EF_HUBCO_0711

FIRST CAPITAL
EQUITIES
Equity Focus | Pakistan
November 07, 2013
BUY
Faraz Farooq
92-21-111-226-226 ext (229)
faraz.farooq@firstcapital.com.pk
PLEASE SEE ANALYST CERTIFICATIONS AND IMPORTANT DISCLOSURES AT THE END OF THIS MATERIAL
Hub Power
Given its guaranteed high quality earnings and upward sloping stream of
cashflows, Hubco provides investors a sustainable dividend growth
investment opportunity. Besides offering above-average income for the
investors, the stock also promises a substantial degree of capital
appreciation. The counter warrants a solid and safe investment in the
power sector of frontier/emerging market, as well as a higher return
than comparable stocks in developed markets.
Based on the current price, Hubco’s remaining dividend stream offers a
lucrative US$ IRR of 15.2%.
The liquidity injection to cleanup the balance sheets of energy chain
has significantly reduced the working capital requirements of Hubco,
thereby, easing the investors’ concerns on the certainty of future
dividends.
Successful implementation of IMF-led structural reforms will further
reduce the receivable risk for the company.
Unlike other IPPs, Hubco’s parent project is insulated against circular
debt due to favorable terms of its security contracts.
Despite liquidity constraints amid receivable buildups, the company has
been able to pay bulk of its earnings as dividends. In fact, the stock
stands out among the domestic and regional utilities with average DPS/
EPS ratio of 101% during last five years.
It is one of the rare investment cases which possess the characteristics
of both value and growth.
Currency depreciation remains a key upside risk with 1% devaluation
causing a ~1% increase in earnings.
The market appears to have unfounded concerns about potential
dividend cut from coal conversion project.
Year
End-Jun
Revenue
PRs mn
EBITDA
PRs mn
PBT
PRs mn
PAT
PRs mn
EPS
PRs
DPS
PRs
2013A 165,862 18,636 9,389 9,388 8.1 8.0
2014E 168,168 17,558 10,916 10,916 9.4 9.0
2015E 177,851 18,576 12,396 12,396 10.7 10.0
Key data
Stock Price (PRs) 62.4
Target price (PRs) 78.0
Upside 26%
Bloomberg Code HUBC PA
52 week High/Low (PRs) 73/43
Market cap (US$ mn) 672
1-Yr Avg.daily vol (US$ mn) 1.0
Free float (%) 70
Valuation analysis 2014E 2015E
PE (x) 6.6 5.8
EV/EBITDA (x) 5.0 4.7
Div Yield (%) 14.4 16.0
ROE (%) 33.0 36.5
ROA (%) 11.7 14.7
ROCE (%) 30.0 33.9
HUBC vs KSE 100
All prices as of Nov 05, 2013
80%
100%
120%
140%
160%
180%
Nov-12
Jan-13
Mar-13
May-13
Jul-13
Sep-13
Nov-13
HUBCO
KSE-100 Index

First Capital Equities Ltd
Table of Contents
Overview 03
Investment Case
Unique U-shaped tariff profile 03
Dual indexation advantage 04
Sustainable higher dividend stream ahead 04
Unmatched US$ dividend IRR of 15.2% 05
Balance sheet cleanup has improved WC position 05
Circular debt resurfacing albeit at a slower pace 07
Tariff hikes to reduce power subsidies 07
Structural reforms will further alleviate counter-party risk 08
Robust contracts provide insulation from circular debt 09
Average payout ratio of 101% in last 5 years 09
A rare blend of value and growth 10
Currency depreciation remains a key upside risk 11
Coal conversion - fears over dividend cuts unfounded 11
Valuation 12
Highly attractive in regional context 13
Financials 15
About the Company 17
Power sector synopsis 19
02
Electricity| Hub PowerNovember 07, 2013

