Tenaga ... Jul10

S&P Results Review & Earnings Outlook

• Tenaga's 3QFY10 (Aug) net core profit of MYR533.9 mln (excluding the forex gain of MYR573.2 mln arising from the stronger MYR against
the USD and the JPY) was slightly below our expectations. This was
mainly due to higher-than-expected generating costs arising from
higher coal and IPP payments, despite a 13.7% YoY rise in electricity
demand offset by lower-than-expected depreciation charges and a
lower effective tax rate. This takes YTD net core profit to MYR2.13 bln
(+29.3% YoY), 66.4% of our previous FY10 forecast of MYR3.21 bln.

• The outlook for electricity demand remains positive, although it is
expected to normalize to about 5% in FY11 from an estimated 10% in
FY10 (FY09: a contraction of 2.6%), as a result of moderation in
economic activities and the higher base. Coal cost, however, has
inched up to USD92/ton in 3QFY10 from USD82/ton in 2QFY10. The
rise in coal prices is expected to be moderate and the impact may be
cushioned by a strengthening MYR against the USD.

• While we maintain our average coal price per ton assumptions at
USD90 and USD100 for FY10-FY11 respectively, we have raised our
operating costs assumptions to reflect the rising generation mix from
coal-fired plants and higher IPP payments. We also lower our FY11
demand growth forecast to 5% YoY (from 8% YoY). Overall, our
FY10-FY11 net profit forecasts are cut by 2.0% and 16.6%
respectively. Our earnings assumptions include 9MFY10 forex gains
but do not factor in any potential tariff increase.

Recommendation & Investment Risks
• We maintain our Buy recommendation on Tenaga but lower our 12-
month target price to MYR9.50 (from MYR10.00) following our
earnings downgrade.

• Our target price continues to be DCF-derived, using a WACC of 7.0%
and terminal value of 3% (both unchanged). Our target price includes a
projected FY10 net DPS of 21.0 sen.

• The stock is trading at undemanding PERs of 13.9x and 12.9x for
FY10 and FY11 respectively, as compared with its forward PER range
of 10.3x-30.4x in the past five years, but at a slight premium to its peer
group average of 12.2x-11.8x for 2010-2011. The outlook remains
positive on the back of healthy demand growth, while coal prices are
expected to rise at a more moderate pace going forward.

• Tenaga’s financials have also improved, with a net gearing of 0.48x at
end-3QFY10 from 0.63x at end-FY09. Potential re-rating catalysts
include a base tariff hike which may happen in the medium term, in our
opinion, given the need to cover rising IPP payments. Foreign
shareholding levels in the company have continued to rise gradually to
10.7%, from a low of 8.5% in January 2010. Therefore, we believe
there is still ample upside, and hence keep our Buy recommendation.

• Risks to our recommendation and target price include: (i) an
unexpected spike in coal price, (ii) a weakening MYR against major
currencies, and (iii) slower-than-expected growth in electricity demand.