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This article first appeared in The Edge Financial Daily on December 5, 2019

Tenaga Nasional Bhd
(Dec 4, RM13.40)
Upgrade to outperform with an unchanged target price of RM14.30:
On Tuesday, during the minister’s question time in parliament, the energy minister said that while domestic customers are not affected by imbalance cost to be passed-through (ICPT) surcharge which will be funded by Kumpulan Wang Industri Elekrik (KWIE) amounting to RM62.95 million, the non-domestic customers would enjoy a surcharge reduction of 0.55 sen per kWh to two sen per kWh in the first half of 2020 (1H20) from 2.55 sen per kWh in 2H19.

 

This ICPT surcharge is on top of the base tariff of 39.45 sen per kWh. So far, the Energy Commission and Tenaga Nasional Bhd (TNB) have not made announcement for the new tariff structure yet.

The effective tariff rate is to be reduced by 1.3%. The reduction in ICPT surcharge is not unexpected as given the declining trend of fuel costs. In the third quarter of financial year 2019 (3QFY19), average coal cost for TNB fell to RM301.90 per tonne against RM356.80 per tonne in 1HFY19 while average liquefied natural gas (LNG) cost also dropped to RM32.75 per million British thermal units (mmbtu) as opposed to RM36.16 per mmbtu in 1HFY19.

In fact, both fuel prices have fallen below the reference price of RM315.90 per tonne for coal and RM35 per mmbtu for LNG to use for the formulation of base tariff of 39.45 sen per kWh for Regulatory Period 2 (RP2) between 2018 and 2020. Should fuel prices continue to trend lower, we may see a lower base tariff in RP3 over 2020 to 2022.

Last Friday, TNB faced a heavy selldown after it was slapped with RM3.98 billion additional tax assessment by the Inland Revenue Board for 2015 to 2017. This is the second additional tax assessment after the still unsettled RM2.1 billion claim which was announced in November 2015. The tax dispute was mainly relating to reinvestment allowance up to 2018.

As such, TNB may face another dispute claim for 2018 that could amount to another RM1 billion.

However, in our opinion, the selldown is overdone as this is an isolated event which is not an operational issue.

Furthermore, after a good four years, the first dispute is still not settled and TNB may also not lose the case while this second dispute could take an even longer time to resolve.

We believe the selldown over the tax dispute is overdone given that it is not an operational issue. At worst, the total dispute claims of up to RM6 billion could wipe out an entire financial year’s earnings but TNB may not lose the case.

Meanwhile, under the Incentive Based Regulation (IBR) framework with fuel cost passed through via ICPT, TNB’s earnings are expected to be stable with a regulated return of 7.3%.

This also offers dividend certainty of around 4% based on 50% payout. As such, the recent selldown provide further buying opportunity into this heavyweight index-linked stock.

Risks to our new recommendation are sharp decline in regulated return rates under new RP3, from 7.3% currently, as well as a sudden surge in fuel prices resulting in short-term earnings weakness. — Kenanga Research, Dec 4

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