Utilities: YTL Power International Bhd

Seri Tanjung Pinang by E&O Property

*I am writing this for a dear friend of mine who has been holding YTLPOWR for quite some time. As requested, I hope my opinions will be of some use to you.

 

Introduction

YTL Power International Bhd was used as a vehicle to take over all power generation interests of YTL Corporation Bhd in Malaysia. It was then subsequently listed on the Main Board of Bursa Malaysia as an Infrastructure Project Company (IPC) in 1997, I just call it Utilities, copied from Monopoly.

YTLPOWR core business lies in power generation, retailing electricity, power transmission and water & sewerage services. In Malaysia, under its wholly-owned subsidiary, YTL Power Generation; the first independent power producer (IPP) in the country to be granted a license to generate electricity for a period of 21 years which expires on Sept 2015. YTLPOWR sells it electricity to Tenaga (TNB) at between 12.4 and 15.5 sen per unit on a "Take or Pay" basis. YTLPOWR has operations overseas as well, as explained below:

In Malaysia: Two gas-fuelled combined-cycle power plants, one each at Paka, Terengganu and Pasir Gudang, Johor with total capacity of 1,212MW. Largest IPP in the country.

In Singapore: Owns PowerSeraya Limited which has a licensed generation capacity of 3,100MW which makes up about 25% of SG's total licensed capacity. PowerSeraya is a diversified energy company dealing with electricity, steam and water, oil trading and oil tank leasing and water production via Reverse Osmosis Desalination Plant. Concession period is 30 years.

In Indonesia: 35% stake in PT Jawa Power generating 1,220MW via coal-fired power plant in East Java, Indonesia. It is the 2nd largest IPP in Indonesia and has a 30 year agreement to supply power to PT PLN (Persero).

In Australia: 33.5% stake in ElectraNet, South Australia's major electricity transmission company which owns and operates the state's power grid under a 200-year concession! ElectraNet transmission network provides current to over 99% of South Australia's population!

In England: Owns Wessex Water that supplies 350 million litres of water to 1.3 million customers and treats 490 million litres of sewage from 2.6 million customers daily. Concession period is 25 years which expires in Aug 2014. It is recognised as one of the most efficient water and sewerage companies in England and Wales and also once received The Queen's Awards for Enterprise in 2008.

Fundamental

1. Does the company have an identifiable durable competitive advantage?

Hard to answer. I would say it is still the best utilities company in Malaysia even beating Tanjung PLC in terms of revenue for the utilities segment. Locally all IPPs have an equal share pie while overseas they don't compete with each other.

 

2. Do you understand how the product/service works?

Utilities are bounded by licensed and has a term on the concession. It is wise to keep track on renewals of the concessions as losing one will impact revenue.

3. What is the chance that it will become obsolete (KO) in the next twenty years?

Energy and water will always be needed by humans and as the population grows so will the demand. For a company like YTLPOWR which has some concessions over 20 years, it will not go obsolete.

4. Does the company allocate capital exclusively in the realm of its expertise?

Yes. It has been acquiring and maintaining utilities related assets as such is allocating capital in its realm of expertise.

 

5. What is the company's financial history and status?

Financial Chart 1

Net profit margin (PM) after taxation correlates with return of equity (ROE). The spike in Revenue Growth Rate seen in financial year 2003 is due to consolidation of full year results of Wessex Water Limited, the water and sewerage company in UK. Where else in financial year 2009, it has the results of ~four months from PowerSeraya, its operations in Singapore. Below is the 5-year average for the company. Sector is more broadly categorised like IPC while industry is much more specific; for YTLPOWR is it Utilities-Power/Water. 

• Net Profit Margin: 15.65% vs 8.28% (Industry), 12.34% (Sector)
• Gross Profit Margin: 32.95% vs 25.90% (Industry), 11.20% (Sector)
• ROE: 16.23% vs 9.63% (Industry), 8.73% (Sector)
• Revenue Growth Rate: 29.64% vs 8.49%, 8.76% (compounded annual growth rate)

ROCE is another view point of the returns to shareholder equity without accounting debt being used as leverage. Since financial year 2003, YTLPOWR has been loading up debts to finance their aggressive expansion overseas. As such there is a huge gap between ROE and ROCE until present time. ROCE is around 3%-4% every year. A big gap indeed, using debt to create value for shareholders hmmmph.

