Potential reduction in Tenaga’s allowable return of assets
KUCHING: With the current Incentive Based Regulation (IBR) period soon coming to an end, analysts are betting on a reduction in Tenaga Nasional Bhd’s (Tenaga) allowable return of assets (ROA) to be on the table in its upcoming review.
In a sector update on the local power sector, the research arm of MIDF Amanah Investment Bank Bhd (MIDF Research) explained that the potential reduction in allowable ROA for the power company is possible due to the large discrepancy between Tenaga’s and the regulator’s recommendation on cost of equity in determining allowable ROAs in the current IBR period (FY14-17).
To recap, the regulatory weight average cost of capital (WACC) or ROA for Tenaga under the first and current IBR period is 7.5 per cent, while the proposal given by Tenaga at the time was 9.7 per cent.
The point of this allowable ROA is to regulate Tenaga’s transmission and distribution (T&D) unit due to its monopoly in the market and to achieve this allowed ROA, Tenaga’s base tariffs are set to a certain level for the IBR period under review.
“In the current IBR period, base tariffs are set at 38.5 sen per kWh based on this 7.5 per cent allowable ROA on the regulated T&D assets. And while there are other cost pass-through components that will affect the determination of the base tariff, the allowable ROA accounts for a big chunk of this and is essentially the profit element for Tenaga from its T&D operations,” explained the research arm.
Despite the potential losses Tenaga might experience from this, MIDF Research urged investors not to fret as they opine that the market has already priced in a ‘worst case scenario’ for the situation.
“We think current price levels have more than reflected this risk. In a worst case scenario where allowable returns are reduced to 6.5 per cent from the current 7.5 per cent, we estimate a circa RM485 million per annum, or seven to eight per cent impact to Tenaga’s bottom-line.
“Our target price will fall to RM15.40 per share if we factor in this ‘worst case’ scenario, which still entails meaningful upside against the depressed RM14.20 per share levels that Tenaga is currently trading at.”
Looking forward for the power sector on the whole, MIDF Research notes that there was been numerous upwards revisions of expected gross domestic numbers (GDP) numbers in the past six months and the power sector, via Tenaga, would be a cheap and liquid play into this upcycle. Turn to Page B2, Col 1
In the current IBR period, base tariffs are set at 38.5 sen per kWh based on this 7.5 per cent allowable ROA on the regulated T&D assets. MIDF Research