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NOVEMBER 23, 2018 RUSSIA > EQUITY RESEARCH > ELECTRIC UTILITIES

INITIATION OF COVERAGE

R

 

 

Igor Goncharov

Russian Electric Utilities

U

Senior Analyst

 

 

SS

Igor.Goncharov@gazprombank.ru

 

 

Benefits of CSAs for generators still not fully priced in

Denis Stepanov

Analyst

Denis.Stepanov@gazprombank.ru

We initiate coverage of Russian electric utilities with a general preference for

Prepared for distribution on 11/23/2018 4:29:46 PM

generators over grids for their stronger FCF, balance sheets (even though the

 

 

 

 

 

“modernization” program may raise uncertainties and partly undermine FCF

Performance of analyzed stocks and MOEX

index (15-Nov-2017 = 100%)

 

 

in the short term). Among more liquid gencos, we like Inter RAO (strong FCF,

 

 

 

 

 

 

 

balance sheet), RusHydro

(regulatory support of the Far East, potentially

140%

12M IRAO and HYDR stocks performance

sustainable over multiple years). Among others – Mosenergo, OGK-2.

 

 

 

120%

 

 

 

 

 

 

 

 

 

 

 

 

 

GenCo economics: FCFY to stay healthy even toward CSA expiration

100%

 

 

 

 

Thermal GenCos are approaching the peak of CSA-driven FCF (around 2020) but

80%

 

 

 

 

should on average deliver healthy levels of FCFY despite potential pressure on

 

MOEX INDEX

 

 

 

60%

IRAO

 

 

 

DAM prices: solid FCFY-to-CoE premium during the peak period (2019-23), parity

 

 

 

40%

HYDR

 

 

 

with CoE

around

2024, and high single-digits as CSAs expire (2026). The

 

 

 

 

Nov-17

Jan-18 Mar-18

May-18

Jul-18

Sep-18

“modernization” program may negatively affect short-term FCF, but should not be

 

 

 

 

 

value-destructive due to the likely healthy level of “allowed” ROIC. We do not yet

140%

12M UPRO and ENRU stocks performance

 

include this impact in our forecasts, as specific projects are not yet defined.

 

120%

 

 

 

 

Grids economics: Healthy regulatory initiatives, risky “digitalization”

100%

 

 

 

 

Although the government maintains its conservative (i.e. below-inflation) view on

80%

 

 

 

 

 

MOEX INDEX

 

 

 

 

 

 

 

 

 

 

 

 

power transportation tariffs, it is considering positive regulatory changes in other

60%

UPRO

 

 

 

directions, including: a) long-term tariff agreements of grids with local authorities,

40%

ENRU

 

 

 

 

 

 

 

b) restrictions on preferential connections, c) charges for under-utilized reserves,

Nov-17

Jan-18 Mar-18

May-18

Jul-18

Sep-18

 

 

 

 

 

d) restrictions on subsidized residential supply. On the other hand, the mulled

140%

12M MSNG, TGKA and OGKB stocks

“digitalization” program represents an additional risk, as it may raise medium-term

 

120%

performance

 

 

 

 

 

 

 

capex, opex, with efficiency gains to be visible only in the longer term.

 

100%

 

 

 

 

 

 

 

 

 

 

 

 

 

GenCo preferences: Inter RAO, RusHydro among more liquid names

80%

 

 

 

 

 

 

 

 

 

 

 

 

 

We prefer GenCos with prolonged periods of FCFY-to-CoE premium coupled with a

 

MOEX INDEX

 

 

 

60%

MSNG

 

 

 

 

 

 

 

 

 

 

 

solid balance sheet, which should eventually translate into a healthy DY. We like

 

TGKA

 

 

 

40%

OGKB

 

 

 

 

 

 

 

 

 

 

 

Inter RAO, which combines a prolonged FCFY-to-CoE premium with a net cash

 

 

 

 

Nov-17

Jan-18 Mar-18

May-18

Jul-18

Sep-18

position.

RusHydro

should

represent long-term value for investors if

existing

140%

 

 

 

 

regulatory

support

for Far

East operations is sustained. Among other

names,

12M RSTI and FSK stocks performance

 

Mosenergo and OGK-2 should deliver prolonged FCFY-to-CoE premiums as well,

120%

 

 

 

 

 

 

 

 

 

even though Mosenergo is already facing gradual expiration of its CSAs.