Overview
Hub Power Company Limited (Hubco) is Pakistan’s first independent thermal
power plant, with gross capacity of 1,292 MW located at the Hub River estuary
in Balochistan. Structured as a complex build-operate-own project, it
comprises of four 323MW oil fired generation units. Hubco was incorporated in
1991 as a limited liability company for the purpose of implementing the
project. The first unit was commissioned in July 1996 and the entire capacity
was on-line by March, 1997. The original cost of the project clocked-in at
US$1.6bn, implying an average of US$1.22mn/MW. Under the 30-year Power
Purchase Agreement (PPA), the company supplies power exclusively to Water &
Power Development Authority (WAPDA) extending up to 2027. Post 2027, the
Government of Pakistan will have an option to either sign a new tariff
agreement (PPA) with new policies, sell the plant or keep it shut. As part of its
expansion plans, the company invested in a 225 MW capacity Narowal Power
Plant on April 22, 2011. Furthermore, it carries 75% shareholding in Laraib
Energy - a hydro based power plant having gross capacity of 84 MW. The plant
commenced its commercial operations on March 23, 2013.
Investment Case
Unique U-shaped tariff profile
Unlike other IPPs where the project company equity (PCE) portion of the
capacity purchase price (CPP) remains constant over the project life, Hubco
(base plant) offers a unique tariff-based growth positional. That said, there is
inherent growth in the reference tariff of Hubco in real US dollar terms. In
other words, shareholders’ wealth in case of Hubco is not only affected by
currency depreciation but it also offers built-in growth in PCE (project
company equity) reference tariff component. Under its U-shaped tariff profile,
03
Reference Project Company Equity (PRs/share)
Source: FCEL Research
0.0
0.5
1.0
1.5
2.0
2.5
3.0
3.5
4.0
4.5
FY98
FY00
FY02
FY04
FY06
FY08
FY10
FY12
FY14
FY16
FY18
FY20
FY22
FY24
FY26

0.0
1.0
2.0
3.0
4.0
5.0
6.0
FY00
FY01
FY02
FY03
FY04
FY05
FY06
FY07
FY08
FY09
FY10
FY11
FY12
FY13
PKR/US$ Indexation US CPI + PKR/US$ indexation
Hubco’s tariff is set higher in the initial part, kept straight in the middle of the
project life and designed to accelerate again in the later stage of its life. PCE
bottomed out in FY08 and is already up ~55% from FY08. It is expected to
increase at a CAGR of ~3% over the remaining term of the PPA.
Dual indexation advantage
The aspect of business risk is associated with the selling price and volume sold.
The Power Purchase Agreement (PPA) covers Hubco against both of these risks
for the 30-years term of PPA. Although paid in rupees, the tariff is based on a
calculation in US dollar. It provides full devaluation and inflation hedging,
allowing for an increase in the tariff to offset the increase in variable cost,
thereby, protecting against margin being squeezed as a result of cost
increases. From shareholders’ perspective, Hubco’s equity component is not
only indexed with PKR/US$ movement but also with US inflation. This US CPI
indexation is added advantage as it was discontinued for IPPs setup under
Power Policy 2002. This safeguards the real return for the project. Even if the
plant is not dispatched, the capacity payments will cover the debt service and
the return on equity along with other fixed costs.
Sustainable higher dividend stream ahead
Given its guaranteed high quality earnings and upward sloping stream of
cashflows, Hubco provides investors a sustainable dividend growth investment
opportunity. Besides offering above-average income for the investors, the
stock also promises a substantial degree of capital appreciation. That said,
buying Hubco stock at current levels will leave stockholders less vulnerable to
underperformance with a plunge in the underlying indices while ensuring
consistent returns. Currency depreciation should not put additional burden on
its cashflows, the rupee earnings would in fact rise.
04
Indexation effect (x)

0%
2%
4%
6%
8%
10%
12%
14%
16%
US$ Dividend IRR FY14E D/Y 3-yr Dividend CAGR
Hubco Kapco
Unmatched US$ dividend IRR of 15.2%
As per the original tariff structure of Hubco, the stock was to yield a 17% real
US dollar-based return to shareholders. