Version 5 Bloomberg: TNB MK Reuters: TENA.KL Refer to important disclosures at the end of this report Malaysia Equity Research 27 Oct 2016 BUY Last Traded Price ( 27 Oct 2016): RM14.32 (KLCI : 1,669.03) Price Target 12-mth: RM17.00 (19% upside) (Prev RM16.60) Shariah Compliant: Yes Potential Catalyst: Stronger electricity consumption Where we differ: Higher earnings possibly due to higher electricity sales growth Analyst QUAH He Wei, CFA +603 2604 3966 hewei@alliancedbs.com What s New FY16 results met expectations; 22sen final DPS proposed Raised FY17-18F earnings by 5% p.a. on lower effective tax rate and operating expenses Maintain BUY, TP raised to RM17.00 Price Relative 16.1 14.1 12.1 10.1 8.1 RM 6.1 88 Oct-12 Oct-13 Oct-14 Oct-15 Oct-16 (LHS) Relative KLCI (RHS) Relative Index Forecasts and Valuation FY Aug (RM m) 2016A 2017F 2018F 2019F Revenue 44,532 46,839 47,878 48,935 EBITDA 14,919 15,444 16,215 16,715 Pre-tax Profit 8,067 8,531 8,931 9,121 Net Profit 7,368 7,849 8,128 8,119 Net Pft (Pre Ex.) 7,758 7,849 8,128 8,119 Net Pft Gth (Pre-ex) (%) 24.8 1.2 3.6 (0.1) EPS (sen) 131 139 144 144 EPS Pre Ex. (sen) 137 139 144 144 EPS Gth Pre Ex (%) 25 1 4 0 Diluted EPS (sen) 131 139 144 144 Net DPS (sen) 32.0 41.7 43.2 43.2 BV Per Share (sen) 928 1,026 1,127 1,227 PE (X) 11.0 10.3 9.9 10.0 PE Pre Ex. (X) 10.4 10.3 9.9 10.0 P/Cash Flow (X) 6.1 5.9 5.8 5.6 EV/EBITDA (X) 6.6 6.3 5.9 5.6 Net Div Yield (%) 2.2 2.9 3.0 3.0 P/Book Value (X) 1.5 1.4 1.3 1.2 Net Debt/Equity (X) 0.3 0.3 0.2 0.2 ROAE (%) 14.8 14.2 13.4 12.2 Earnings Rev (%): 5 5 N/A Consensus EPS (sen): 131 133 74.0 Other Broker Recs: B: 22 S: 3 H: 0 228 208 188 168 148 128 108 Smooth sailing Steady electricity demand. After experiencing stronger electricity demand growth of 4% in Peninsular Malaysia in FY16 due to the El-Niño phenomenon, consumption is set to normalise in FY17, growing in tandem with the relatively healthy economic outlook in Malaysia which is projected to grow between 4%- 5% in 2017. We believe electricity consumption will continue to grow steadily, driven by the domestic and commercial segments. Energy reform remains on track. The government is fully committed to the implementation of the Imbalance Cost Pass- Through which has removed the burden of fuel cost volatility and ensures strong earnings clarity for (TNB). More importantly, the gradual increase in piped gas price has quashed concerns over the government s commitment to address the gas subsidy rationalisation issue given the huge discount for local gas prices against international prices. Management is also likely to review its dividend policy given the improved earnings visibility. New state-of-the-art power plants to drive expansion. Since 2015, 3,092MW of new capacity has been planted up by TNB, and this will be followed by 3,000MW assets over the next three years, leading to a higher market share for TNB. Also, the adoption of the latest power generation technologies such as ultra-supercritical technology and efficient combined cycle gas turbines will result in better operational efficiency. Valuation: We revised up our DCF-derived TP to RM17.00 (WACC 7.2%, 1.5% terminal growth) after increasing our FY17-18F earnings by 5% p.a. Our BUY rating is premised on healthy power demand growth and improving earnings visibility arising from the incentive-based