 

100%

 

 

 

 

Grids preferences: FSK – NEUTRAL as DPS not backed by FCF or growth

80%

 

 

 

 

FSK’s new dividend policy should trigger at least a high single-digit DY, but we have a

60%

MOEX INDEX

 

 

 

RSTI

 

 

 

NEUTRAL rating as DY is not fully supported by FCFY. For ROSSETI (Russian

40%

FEES (FSK)

 

 

 

 

 

 

 

Grids), its potential for solid dividend is currently undermined by cross-financing within

Nov-17

Jan-18 Mar-18

May-18

Jul-18

Sep-18

 

 

 

 

 

the group, which prevents translation of strong dividend inflow into healthy dividend

 

 

 

Source: Bloomberg

outflow. Its gradual removal would have a positive impact on the company’s value.

 

 

 

 

 

Table 1. Target prices, recommendations and key metrics (“OW”=Overweight, “N”=Neutral, “UW”=Underweight)

 

 

 

 

 

 

 

TP

 

 

 

UPSIDE

 

 

 

EV/EBITDA

 

 

 

FCF YIELD

 

 

 

DY (DECLARED FOR

 

 

 

NET DEBT/

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

STOCK

 

 

REC.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

THE YEAR)

 

 

 

EBITDA

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RUB/s

 

 

 

Price

 

 

Upside

 

 

 

2018E

 

2019E

 

 

 

2018E

 

2019E

 

 

 

2018E

 

 

 

2019E

 

 

 

2018E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Generators

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RusHydro

 

OW

 

 

 

 

32%

 

 

 

 

 

3.1*

 

 

-6%

 

7%

 

 

8%

 

9%

 

 

 

 

 

0.70

 

 

0.53

 

 

 

3.4*

 

 

 

 

 

 

 

 

 

1.1*

 

 

Inter RAO

 

 

OW

 

 

5.40

 

 

 

3.81

 

 

42%

 

 

 

1.8

 

 

1.6

 

 

 

25%

 

 

28%

 

 

 

4%

 

 

5%

 

 

 

(1.1)

 

 

Unipro

 

N

2.90

 

 

2.75

 

5%

 

 

6.3

 

5.8

 

 

4%

 

6%

 

 

8%

 

11%

 

 

(0.4)

 

 

Enel Russia

 

 

UW

 

 

1.05

 

 

 

1.14

 

 

-8%

 

 

 

3.7

 

 

3.5

 

 

 

12%

 

 

4%

 

 

 

12%

 

 

14%

 

 

 

1.3

 

 

Mosenergo

 

OW

2.40

 

 

1.71

 

40%

 

 

1.6

 

1.7

 

 

32%

 

21%

 

 

7%

 

5%

 

 

(0.5)

 

 

TGK-1

 

 

N

 

 

0.010

 

 

 

0.0086

 

 

16%

 

 

 

2.0

 

 

1.5

 

 

 

21%

 

 

31%

 

 

 

7%

 

 

11%

 

 

 

0.3

 

 

OGK-2

 

OW

0.44

 

 

0.34

 

31%

 

 

3.0

 

2.5

 

 

28%

 

31%

 

 

5%

 

7%

 

 

1.4

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Grids

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ROSSETI (Russian Grids)

 

N

0.75

 

 

0.70

 

7%

 

 

2.0

 

2.0

 

 

-7%

 

3%

 

 

3%

 

6%

 

 

1.5

 

 

Federal Grid Co. (FSK)

 

 

N

 

 

0.17

 

 

 

0.15

 

 

13%

 

 

 

2.6

 

 

2.6

 

 

 

-2%

 

 

7%

 

 

 

10%

 

 

10%

 

 

 

1.8

 

Note: Share prices as of close on November 20, 2018. * RusHydro net debt and EV includes the value of forward contract with VTB.

Source: company data, Gazprombank estimates

 

Note: Prices indicated in this report are based on data provided by Bloomberg and are taken

Gazprombank

Research

Copyright ©

 

 

as of the close on NOVEMBER 20, 2018, unless otherwise indicated. Recommendations provided

(Joint Stock

Department

2003-2018

 

by Gazprombank Research analysts are updated on a regular basis as deemed necessary.

Company)

 

 

 

 

 

 

 

 

 

 

 

 

vk.com/id446425943

 

 

NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

TABLE OF CONTENTS

 

 

Investment summary.................................................................................................................................................................................

 

4

GenCo economics: FCFY to remain healthy even after CSA expiration.................................................................................................

 

4

Grids economics: healthy regulatory initiatives, risky “digitalization” ................................................................................................

 

4

Stock preferences .........................................................................................................................................................................................................

 

5

Valuation...........................................................................................................................................................................................................................

 

6

Relative valuation.........................................................................................................................................................................................................

 

7

Risks....................................................................................................................................................................................................................................

 

9

Electricity demand and supply............................................................................................................................................................

 

10

Electricity demand: mild growth in line with economic recovery........................................................................................................

 

10

Electricity supply: CSA-backed capacity additions are ending...............................................................................................................

