AKD Securities Limited Equity Research – Daily Report

Karachi, December 19, 2017 (PPI-OT): Power: Debt vs Devaluation, who’s the winner

Recent policy changes by the federal govt. have clear spillovers for IPPs – lowering their load factors in the short term while casting uncertainty over the long term performance and outlook of the power chain. While recent devaluation bodes well for the sector in general (5% additional deval leads to 5.3/8.3% uptick in HUBC/KAPCO earnings), we highlight that their payout streams solely depend on cash flow disbursements from the power purchaser (GoP through NTDC and WAPDA) to the entire energy chain.

With outstanding receivables of HUBC/KAPCO standing at PkR72.21/80.13bn for 1QFY18 (adding PkR5.8bn/3.2bn FYTD), honouring the capacity payments remains key to sustained payouts for investors. Also, since both IPPs are classified as relatively inefficient (on FO basis for KAPCO), GoP might as well plan to run them at significantly lower load factors (less than annual 50%). This will in-turn create a burden on the total cost of generation (CPP+EPP) as mandatory capacity payments will be paid for HUBC/KAPCO as well as other plants which have been commissioned.

Payout sustainability is the elephant in the room: Earnings projections for HUBC/KAPCO go up by 5.3/8.3% for a 5% devaluation in PkR vs. US$ as Capacity Purchase Payments are US$ adjusted. Moreover, the ongoing FO crisis might compel the GoP to run HUBC/KAPCO at lower load factors given their inherent inefficiency. Importantly, point of concern remains the dividend stream, which we believe would stand lower in FY17 too (payout ratio of 81.1% vs historical three year average of ~100% for HUBC, partially attributable to its growth projects as well.)

Circular debt still harms the energy chain: Latest news reports indicate that circular debt has reached PkR421bn. Under this head, HUBC/KAPCO have receivables from WAPDA amounting to PkR72.21/80.13bn as of 1QFY18. As of June’17 debt levels stood at PkR330bn where the increase to current levels leads to current accretion level of ~PkR20bn/month. With intl. crude oil prices hovering around US$60/bbl and given fiscal/external side pressure, the debt stock is not expected to ease materially. That said, going forward the shift from FO based production (to RLNG and coal) will also not subdue liquidity woes for IPPs, as the GoP will be obliged to pay CPP to the existing power plants in addition to the energy payments to upcoming plants.

Investment Perspective: Notwithstanding any further adverse measures by the GoP, we believe FO based plants would continue to run for the time being (albeit on lower load factors) until new projects come online by FY20. The recent correction in this backdrop is unwarranted, particularly for KAPCO, which offers a decent dividend yield of 17.2/16.7% for FY18/19 (the highest in AKD Universe).

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