We still like the Utilities players for their defensive earnings profile which also supports decent dividend yields. Their steadfastness has been proven during the pandemic time with earnings that stayed resilient thanks to the industry regulated/concessionary mechanism. TENAGA has just started a new RP3 in Feb with a surprisingly unchanged regulatory return of 7.3% which is positive for the integrated utilities player given the growing RAB value which could translate to higher profitability. Meanwhile, gas utilities PETGAS and GASMSIA are in their final year of RP1 and we still expect resilient earnings even in the coming RP2. On the other hand, prospect for YTLPOWR has turned brighter with the turnaround of PowerSeraya, and YES’ losses narrowing. MALAKOF also saw the normalisation of IPP earnings with planned outages fully completed. In all, we maintain our OVERWEIGHT rating on the sector.

Defensive earnings; OVERWEIGHT maintained. The Utilities sector is always perceived to be a boring sector given its less-exciting GDP-growth-like earnings path. However, this helps the sector sailing through economy downturn given their regulated business environment and the COVID-19 pandemic period has indeed demonstrated such earnings defensiveness for the sector players. The regulated environment has also helped to sustain their above average dividend yield of 4%- 7%. Earnings of TENAGA (OP; TP: RM10.52), PETGAS (MP; TP: RM17.44) and GASMSIA (OP; TP: RM3.00), are fairly resilient, being regulated under the IBR framework while IPPs MALAKOF (OP; TP: RM1.01) and YTLPOWR (OP; TP: RM0.87) earnings are backed by PPA with new assets helping to bridge earnings gap as certain old IPP assets are expiring. Meanwhile, niche utility infrastructure play PESTECH (OP; TP: RM1.11) offers an exciting growth story in Cambodia coupled with promising rail electrification contract flows in the region. As such, we maintain OVERWEIGHT rating on the sector.

Power utilities’ RP3 has started from Feb 2022 to Dec 2024. After one year and one month delay due to the pandemic, the Regulatory Period 3 (RP3) for the power industry was officially started from Feb 2022 with an unchanged regulatory return of 7.3%. The new RP3 determinations are: (i) base tariff of 39.95 sen/kWh from 39.45 sen/kWh with unchanged tariff structure; (ii) capex of RM20.6b from RM18.8b; (iii) two tier gas price of RM26/mmbtu from RM27.20/mmbtu; and, (iv) coal base price of USD79/MT @ 4.123/MYR from USD75/MT @ 4.212/MYR. As such, TENAGA’s earnings will remain resilient in the future as long as IBR is in place. Going forth, TENAGA had also revealed further details on its effort to address the ESG under its “Net Zero 2050” program through: (i) generation decarbonisation through efficiency improvement, transitioning to cleaner capacity to phase down coal generators and build new gas fired-plants as well as embarking on new technologies; and (ii) building new sustainable businesses such as renewable energy.

Gas utilities’ RP1 to end this year. Similar to TENAGA, gas utilities PETGAS and GASMSIA also have demonstrated earnings resiliency even during this pandemic period, thanks to the IBR framework which safeguards their earnings. In fact, GASMSIA has reported commendable results in this RP1 period, which started in 2020, attributable to stronger-than-expected margin spread partly due to new retail margin. On the other hand, PETGAS also registered fairly consistent earnings over the same period. As such, both PETGAS and GASMSIA are still expected to report resilient earnings with minimal impact from the one-off prosperity tax in the last year of RP1 in 2022. Having said that, the expected step-down tariff rate in RP2 over 2023-2025 for PETGAS would face earnings downside risk. However, a new RM541m gas pipeline project to cater for an IPP in Pulau Indah by 1QFY23 and the RM460m gas compressor station project in Kluang by 1QFY24 should add new value to its already aging book value to improve profitability as these assets are mostly 20-30 years old assets with low carried value. Similarly, the market liberalisation for gas market which started Jan 2022 may normalise GASMSIA’s margin spread from the high margins experienced in 2QFY21-4QFY21. Nonetheless, we still expect GASMSIA’s total margin spread to maintain at RM2.20/mmbtu while management is expecting FY22 margin spread to hold at FY21 levels.

IPPs continue to see stable earnings. Both MALAKOF and YTLPOWR had seen stable earnings following the completion of the former’s planned and unplanned outages in 2020 while YTL has seen turnaround of its PowerSeraya on improved business environment in Singapore and continued narrowing losses from YES as higher subscriber base boosted economics of scale. Having said that, with 75%-owned 640MW GB3 and Prai Power Plant seeing their PPAs expiring in Dec 2022 and Jun 2024 respectively, MALAKOF still need to build up new assets to bridge the impending earnings gap. On the other hand, with RM2.72b cash in hand from the disposal of ElectraNet, we believe YTLPOWR will continue to look out for new investment and in the past, the YTL Group has always expanded during economy downturn. Meanwhile, PESTECH’s key projects namely ODM and Tatay projects in Cambodia, and MRT locally are advancing to higher stages which mean overall better margins in FY22. Going forth, current order-book of RM2.0b will keep them busy for the next 2-3 years. We still like the stock as a niche utility infrastructure play.

Source: Kenanga Research - 4 Apr 2022