 

11

Supply-demand balance: softened due to CSA-backed additions .........................................................................................................

 

12

Electricity prices: generators...............................................................................................................................................................

 

13

Electric energy price (DAM): lackluster growth due to softer supply-demand..............................................................................

 

13

Price for “old” capacity (KOM): to be hiked in 2021 ...................................................................................................................................

 

14

Price for “new” capacity (CSA): gradual decline followed by hike during final years..................................................................

15

Electricity tariff: grids.............................................................................................................................................................................

 

16

Transportation of electricity: Government envisions below-inflation growth in tariffs............................................................

16

Connections of new customers: Government prepares to soften the requirements for grids.................................................

16

EBITDA and FCF ........................................................................................................................................................................................

 

18

Generators: CSA-backed additions are almost completed .......................................................................................................................

 

18

EBITDA of generators: to decline after 2020 with expiration of CSAs ...............................................................................................

 

19

FCF of generators: to peak around 2020..........................................................................................................................................................

 

19

FCF profile of generators: variations due to differences in CSA portfolio.........................................................................................

 

20

FCFY to CoE premium for generators: duration varies substantially .................................................................................................

 

21

Dividends ....................................................................................................................................................................................................

 

22

Dividend payout: Unipro, Enel Russia are more generous than average .........................................................................................

 

22

Dividend yield: depends on willingness – not just the ability – to pay...............................................................................................

 

24

DY to CoD premium for generators: significant variations......................................................................................................................

 

24

Financial Leverage...................................................................................................................................................................................

 

25

Financial results for 2018 .....................................................................................................................................................................

 

26

Generators: EBITDA of Enel Russia and Mosenergo may show a decline for different reasons.............................................

26

National grids: Connection-adjusted EBITDA may show mild decline due to modest tariff hike ..........................................

26

Regulatory changes .................................................................................................................................................................................

 

27

Electricity generation: “modernization” of “old” thermal capacities...................................................................................................

 

27

Heat generation: “Alternative boiler-shop” pricing.....................................................................................................................................

 

29

Electricity grids: “Digitalization” program ......................................................................................................................................................

 

29

Electricity retail: “Benchmark” pricing .............................................................................................................................................................

 

30

Companies……………………………………………………………………..……………………………………………………………………………..……31

2

vk.com/id446425943

NOVEMBER 23, 2018 RUSSIA > EQUITY RESEARCH > UTILITIES

INVESTMENT STORY IN KEY CHARTS

Chart 1. Majority of covered gencos reached positive FCF but not necessarily a FCFY-to-CoE premium

Estimated FCFY by covered companies (without effect of modernization program): 2017-2026

 

 

 

 

 

 

 

 

25%

 

FCFY

 

 

 

 

 

 

 

 

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

20%

 

 

 

 

 

 

 

 

 

 

 

 

CoE

 

 

2018E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

15%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2019E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2020E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2021E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2022E

0%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2023E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

-5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2024E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

-10%

 

 

 

Rushydro

InterRAO

Unipro

Enel Russia

TGK-1

Mosenergo

OGK-2

Russian Grids

FSK

 

 

 

2025E

 

 

 

 

 

 

 

 

 

 

 

 

2026E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Source: company data, Gazprombank estimates

Chart 2. Covered companies may deliver a DY-to-CoD premium of different duration

 

 

 

 

 

 

 

 

Estimated DY (declared for the year) by covered companies (without effect of modernization program): 2017-2026

 

 

 

 

 

 

25%

 

 

DY

 

 

 

 

 

 

 

 

 

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

20%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2018E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2019E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

15%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2020E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

10%

 

 

 

CoD

 

 

 

 

 

 

 

 

 

 

 

2021E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2022E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2023E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2024E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

0%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2025E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Rushydro

InterRAO

Unipro

Enel Russia

TGK-1

Mosenergo

OGK-2

Russian Grids

FSK

 

 

 

 

2026E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Source: company data, Gazprombank estimates

Chart 3. We prefer gencos with prolonged periods of FCFY-to- CoE premium

# of years when FCFY>CoE (X-axis) and DY>CoD (Y-axis) within 2018-2026 (without effect of modernization program)

7

 

# of years when

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6

 

DY > CoD

 

 

 

Unipro

 

Rushydro

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5

 

Enel Russia

 

 

 

 

 

 

 

 

 

 

 

 

 

Neutral

 

 

 

 

OGK-2

 

 

 

4

 

 

 

 

 

 

 

 

 

 

 

Underweight

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

TGK-1

 

Mosenergo

 

 

 

3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Overweight

 

 

 

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

# of years when FCFY > CoE

InterRAO

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

0

1

2

3

4

5

6

7

8

9

10

Chart 4. … which should translate into above average FCFY over the forecasted period