regulation framework. Key Risks to Our View: Operational breakdown. Unplanned outages may result in the shortage of electricity which may necessitate expensive overseas procurement. At A Glance Issued Capital (m shrs) 5,644 Mkt. Cap (RMm/US$m) 80,817 / 19,404 Major Shareholders (%) Khazanah Nasional 28.3 EPF 15.7 Skim ASB 6.8 Free Float (%) 49.2 3m Avg. Daily Val (US$m) 35.0 ICB Industry : Utilities / Electricity Source of all data on this page: Company, AllianceDBS, Bloomberg Finance L.P Refer to important disclosures at the end of this report ed: JS / sa: WMT
WHAT S NEW Strong FY16 Within expectations. Excluding RM115m translation loss, TNB s 4QFY16 earnings came in at RM1.88bn, taking FY16 core earnings to RM7.76bn - 104% of our FY16 forecast. FY16 results have largely benefitted from the strong electricity sales (inclusive of non-peninsular Malaysia) which grew 4.2% - Peninsular Malaysia 4.0%, Sabah 3.1%, Pakistan 25.9% - largely driven by warm weather conditions in Malaysia which occurred during 3QFY16. Meanwhile, TNB s 4QFY16 electricity demand grew by 2.7% y-o-y, compared to 6.2% in 3QFY16 as weather patterns normalised. Higher coal-fired power generation. Coal-fired generation mix improved to 57% in 4QFY16 (vs 44% in 4QFY15) highest in recent years due to the contribution of Tanjung Bin 4 which was commissioned in Mar 16. Meanwhile, lower gas-fired generation mix of 38.9% (vs 51% in 4QFY15) has resulted in lower consumption of LNG. Potentially higher dividend in FY17. Management is currently embarking on a capital structure review which seeks to optimise its debt-equity ratio. This is in view of the strong earnings clarity after the smooth implementation of Imbalance Cost Pass-Through mechanism since 2014 which has effectively removed the burden of fuel cost volatility. Management has shared that the result will be known by end-cy16, which may result in a change in dividend policy which is currently based on 40-60% payout of free cash flow. Lift FY17-18F earnings by 5% largely due to a lower effective tax rate and lower operational cost. Overall, we are projecting 3% electricity sales growth (inclusive of non-peninsular Malaysia sales) in FY17, before tapering off to 2.2% in FY18. Healthy financials. TNB incurred RM11.4bn capex in FY16, of which 45% was utilised for new generation capacity. This is also the highest capex amount spent over the past five years. Nevertheless, balance sheet remains very healthy with 33% net gearing levels despite its aggressive expansion plans. Management has also proposed a final DPS of 22 sen, taking FY16 DPS to 32 sen. This translates into 23% of FY16 core net profit. Quarterly / Interim Income Statement (RMm) FY Aug 4Q2015 3Q2016 4Q2016 % chg yoy % chg qoq Revenue 11,744 12,129 11,237 (4.3) (7.4) Cost of Goods Sold (9,756) (9,570) (9,355) (4.1) (2.2) Gross Profit 1,988 2,559 1,882 (5.3) (26.4) Other Oper. (Exp)/Inc 231 188 203 (12.1) 8.0 Operating Profit 2,219 2,747 2,085 (6.0) (24.1) Other Non Opg (Exp)/Inc (25.9) 30.1 7.20 nm (76.1) Associates & JV Inc 44.5 25.4 24.6 (44.7) (3.1) Net Interest (Exp)/Inc (91.5) (231) (130) (42.2) 43.7 Exceptional Gain/(Loss) (734) (39.8) (115) 84.3 (188.4) Pre-tax Profit 1,413 2,532 1,872 32.6 (26.0) Tax (603) (225) (136) (77.5) (39.5) Minority Interest 11.3 1.50 25.8 128.3 1,620.0 Net Profit 821 2,309 1,762 114.7 (23.7) Net profit bef Except. 1,554 2,349 1,877 20.8 (20.1) EBITDA 3,751 4,271 3,634 (3.1) (14.9) Margins (%) Gross Margins 16.9 21.1 16.7 Opg Profit Margins 18.9 22.6 18.6 Net Profit Margins 7.0 19.0 15.7 Source of all data: Company, AllianceDBS Page 2