Revenue growth rate does not reflect true rate because in year 2009 it acquired PowerSeraya which boosted its revenues for the 2009 annual report. Optimistically it should be 8% but to me more realistic I will project a 5% revenue growth rate instead.

Financial Chart 2

This chart looks nice with consistent growth on both EPS and DPS though we need to remember that value was created using debts, a lot of debts. YTLPOWR offers an attractive dividend yield of approximately 5% and is considered as one member in the high dividend yield stocks camp which includes the likes of PANAMY, DIGI, TANJUNG PLC and mREITS.

6. Is the company conservatively financed?

It has RM6 billion in cash and deposits but the bad news is that it also has about RM22bil in debts. Of that amount, RM9.3bil are bonds and another RM12.7 bil are borrowings. Together with shareholder equity of RM6.1 bil DE ratio is 3.6. This ratio is the highest I have seen in my stock market research to date. While YTLPOWR is able to generate more than RM1 bil in net profit per year, it will still take an extraordinary 15 years to repay them all :(

7. Is the company actively buying back its shares?

Over 2008 and 2009 there were five buybacks of 927,300 shares which is not a lot from its total 7.25 billion units. YTLPOWR offers dividends to its investors by regular distribution of treasury shares in which it has a lot, almost the same amount of its share capital.

8. Is the company free to raise prices with inflation?

No. It is locked into signed agreements. An example is in Australia, ElectraNet's revenue cap is set by Australian Energy Regulator which can be adjusted every 5 years.

 

9. Are large capital expenditures required to update plant and equipment?

Yes. YTLPOWR has to spend a capital expenditure of more than RM1 billion just to maintain its current fleet of operations.

Discounted Cash Flow Analysis

Instead of using the 29.64% revenue growth rate, I will either use the optimistic rate of 8% or realistic rate of 5%. I am going to use 5%.

Operating Costs: 80% of revenue instead of 70% (I add servicing debt of 10%)

Corporate Tax: 25%

Capital Expenditures: RM1.2 billion +5%/year (not factoring addition of subsidiaries)

Depreciation: RM600 million +5%/year

Working Capital Cost: +2%/year as assets grow as much as liabilities

Discounted Rate: 5% (with so much debts I cannot get a 10% rate with reasonable risk premium added in)

YTL Power International Bhd is fairly valued at RM2.25. The current trading price of RM2.39 put it slightly an expensive purchase. If I put the optimistic 8% revenue growth rate it is valued at RM2.92. The P/E ratio of YTLPOWER is at 14.30 with Industry at 14.11 while sector at 8.94. In my opinion still fairly valued at time of writing.

Not bad performance but still subject to economic cycles

Conclusion

The only problem with YTLPOWR is its debts. Because of its aggressive expansions it will take a lot of time to repay them all. But looking back at its expansions, they have good track record with all their purchases that has been able to give absolutely good returns. In the case of Wessex Water which is now the largest profit contributor and also the recent purchase of PowerSeraya in Singapore.

With another RM6 bil in cash and deposit, I wonder if YTLPOWR will still be looking out for more acquisition of utility assets. Are they truly that aggressive? I have less thoughts of its competition because they operate mainly overseas and that makes it more difficult for me to analyse the others.

Nevertheless there are others IPPs in Malaysia such as Sime Darby, Tanjong PLC and MRCB which are also big in size except for MRCB. The common problem between all IPPs is not competition but windfall tax from the Malaysian government & for the govt's plans to renegotiate Tenaga's power-buying contracts with IPPs to reduce TNB's financial strain. Currently TNB has to purchase all the power produced by all the IPPs regardless of demand.

As we all know that our govt is very famous of their U-turn driving style, saying one thing today and changing 180 the next day. This could be the reason why YTLPOWR pays less attention to its local operations and focuses more overseas. I also do not fancy such stuffs from our government, problem la.

The only way I see it, YTLPOWR has to continue to acquire more assets to improve revenue rates but as a heavy debt laden company I do not foresee a day when its DE ratio will ever be less than 0.5. There is no question that YTLPOWR share performance & high dividend yield has been on the uptrend since it ventured more into overseas. If you can handle the heat from the debts it has, then go ahead click purchase haha. For me, it is not my cup of tea :)