Average FCFY (X-axis) and average DY (Y-axis) within 2018-2026 (without effect of modernization program)

14%

Average DY

 

 

 

 

 

 

 

12%

2018-26

Unipro

Rushydro

 

 

 

 

 

 

 

10%

 

 

 

OGK-2

 

 

 

 

8%

Enel Russia

Neutral

Mosenergo

 

 

 

 

 

 

 

Underweight

TGK-1

 

 

 

 

 

 

6%

 

 

 

InterRAO

 

 

 

Overweight

 

 

 

 

4%

 

 

 

 

2%

 

 

 

 

 

Average FCFY

 

 

0%

 

 

 

 

 

2018-26

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

0%

5%

10%

15%

20%

25%

30%

Source: company data, Gazprombank estimates

Source: company data, Gazprombank estimates

3

vk.com/id446425943

NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

INVESTMENT SUMMARY

We initiate coverage of Russian electric utilities with a general preference for generators over grids for their stronger and more transparent FCF profile and healthier balance sheets (even though the forthcoming launch of the “modernization” program may introduce additional uncertainties and partly undermine FCF in the short term). We like Inter RAO and RusHydro among more liquid names, Mosenergo and OGK-2 among others.

GenCo economics: FCFY to remain healthy even after CSA expiration

Russian thermal generators face the approaching peak of EBITDA and FCF (~2020), driven by premium capacity payments under Capacity Supply Agreements (CSAs). Although this will be followed by a decline on the back of expiration of CSAs, we expect covered Russian thermal gencos on average to deliver healthy levels of FCFY during 2018-26 (without accounting for the effect of the modernization program):

Average FCFY should show a solid premium to CoE during the peak period

(2019-23).

Average FCFY to descend to broad parity with CoE in 2024…

and to high-single-digit territory by the time of expiration of CSAs (2026).

Modernization of thermal generating capacities may negatively affect short-term FCF, but should not be value-destructive in the longer term:

Modernization program is likely to undermine near-term FCF of the thermal generators due to additional capex…

… but should not be value-destructive in the longer term due to the likely healthy base level of “allowed” ROIC (12-14%).

Impact of the program is not yet included into our forecasts, as specific projects for individual companies are not yet defined.

Day-Ahead Market (DAM) prices for electric energy should be pressured in the medium term…

… driven by a softened supply-demand balance on the back of accelerated capacity introductions under CSAs.

but our valuation accounts for this pressure via conservative DAM prices.

Grids economics: healthy regulatory initiatives, risky “digitalization”

While the government maintains its conservative view on medium-term development of electricity transmission tariffs, it is in the process of introducing new regulatory initiatives that may positively impact the economics of grids companies.

Average electricity transmission tariff is envisioned to grow at a rate below inflation in the medium term: ~3% p.a. vs. ~4% CPI growth envisioned by the Economy Ministry.

New regulatory initiatives are being prepared by the government. The improvements include:

-long-term tariff agreements between grid companies and local authorities;

-restrictions on preferential (below-cost) connections for small and medium-sized consumers;

-charges for excessive transmission capacity that was reserved by consumers;

-restrictions on the subsidized volume of electricity for population.

However, the mulled grids “digitalization” program represents an additional risk…

… as it might trigger near-term opex and capex hikes, with efficiency gains visible only in the midand longer term.

4

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NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

Stock preferences

We generally prefer gencos with prolonged periods of FCFY-to-CoE premium (not yet including the effect of modernization programs) and solid balance sheets, which should eventually translate into healthy dividend yields.

Preferred gencos: Inter RAO, RusHydro (among more liquid ones), Mosenergo, OGK-2

Among more liquid generators, we prefer Inter RAO (for its strong FCF and balance sheet) and, to a lesser extent, RusHydro (for regulatory support for Far Eastern operations, which currently appear sustainable over a multi-year period).

Inter RAO: Strong FCFY and balance sheet should eventually translate into solid dividends. A prolonged period of FCFY-to-CoE premium (2018-26) coupled with a solid net cash position and partly streamlined ownership structure should lead to an increase in the dividend payout and dividend yield in the medium term.

RusHydro: Shareholder value driven by sustainability of regulatory support for Far East operations. Regulatory support for Far Eastern operations (via an allowed uplift to RusHydro’s capacity prices in other regions) should trigger healthy group-wide FCFY and dividend yield if sustained over a multi-year period, as currently considered by the government.

Among other generators we like Mosenergo, OGK-2:

Mosenergo and OGK-2 should deliver FCFY in excess of CoE for a prolonged period even though Mosenergo is already facing gradual expiration of CSAs (three CSAs are expiring during 2018). Coupled with already strong (Mosenergo) or improving (OGK-2) balance sheets, their strong FCFY should eventually translate into healthy dividend yields.