CRITICAL DATA POINTS TO WATCH Earnings Drivers: Electricity demand. This is the key earnings driver for TNB. Historically, the growth in electricity sales has been highly correlated with the country s GDP growth. Industrial and commercial users typically account for ~75% of TNB s electricity usage, and therefore a healthy economy is of utmost importance to TNB. Transparent tariff-setting mechanism. The implementation of the Incentive Based Regulation (IBR) framework will have a base tariff that reflects: 1) capex and opex of transmission and distribution business, 2) return on regulated assets, and 3) power purchase cost charged by generators. The implementation of the imbalance cost pass-through (ICPT) mechanism which is part of IBR will offer strong earnings clarity going forward with a tariff revision every six months. We believe the government is committed to the energy reform that was started on 1 Jan 2014. New power plants coming on-stream. TNB is set to benefit from the new generation capacity that is under construction which will progressively increase its capacity by ~30% by 2019. The new power plants will be completed progressively to boost its generation capacity. Ultimately, the new power plants will help reduce generation cost due to the more efficient technology. The new additions will also help replace expiring power purchase agreements/service level agreements which tend to be more costly. Favourable generation cost. TNB s coal-based generation mix has improved to 57% in 4QFY16, compared to 44% a year ago, likely due to the contribution of Tanjung Bin 4 which was commissioned in Mar 16. This enables TNB to consume less LNG for power generation which is more expensive. Also, weak coal prices are in its favour, and will translate into lower fuel cost and energy payments. While these savings will eventually be transferred to consumers, there will be a lagged impact on quarterly results, as tariff revision is only carried out every six months. Overseas expansion. TNB s overseas footprint is still minimal at this juncture, though it intends to expand into energy-related businesses overseas such as project management, operation and maintenance, as well as power generation. Its 100%-owned Liberty Power Ltd, which operates a 235-MW combined-cycle natural gas power plant, currently contributes ~1% of TNB s revenue. We understand the group will focus on the Middle East and ASEAN regions as its target markets. 4.25 3.65 3.04 2.43 1.82 1.22 0.61 0.00 69.4 55.5 41.6 27.7 13.9 0.0 22.0 17.6 13.2 8.8 4.4 0.0 49.9 39.9 29.9 20.0 10.0 0.0 55.8 44.6 33.5 22.3 11.2 Electricity sales growth (%) 4.21 2.99 2.22 2.25 2.24 Coal price (US$/MT) 68 68 68 57.7 55.7 Gas price (RM/mmbtu) 21.6 20.9 20.9 20.9 20.9 Gas-based generation (%) 49.4 42.7 43.4 41.9 40.8 Coal-based generation (%) 53.1 52.6 54.2 55.2 45.6 0.0 Page 3
