earnings Momentum, indicating this stock has received earnings upgrades and is well liked by sell side analysts. The weakest style exposure is Profitability, indicating this stock is not efficiently converting its investments to earnings as proxied by ratios such as ROE, ROA etc. 239/380 Global rank in Utilities % of BUY recommendations 62% (5/8) Number of Price Target downgrades 3 Number of Price Target upgrades 1 Attractive Quant Local market rank Global sector rank Displays where the company s ranked based on the fundamental consensus Price Target and Macquarie s Quantitative Alpha model. Two rankings: Local market (Australia & NZ) and Global sector (Utilities) Macquarie Alpha Model ranking A list of comparable companies and their Macquarie Alpha model score (higher is better). Factors driving the Alpha Model For the comparable firms this chart shows the key underlying styles and their contribution to the current overall Alpha score % -80% -60% -40% -20% 0% 20% 40% 60% 80% 100% Valuations Growth Profitability Earnings Momentum Price Momentum Quality Macquarie Earnings Sentiment Indicator The Macquarie Sentiment Indicator is an enhanced earnings revisions signal that favours analysts who have more timely and higher conviction revisions. Current score shown below. Drivers of Stock Return Breakdown of 1 year total return (local currency) into returns from dividends, changes in forward earnings estimates and the resulting change in earnings multiple % -50% -30% -10% 10% 30% 50% 70% Dividend Return Multiple Return Earnings Outlook 1Yr Total Return How it looks on the Alpha model A more granular view of the underlying style scores that drive the alpha (higher is better) and the percentile rank relative to the sector and market. Alpha Model Score Valuation Growth Profitability Earnings Momentum Price Momentum Quality Capital & Funding Liquidity Risk Technicals & Trading Normalized Score Percentile relative to sector(/380) Percentile relative to market(/412) Source (all charts): FactSet, Thomson Reuters, and Macquarie Research. For more details on the Macquarie Alpha model or for more customised analysis and screens, please contact the Macquarie Global Quantitative/Custom Products Group (cpg@macquarie.com) 14 July

4 Important disclosures: Recommendation definitions Macquarie - Australia/New Zealand Outperform return >3% in excess of benchmark return Neutral return within 3% of benchmark return Underperform return >3% below benchmark return Benchmark return is determined by long term nominal GDP growth plus 12 month forward market dividend yield Macquarie Asia/Europe Outperform expected return >+10% Neutral expected return from -10% to +10% Underperform expected return <-10% Macquarie First South - South Africa Outperform expected return >+10% Neutral expected return from -10% to +10% Underperform expected return <-10% Macquarie - Canada Outperform return >5% in excess of benchmark return Neutral return within 5% of benchmark return Underperform return >5% below benchmark return Macquarie - USA Outperform (Buy) return >5% in excess of Russell 3000 index return Neutral (Hold) return within 5% of Russell 3000 index return Underperform (Sell) return >5% below Russell 3000 index return Volatility index definition* This is calculated from the volatility of historical price movements. Very high highest risk Stock should be expected to move up or down % in a year investors should be aware this stock is highly speculative. High stock should be expected to move up or down at least 40 60% in a year investors should be aware this stock could be speculative. Medium stock should be expected to move up or down at least 30 40% in a year. Low medium stock should be expected to move up or down at least 25 30% in a year. Low stock should be expected to move up or down at least 15 25% in a year. * Applicable to Asia/Australian/NZ/Canada stocks only Recommendations 12 months Note: Quant recommendations may differ from Fundamental Analyst recommendations Financial definitions All "Adjusted" data items have had the following adjustments made: Added back: goodwill amortisation, provision for catastrophe reserves, IFRS derivatives & hedging, IFRS impairments & IFRS interest expense Excluded: non recurring items, asset revals, property revals, appraisal value uplift, preference dividends & minority interests EPS = adjusted net profit / efpowa* ROA = adjusted ebit / average total assets ROA Banks/Insurance = adjusted net profit /average total assets ROE = adjusted net profit / average shareholders funds Gross cashflow = adjusted net profit + depreciation *equivalent fully paid ordinary weighted average number of shares All Reported numbers for Australian/NZ listed stocks are modelled under IFRS (International Financial Reporting Standards). Recommendation proportions For quarter ending 30 June 2015 AU/NZ Asia RSA USA CA EUR Outperform 46.23% 58.36% 47.27% 44.20% 60.65% 43.01% (for US coverage by MCUSA, 9.68% of stocks followed are investment banking clients) Neutral 37.67% 25.65% 29.09% 49.29% 34.19% 40.93% (for US coverage by MCUSA, 5.53% of stocks followed are investment banking clients) Underperform 16.10% 15.99% 23.64% 6.52% 5.16% 16.06% (for US coverage by MCUSA, 1.38% of stocks followed are investment banking clients) MEL NZ vs NZSE50, & rec history (all figures in NZD currency unless noted) Note: Recommendation timeline if not a continuous line, then there was no Macquarie coverage at the time or there was an embargo period. Source: FactSet, Macquarie Research, July month target price methodology MEL NZ: NZ$2.60 based on a DCF methodology Company-specific disclosures: MEL NZ: Macquarie Capital (New Zealand) Limited or one of its affiliates managed or co-managed a public offering of securities of in the past 12 months, for which it received compensation. Important disclosure information regarding the subject companies covered in this report is available at Date Stock Code (BBG code) Recommendation Target Price 14-Jul-2015 MEL NZ Outperform NZ$ Feb-2015 MEL NZ Outperform NZ$ Feb-2015 MEL NZ Outperform NZ$ Aug-2014 MEL NZ Outperform NZ$ Feb-2014 MEL NZ Outperform NZ$ Dec-2013 MEL NZ Outperform NZ$2.51 Target price risk disclosures: MEL NZ: Any inability to compete successfully in their markets may harm the business. This could be a result of many factors which may include geographic mix and introduction of improved products or service offerings by competitors. The results of operations may be materially affected by global economic conditions generally, including conditions in financial markets. The company is exposed to market risks, such as changes in interest rates, foreign exchange rates and input prices. From time to time, the company will enter into transactions, including transactions in derivative instruments, to manage certain of these exposures. Analyst certification: The views expressed in this research reflect the personal views of the analyst(s) about the subject securities or issuers and no part of the compensation of the analyst(s) was, is, or will be directly or indirectly related to the inclusion of specific recommendations or views in this research. The analyst principally responsible for the preparation of this research receives compensation based on overall revenues of Macquarie Group Ltd (ABN , AFSL No ) ( MGL ) and its related entities (the Macquarie Group ) and has taken reasonable care to achieve and maintain independence and objectivity in making any recommendations. 14 July

5 General disclosure: This research has been issued by Macquarie Securities (Australia) Limited (ABN , AFSL No ) a Participant of the Australian Securities Exchange (ASX) and Chi-X Australia Pty Limited. This research is distributed in Australia by Macquarie Equities Limited (ABN , AFSL No ) ("MEL"), a Participant of the ASX, and in New Zealand by Macquarie Equities New Zealand Limited ( MENZ ) an NZX Firm. Macquarie Private Wealth s services in New Zealand are provided by MENZ. Macquarie Bank Limited (ABN , AFSL No ) ( MBL ) is a company incorporated in Australia and authorised under the Banking Act 1959 (Australia) to conduct banking business in Australia. None of MBL, MGL or MENZ is registered as a bank in New Zealand by the Reserve Bank of New Zealand under the Reserve Bank of New Zealand Act Any MGL subsidiary noted in this research, apart from MBL, is not an authorised deposit-taking institution for the purposes of the Banking Act 1959 (Australia) and that subsidiary s obligations do not represent deposits or other liabilities of MBL. MBL does not guarantee or otherwise provide assurance in respect of the obligations of that subsidiary, unless noted otherwise. This research is general advice and does not take account of your objectives, financial situation or needs. Before acting on this general advice, you should consider the appropriateness of the advice having regard to your situation. We recommend you obtain financial, legal and taxation advice before making any financial investment decision. This research has been prepared for the use of the clients of the Macquarie Group and must not be copied, either in whole or in part, or distributed to any other person. If you are not the intended recipient, you must not use or disclose this research in any way. If you received it in error, please tell us immediately by return and delete the document. We do not guarantee the integrity of any s or attached files and are not responsible for any changes made to them by any other person. Nothing in this research shall be construed as a solicitation to buy or sell any security or product, or to engage in or refrain from engaging in any transaction. This research is based on information obtained from sources believed to be reliable, but the Macquarie Group does not make any representation or warranty that it is accurate, complete or up to date. We accept no obligation to correct or update the information or opinions in it. Opinions expressed are subject to change without notice. The Macquarie Group accepts no liability whatsoever for any direct, indirect, consequential or other loss arising from any use of this research and/or further communication in relation to this research. The Macquarie Group produces a variety of research products, recommendations contained in one type of research product may differ from recommendations contained in other types of research. The Macquarie Group has established and implemented a conflicts policy at group level, which may be revised and updated from time to time, pursuant to regulatory requirements; which sets out how we must seek to identify and manage all material conflicts of interest. The Macquarie Group, its officers and employees may have conflicting roles in the financial products referred to in this research and, as such, may effect transactions which are not consistent with the recommendations (if any) in this research. The Macquarie Group may receive fees, brokerage or commissions for acting in those capacities and the reader should assume that this is the case. The Macquarie Group s employees or officers may provide oral or written opinions to its clients which are contrary to the opinions expressed in this research. Important disclosure information regarding the subject companies covered in this report is available at 14 July