Other gencos: Unipro, Enel Russia

We are less optimistic on Unipro and Enel Russia due to their less appealing FCFY profile (relative to the current share price) despite their more solid dividend yield in the near term.

Unipro. FCFY-to-CoE premium to start in 2020, but should not last beyond 2024. The planned re-launch of the new unit at Beryozov TPP (2H19) should trigger a hike in FCFY and DY in 2020, which, however, should vanish after 2024 with the expiration of CSAs for Beryozov (end 2024) and other new units (2020-21).

Enel Russia. Solid FCFY-to-CoE premium unlikely to resume in medium term due CSA expiration and wind capacity investments. Medium-term FCFY will be undermined by expiration of all thermal CSAs (end 2020) coupled with investments in new wind capacity, even though these investments are to be supported by CSA-like regulatory arrangements.

Grids: ROSSETI (Russian Grids), Federal Grid Company (FSK)

We are less optimistic on national grids (Russian Grids, FSK) compared to gencos due to their vague FCF, substantial leverage, mechanism of cross-financing within Russian Grids group and, to a lesser extent, risks associated with the “digitalization” program.

Federal Grid Company (FSK). Solid dividend stream stimulated by cash needs of the core shareholder. FSK’s new dividend policy implies that the company should broadly sustain its solid dividend stream, which is needed to finance selected other subsidiaries of its core shareholder (Russian Grids). Although this approach should lead to at least a high single-digit dividend yield, we have a NEUTRAL recommendation on the stock taking into account that this DY is not fully supported by FCFY.

ROSSETI (Russian Grids). Potentially strong dividends are muted by crossfinancing within the group. The mechanism of cross-financing within Russian Grids group prevents translation of its solid dividend inflow into healthy dividend outflow. Gradual removal of this mechanism would positively affect Russian Grids’ shareholder value, but its timing remains uncertain.

5

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NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

Valuation

We value Russian electric utilities as a weighted average between DCF and DDM approaches, with the following details:

Weights of DCF and DDM approaches differ by company depending on their risk profile. In particular, we tend to apply a higher weight to DCF for companies with a higher degree of private ownership.

DDM-based target price serves as a floor for the final target price, e.g. if the DCF-based TP is lower than the DDM-based TP, DDM prevails.

“Modernization” program for generators is not yet accounted for in our valuation of gencos, as specific projects within this program are not yet defined.

Resulting upsides (per DCF, DDM, and resulting) are presented in Chart 5.

Chart 5. We value stocks based on a weighted average of DCF and DDM approaches.

Upside by approach

60%

Upside by

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

approach:

 

 

 

 

 

 

 

 

40%

 

 

 

 

 

 

 

 

 

20%

 

 

 

 

 

 

 

 

 

0%

 

 

 

 

 

 

 

 

 

-20%

 

 

 

 

 

 

 

 

 

 

 

 

 

DCF

DDM

 

FINAL

 

 

-40%

 

 

 

 

 

 

 

 

 

 

Rushydro

InterRAO

Unipro

Enel Russia

TGK-1

Mosenergo

OGK-2

Russian Grids

FSK

Source: company data, Gazprombank estimates

Details of our valuation are presented in Table 2 below and individual company pages in the second part of this report.

Table 2. We use a combination of DCF and DDM to value utilities (“OW”=Overweight, “N”=Neutral, “UW”=Underweight)

Target prices and upsides by different approaches, recommendations and key metr

 

 

 

 

 

Upside by approach

 

 

 

 

FCFY

 

 

 

 

DY (declared for

 

 

EV/EBITDA

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

the year)*

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Company

Rec.

Curr.

TP

 

Resulting

 

DDM

 

DCF

 

 

‘18E

 

 

‘19E

 

 

‘20E

 

 

‘18E

 

‘19E

 

‘20E

 

 

‘18E

 

‘19E

 

‘20E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Generators

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RusHydro

OW

RUB

0.70

32%

29%

35%

 

-6%

 

7%

 

15%

 

8%

9%

 

9%

 

3.4**

3.1**

3.1**

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Inter RAO

OW

RUB

5.40

 

42%

 

11%

 

>100%

 

 

25%

 

 

28%

 

 

29%

 

 

4%

 

5%

 

6%

 

 

1.8

 

1.6

 

1.2

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unipro

N

RUB

2.90

5%

-2%

5%

 

4%

 

6%

 

16%

 

8%

11%

 

15%

 

6.3

5.8

4.1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Enel Russia

UW

RUB

1.05

 

-8%

 

-8%

 

-17%

 

 

12%

 

 

4%

 

 

-17%

 

 