Balance Sheet: More debt headroom to gear up. TNB s net gearing stood at 33% as at end-aug 16. This is after taking into consideration its total capex spending of RM11.4bn in FY16. The recent award of Project 3B will not strain its balance sheet, as we understand the group is still able to stomach more than RM20bn of borrowings. Share Price Drivers: Strong power consumption. Higher-than-expected electricity consumption will be TNB s key earnings driver given the implementation of ICPT mechanism which insulates the company from fuel cost volatility. Government s commitment on ICPT. There have always been doubts on TNB's ability to implement ICPT fully, due to the government s intervention. We believe the government is committed to energy reform, as evidenced by the latest piped gas price hike. A smooth implementation of ICPT will be a strong re-rating catalyst for TNB as ICPT will remove the burden of volatility in its energy procurement. Key Risks: Increase in fuel costs. Gas and coal account for more than 90% of TNB's fuel mix and a hike in the costs of these inputs would reduce TNB's profitability. The timing of tariff adjustments is uncertain in Malaysia, but TNB has historically been fully compensated by a tariff hike for each gas cost increase, with a small net enhancement. Demand weakness. TNB's earnings are sensitive to power demand growth, which is affected by the overall economic condition. Company Background Berhad (TNB) is the largest electricity provider in Malaysia. Its core business comprises the generation, transmission & distribution of electricity. It has 11,000MW total installed generation capacity. Leverage & Asset Turnover (x) 0.4 0.70 0.60 0.4 0.50 0.4 0.40 0.30 0.3 0.20 0.3 0.10 0.00 0.3 Gross Debt to Equity (LHS) Asset Turnover (RHS) Capital Expenditure RMm 11,400.0 11,200.0 11,000.0 10,800.0 10,600.0 10,400.0 10,200.0 10,000.0 9,800.0 9,600.0 9,400.0 Capital Expenditure (-) ROE (%) 14.0% 12.0% 10.0% 8.0% 6.0% 4.0% 2.0% 0.0% Forward PE Band (x) (x) 13.6 12.6 +2sd: 12.6x 11.6 +1sd: 11.3x 10.6 Avg: 10x 9.6 8.6-1sd: 8.7x 7.6-2sd: 7.4x 6.6 Oct-12 Oct-13 Oct-14 Oct-15 Oct-16 2.1 (x) PB Band (x) 1.9 1.7 1.5 1.3 1.1 +2sd: 1.91x +1sd: 1.71x Avg: 1.5x -1sd: 1.29x -2sd: 1.08x 0.9 Oct-12 Oct-13 Oct-14 Oct-15 Oct-16 Page 4
Key Assumptions FY Aug Electricity sales growth 2.22 4.21 2.99 2.25 2.24 Coal price (US$/MT) 57.7 55.7 68.0 68.0 68.0 Gas price (RM/mmbtu) 21.6 20.9 20.9 20.9 20.9 Gas-based generation (%) 49.4 42.7 43.4 41.9 40.8 Coal-based generation 45.6 53.1 52.6 54.2 55.2 Lifted by heat wave Income Statement (RMm) FY Aug Revenue 43,287 44,532 46,839 47,878 48,935 Cost of Goods Sold (35,483) (36,171) (38,146) (38,660) (39,452) Gross Profit 7,803 8,361 8,693 9,218 9,483 Other Opng (Exp)/Inc 824 712 849 866 883 Operating Profit 8,628 9,072 9,542 10,084 10,366 Other Non Opg (Exp)/Inc (833) 31.8 0.0 0.0 0.0 Associates & JV Inc 101 93.3 96.1 99.0 102 Net Interest (Exp)/Inc (663) (740) (1,107) (1,252) (1,347) Exceptional Gain/(Loss) (99.3) (390) 0.0 0.0 0.0 Pre-tax Profit 7,134 8,067 8,531 8,931 9,121 Tax (1,073) (746) (759) (883) (1,082) Minority Interest 57.5 46.8 77.7 80.5 80.4 Preference Dividend 0.0 0.0 0.0 0.0 0.0 Net Profit 6,118 7,368 7,849 8,128 8,119 Net Profit before Except. 6,218 7,758 7,849 8,128 8,119 EBITDA 13,190 14,919 15,444 16,215 16,715 Growth Revenue Gth (%) 1.2 2.9 5.2 2.2 2.2 EBITDA Gth (%) 14.0 13.1 3.5 5.0 3.1 Opg Profit Gth (%) 30.9 5.2 5.2 5.7 2.8 Net Profit Gth (Pre-ex) (%) 14.5 24.8 1.2 3.6 (0.1) Margins & Ratio Gross Margins (%) 18.0 18.8 18.6 19.3 19.4 Opg Profit Margin (%) 19.9 20.4 20.4 21.1 21.2 Net Profit Margin (%) 14.1 16.5 16.8 17.0 16.6 ROAE (%) 13.5 14.8 14.2 13.4 12.2 ROA (%) 5.4 5.9 5.7 5.6 5.3 ROCE (%) 7.2 7.4 7.1 7.0 6.7 Div Payout Ratio (%) 26.7 24.5 30.0 30.0 30.0 Net Interest Cover (x) 13.0 12.3 8.6 8.1 7.7 Steady growth Page 5
Quarterly / Interim Income Statement (RMm) FY Aug 4Q2015 1Q2016 2Q2016 3Q2016 4Q2016 Revenue 11,744 10,677 10,489 12,129 11,237 Cost of Goods Sold (9,756) (8,418) (8,828) (9,570) (9,355) Gross Profit 1,988 2,258 1,661 2,559 1,882 Other Oper. (Exp)/Inc 231 139 181 188 203 Operating Profit 2,219 2,398 1,842 2,747 2,085 Other Non Opg (Exp)/Inc (25.9) 6.10 (11.6) 30.1 7.20 Associates & JV Inc 44.5 16.9 26.4 25.4 24.6 Net Interest (Exp)/Inc (91.5) (199) (180) (231) (130) Exceptional Gain/(Loss) (734) (58.5) (177) (39.8) (115) Pre-tax Profit 1,413 2,163 1,499 2,532 1,872 Tax (603) (201) (184) (225) (136) Minority Interest 11.3 13.8 5.70 1.50 25.8 Net Profit 821 1,976 1,321 2,309 1,762 Net profit bef Except. 1,554 2,035 1,498 2,349 1,877 EBITDA 3,751 3,761 3,254 4,271 3,634 Growth Revenue Gth (%) 18.6 (9.1) (1.8) 15.6 (7.4) EBITDA Gth (%) 19.1 0.3 (13.5) 31.2 (14.9) Opg Profit Gth (%) 13.9 8.1 (23.2) 49.2 (24.1) Net Profit Gth (Pre-ex) (%) (7.4) 30.9 (26.4) 56.8 (20.1) Margins Gross Margins (%) 16.9 21.2 15.8 21.1 16.7 Opg Profit Margins (%) 18.9 22.5 17.6 22.6 18.6 Net Profit Margins (%) 7.0 18.5 12.6 19.0 15.7 Induced by El-Nino phenomenon Balance Sheet (RMm) FY Aug Net Fixed Assets 90,300 96,513 101,707 105,675 109,428 Invts in Associates & JVs 758 1,838 1,934 2,033 2,135 Other LT Assets 7,282 7,796 7,796 7,796 7,796 Cash & ST Invts 8,910 17,154 19,627 22,547 25,840 Inventory 844 792 869 877 892 Debtors 8,639 8,277 8,896 9,094 9,294 Other Current Assets 402 533 533 533 533 Total Assets 117,135 132,902 141,362 148,554 155,919 ST Debt 1,986 1,489 1,582 1,641 1,700 Creditor 10,412 11,409 11,588 11,691 11,898 Other Current Liab 3,195 3,186 3,895 4,019 4,218 LT Debt 22,713 32,818 34,880 36,177 37,473 Other LT Liabilities 31,363 31,401 31,401 31,401 31,401 Shareholder s Equity 47,208 52,389 57,883 63,573 69,256 Minority Interests 259 211 133 52.9 (27.5) Total Cap. & Liab. 117,135 132,902 141,362 148,554 155,919 Non-Cash Wkg. Capital (3,721) (4,994) (5,185) (5,207) (5,397) Net Cash/(Debt) (15,789) (17,153) (16,835) (15,271) (13,334) Debtors Turn (avg days) 66.5 69.3 66.9 68.6 68.6 Creditors Turn (avg days) 111.1 130.8 129.8 130.2 129.6 Inventory Turn (avg days) 10.5 9.8 9.4 9.8 9.7 Asset Turnover (x) 0.4 0.4 0.3 0.3 0.3 Current Ratio (x) 1.2 1.7 1.8 1.9 2.1 Quick Ratio (x) 1.1 1.6 1.7 1.8 2.0 Net Debt/Equity (X) 0.3 0.3 0.3 0.2 0.2 Net Debt/Equity ex MI (X) 0.3 0.3 0.3 0.2 0.2 Capex to Debt (%) 43.6 32.5 30.2 26.4 25.5 Z-Score (X) 1.8 1.8 1.8 1.8 1.8 Healthy balance sheet Page 6
Cash Flow Statement (RMm) FY Aug Pre-Tax Profit 7,134 8,067 8,531 8,931 9,121 Dep. & Amort. 5,294 5,722 5,806 6,032 6,246 Tax Paid (811) (721) (50.6) (759) (883) Assoc. & JV Inc/(loss) 0.0 0.0 (96.1) (99.0) (102) Chg in Wkg.Cap. 974 1,412 (517) (102) (9.3) Other Operating CF (1,152) (1,188) 0.0 0.0 0.0 Net Operating CF 11,439 13,293 13,672 14,003 14,373 Capital Exp.(net) (10,774) (11,143) (11,000) (10,000) (10,000) Other Invts.