12%

 

14%

 

13%

 

 

3.7

 

3.5

 

4.0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mosenergo

OW

RUB

2.40

40%

11%

81%

 

32%

 

21%

 

24%

 

7%

5%

 

9%

 

1.6

1.7

1.3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

TGK-1

N

RUB

0.010

 

16%

 

-7%

 

40%

 

 

21%

 

 

31%

 

 

29%

 

 

7%

 

11%

 

12%

 

 

2.0

 

1.5

 

1.4

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

OGK-2

OW

RUB

0.44

31%

-26%

>100%

 

28%

 

31%

 

32%

 

5%

7%

 

9%

 

3.0

2.5

2.1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Grids

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

ROSSETI (Russian Grids)

N

RUB

0.75

7%

7%

-20%

 

-7%

 

3%

 

2%

 

3%

6%

 

6%

 

2.0

2.0

2.0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Federal Grid Co.(FSK)

N

RUB

0.17

 

13%

 

13%

 

-14%

 

 

-2%

 

 

7%

 

 

6%

 

 

10%

 

10%

 

11%

 

 

2.6

 

2.6

 

2.7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Note: Share prices as of close on November 20, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Source: company data, Gazprombank estimates

* dividend yield refers to a dividend paid for a given year, not during the year

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

**RusHydro EV includes value of forward contract with VTB

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6

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NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

Relative valuation

Russian generators trade at a discount to GEM on P&L multiples

Russian electricity generators on average trade at substantial discounts to GEM peers on both P&L multiples (EV/EBITDA, PE) and DY (Table 3). This means that the current valuations of Russian gencos imply the “price” for their EBITDA, Net profit, and dividends below the one for profits and dividends of emerging market peers.

Table 3. Russian generators on average offer less expensive EBITDA and dividends than EM peers

 

 

 

Country

 

Share price

 

EV/EBITDA

 

 

P/E

 

 

DY

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RUB

USD

‘18E

‘19E

‘20E

‘18E

‘19E

‘20E

‘18E

‘19E

‘20E

Hydro generators

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RusHydro

 

 

Russia

 

0.53

0.008

3.4

3.1

3.1

4

4

4

8%

9%

9%

Premium / (discount) to GEM

 

 

 

 

 

 

-66%

-55%

-52%

-73%

-75%

-74%

-46%

-47%

-39%

Hydro generators

 

 

GEM

 

 

 

9.9

7.5

6.5

14

14

14

4%

5%

6%

China Yangtze Power

 

 

CN

 

 

2.1

9.9

9.6

9.1

14

14

14

5%

5%

5%

Eletrobraz

 

 

BR

 

6.8

9.4

6.1

5.6

14

7

6

4%

5%

6%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

CESP

 

 

BR

 

 

4.8

10.5

7.5

6.5

30

21

17

3%

4%

6%

Engie Brasil

 

 

BR

 

11

8.2

6.4

6.1

13

11

10

8%

8%

9%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Verbund

 

 

AT

 

 

45.8

18.5

14.0

11.3

36

69

52

1%

2%

2%

Thermal generators

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Inter RAO

 

 

RU

3.8

0.07

1.8

1.6

1.2

4

4

4

4%

5%

6%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unipro

 

 

RU

 

2.8

0.04

6.3

5.8

4.1

10

9

6

8%

11%

15%

Enel Russia

 

 

RU

1.1

0.02

3.7

3.5

4.0

6

5

5

12%

14%

13%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mosenergo

 

 

RU

 

1.7

0.03

1.6

1.7

1.3

3

5

4

7%

5%

9%

TGK-1

 

 

RU

0.01

0.0001

2.0

1.5

1.4

3

3

3

7%

11%

12%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

OGK-2

 

 

RU

 

0.3

0.01

3.0

2.5

2.1

4

4

4

5%

7%

9%

Russian Thermal GenCos

 

 

Russia

 

 

 

2.5

2.1

1.7

4

4

4

7%

9%

10%

Premium / (discount) to GEM

 

 

 

 

 

 

-75%

-76%

-78%

-63%

-59%

-57%

-38%

-37%

-45%

Thermal gencos

 

 

GEM

 

 

 

9.8

8.9

8.1

11

11

10

4%

6%

6%

NTPC

 

 

IN

 

2.18

10.8

9.7

8.7

11

11

9

3%

3%

4%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Huaneng Power

 

 

CN

 

 

0.61

9.1

8.0

7.2

18

11

9

4%

6%

8%

Datang Int'l Power

 

 

CN

 

0.23

8.4

7.5

6.9

10

7

6

6%

7%

8%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Huandian Power

 

 

CN

 

 

0.63

8.6

7.6

6.8

21

14

11

2%

3%

3%

Rachaburi

 

 

TH

 

1.50

14.8

11.9

11.2

11

10

10

5%

5%

5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Glow Energy

 

 

TH

 

 

2.66

9.7

9.7

9.6

16

16

15

6%

6%

6%

EGCO

 

 

TH

 

7.09

15.3

13.9

12.6

9

12

12

4%

4%

4%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

China Power Int'l

 

 

HK

 

 

0.22

9.9

8.2

7.5

10

7

5

6%

8%

11%

Note: Share prices as of close on November 20, 2018

 

 

 

 

 

 

Source: company data, Gazprombank estimates, Bloomberg

The discounted valuations are driven by general economic and corporate governance risks associated with the Russian market and the sector’s regulatory specifics, including:

gradual expiration of CSAs for thermal generators, which makes current levels of EBITDA and FCF difficult to sustain in the medium term as the combined EBITDA and FCF of covered thermal generators should peak around 2020 and descend thereafter.

usage of customized regulatory and financial mechanisms, e.g. CSAs,

“modernization”, regulatory support for RusHydro’s Far East operations.

7

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NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

National grids (Russian Grids, FSK) also trade at a discount to GEM

Similar to generators, major Russian grids trade at a discount to international peers on

P&L metrics (EBITDA, P/E). The discount on a DY basis is present for Federal Grid

Company, but not so distinct for Russian Grids (Table 4).

Table 4. Russian grid companies on average offer less expensive EBITDA and dividends than EM peers

 

Company

Country

Share price

 

 

EV/EBITDA

 

 

 

 

P/E

 

 

 

 

DY

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

RUB

 

USD

‘18E

 

‘19E

 

‘20E

‘18E

 

‘19E

 

‘20E

‘18E

 

‘19E

 

‘20E

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

National grids

RU

 

 

 

2.3

 

2.3

 

2.4

4

 

4

 

4

7%

 

8%

 

8%

 

Russian Grids

RU

0.70

0.01

2.0

2.0

2.0

1

2

2

3%

6%

6%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

FSK

RU

0.15

 

0.00

2.6

 

2.6

 

2.7

6

 

7

 

7

10%

 

10%

 

11%

High voltage grids

GEM

 

 

 

6.5

 

6.7

 

6.6

9

 

9

 

9

10%

 

8%

 

9%

 

Transmissao Paulista

BR

 

18.5

6.5

6.7

6.6

9

9

9

11%

8%

9%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Power Grid Corporation of India

IN

 

 

2.6

8.2

 

7.8

 

7.2

10

 

10

 

9

n/a

 

3%

 

4%

 

Transener S.A.

AR

 

1.2

3.4

2.8

2.3

6

5

3

9%

10%

13%

Medium/Low voltage grids

GEM

 

 

 

11.1

 

10.5

 

9.4

18

 

14

 

12

2%

 

2%

 

3%

 

Equatorial Energia

BR

 

18.2

11.1

10.5

9.4

18

14

12

2%

2%

3%

High voltage grids

DM

 

 

 

10.6

 

9.8

 

10.0

14

 

14

 

14

5%

 

5%

 

5%

 

Red Electrica do Especa

ES

 

22.0

10.0

9.8

10.0

15

14

15

5%

5%

5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

National Grid

GB

 

 

11.2

10.6

 

11.3

 

10.7

14

 

15

 

15

5%

 

6%

 

6%

 

Terna

IT

 

5.6

11.1

10.7

10.6

14

13

13

5%

5%

5%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Elia

BE

 

 

65.1

11.0

 

9.8

 

9.5

14

 

14

 

14

3%

 

3%

 

3%

 

Redes Energeticas Nacionais

PT

 

2.7

8.8

8.7

8.6

14

14

14

7%

7%

7%

Note: Share prices as of close on November 20, 2018

 

 

 

 

 

 

 

 

 

Source: company data, Gazprombank estimates, Bloomberg

In addition to general Russian economic and corporate governance risks, sector-specific risks that partly explain the valuation gaps are:

vague outlook for FCF within the sector and at individual companies due to below-inflation growth in electricity transportation tariffs and regular adjustment of their capex programs.

usage of customized regulatory and financial mechanisms, e.g. preferential (below cost) connections, cross-financing among subsidiaries of Russian Grids.

8

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NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

Risks

General sector risks:

(+-) Economic dynamics: Significant deviations of Russia’s real GDP dynamics vs. our assumptions (on average~2%-3% p.a. in medium-term).

(-) Additional capex or M&A on top of our current forecasts, especially for those companies not enjoying targeted regulatory support.

(-) Dividend payout. Slow increase in dividend payouts for companies that currently share with shareholders an insignificant portion of their FCF, e.g. Inter RAO, Russian Grids, Mosenergo, TGK-1, OGK-2.

(-) Reduction of presence in equity indexes, e.g. deletion of RusHydro from the MSCI Russia Index (in November 2018), which should trigger an outflow of funds.

Risks for generators:

(-) Supply demand balance and DAM prices: Sustained pressure on DAM prices for electrical energy on the back of softening supply-demand driven by the accelerated introduction of new capacities under the umbrella of CSAs.

(-) Capacity modernization program, which may undermine near-term FCF despite generally not being value-destructive. Additionally, delays or overspending when executing individual projects within the capacity modernization program may undermine the NPV of these projects. The impact of the modernization program is not yet included in our forecasts, as specific projects are not yet defined.

Risks for grids:

(+) Introduction of regulatory initiatives currently considered by the government, including a) long-term tariff agreements with local authorities, b) restrictions on preferential connections, c) charges for under-utilized reserves, and d) restrictions on the subsidized volume of residential supply.

(-) “Cross-financing” within Russian Grids group: Sustained mechanism for financial support of selected subsidiaries via dividends collected from other subsidiaries (e.g. Federal Grid Company).

(-) “Digitalization” program: Increase in near term opex and capex due to the grids “digitalization” program, which would not be backed by a tariff increase or efficiency gains.

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vk.com/id446425943

NOVEMBER 23, 2018

RUSSIA > EQUITY RESEARCH > UTILITIES

 

 

ELECTRICITY DEMAND AND SUPPLY

Electricity demand: mild growth in line with economic recovery

Russian electricity demand returned to mild growth in 2016 on the back of gradual economic recovery as reflected in positive dynamics of GDP and industrial production (Chart 6). The demand growth was seen in two main indicators:

Demand for electricity grew on average by 1.4% p.a. in 2016-17 (Chart 6).

Peak demand for capacity (within the Unified Energy System) grew by an average rate of 0.9% p.a. in 2016-17 (Chart 7). The dynamic of peak demand has been more volatile than that of electrical energy, e.g. due to fluctuating weather conditions during the cold period of the year, when peak demand in Russia occurs.

Chart 6. Electricity demand returned to mild growth on the back of general economic recovery

Growth in Russian GDP, industrial production, electricity demand (YoY)

8%

YoY

6%

4%

2%

0%

-2%

-4%

ELECTRICITY DEMAND -6% GDP GROWTH

INDUSTRIAL PRODUCTION GROWTH

-8%

2011

2012

2013

2014

2015

2016

2017

1H18

Chart 7. Russian peak load dynamics have been more volatile than the volume of electricity consumption

Growth in Russian electricity demand and peak capacity demand (YoY)

8%

YoY

 

6%

 

4%

 

2%

 

0%

 

-2%

 

-4%

 

-6%

ELECTRICITY CONSUMPTION GROWTH

 

-8%

PEAK LOAD GROWTH

 

2011 2012 2013 2014 2015 2016 2017

Source: State Statistics Service

Source: State Statistics Service, System Operator:

The historical sensitivity of Russian electricity demand to general economic dynamics (measured by growth in GDP and industrial production) has been moderate over the past 20 years. Each 1% change in GDP or industrial production triggered a change in

electricity demand of less than 0.5% (Chart 8, Chart 9).

Chart 8. 1% change in GDP growth has historically triggered an average change in electricity demand of less than 0.5%

Russian electricity consumption growth (Y-axis) vs. GDP growth (X-axis)

5%

4% Electricity demand

3% growth:

2% nominal, YoY

1%

0% -1% -2% -3% -4%

-5%

 

 

 

 

-10%

-5%

0%

5%

10%

 

 

GDP growth, YoY

 

 

Chart 9. 1% change in industrial production has historically triggered an average change in electricity demand of less than 0.5%

Russian electricity consumption growth (Y-axis) vs. IP growth (X-axis)

5%

 

 

 

 

 

4%

Electricity

 

 

 

 

demand

 

 

 

 

3%

 

 

 

 

growth:

 

 

 

 

2%

 

 

 

 

nominal, YoY

 

 

 

 

 

 

 

 

 

1%

 

 

 

 

 

0%

 

 

 

 

 

-1%

 

 

 

 

 

-2%

 

 

 

 

 

-3%

 

 

 

 

 

-4%

 

 

 

 

 

-5%

 

 

 

 

 

-10%

-5%

0%

5%

10%

 

 

Industrial production growth, YoY

 

 

Source: State Statistics Service

Source: State Statistics Service

Looking forward, we expect the electricity consumption volume and peak demand to show sluggish growth (~1.0-1.5% p.a.) on the back of a) mild economic growth and b) moderate elasticity of growth in electricity demand to general economic growth.

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