(net) 0.0 0.0 0.0 0.0 0.0 Invts in Assoc. & JV 0.0 0.0 0.0 0.0 0.0 Div from Assoc & JV 0.0 0.0 0.0 0.0 0.0 Other Investing CF (2,052) (7,253) 0.0 0.0 0.0 Net Investing CF (12,826) (18,396) (11,000) (10,000) (10,000) Div Paid (1,637) (1,806) (2,355) (2,438) (2,436) Chg in Gross Debt (1,775) 9,063 2,156 1,356 1,356 Capital Issues 0.0 0.0 0.0 0.0 0.0 Other Financing CF (840) (664) 0.0 0.0 0.0 Net Financing CF (4,252) 6,593 (199) (1,083) (1,080) Currency Adjustments (2.6) 9.90 0.0 0.0 0.0 Chg in Cash (5,641) 1,500 2,473 2,920 3,293 Opg CFPS (sen) 185 211 251 250 255 Free CFPS (sen) 11.8 38.1 47.4 70.9 77.5 Capex for new power plants and maintenance capex Target Price & Ratings History 15.48 14.98 14.48 13.98 13.48 12.98 RM 2 3 4 5 6 8 7 9 10 11 12 13 14 16 S.No. Date of Report Closing Price 12-mth T arget Price Rating 1: 30 Oct 15 12.66 14.50 BUY 2: 09 Dec 15 13.36 15.00 BUY 3: 15 Dec 15 12.82 15.00 BUY 4: 02 Mar 16 13.22 15.00 BUY 5: 04 Apr 16 14.02 15.00 BUY 6: 28 Apr 16 14.20 16.10 BUY 7: 04 May 16 14.08 16.10 BUY 8: 11 May 16 14.00 16.10 BUY 9: 03 Jun 16 14.00 16.10 BUY 12.48 1 10: 08 Jul 16 14.10 16.30 BUY 11: 29 Jul 16 14.38 16.60 BUY 11.98 12: 05 Aug 16 14.40 16.60 BUY Oct-15 Feb-16 Jun-16 Oct-16 13: 02 Sep 16 14.66 16.60 BUY 14: 06 Oct 16 14.36 16.60 BUY Note : Share price and Target price are adjusted for corporate actions. 15: 21 Oct 16 14.32 16.60 BUY 16: 24 Oct 16 14.34 16.60 BUY 15 Source: AllianceDBS Analyst: QUAH He Wei, CFA Page 7
DISCLOSURE Stock rating definitions STRONG BUY - > 20% total return over the next 3 months, with identifiable share price catalysts within this time frame BUY - > 15% total return over the next 12 months for small caps, >10% for large caps HOLD - -10% to +15% total return over the next 12 months for small caps, -10% to +10% for large caps FULLY VALUED - negative total return > -10% over the next 12 months SELL - negative total return of > -20% over the next 3 months, with identifiable catalysts within this time frame Commonly used abbreviations Adex = advertising expenditure EPS = earnings per share PBT = profit before tax bn = billion EV = enterprise value P/B = price / book ratio BV = book value FCF = free cash flow P/E = price / earnings ratio CF = cash flow FV = fair value PEG = P/E ratio to growth ratio CAGR = compounded annual growth rate FY = financial year q-o-q = quarter-on-quarter Capex = capital expenditure m = million RM = Ringgit CY = calendar year M-o-m = month-on-month ROA = return on assets Div yld = dividend yield NAV = net assets value ROE = return on equity DCF = discounted cash flow NM = not meaningful TP = target price DDM = dividend discount model NTA = net tangible assets trn = trillion DPS = dividend per share NR = not rated WACC = weighted average cost of capital EBIT = earnings before interest & tax p.a. = per annum y-o-y = year-on-year EBITDA = EBIT before depreciation and amortisation PAT = profit after tax YTD = year-to-date Page 8
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Additional information is, subject to the overriding issue of confidentiality, available upon request to enable an investor to make their own independent evaluation of the information contained herein. Wong Ming Tek, Executive Director Published by AllianceDBS Research Sdn Bhd (128540 U) 19th Floor, Menara Multi-Purpose, Capital Square, 8 Jalan Munshi Abdullah, 50100 Kuala Lumpur, Malaysia. Tel.: +603 2604 3333 Fax: +603 2604 3921 email : general@alliancedbs.com Page 9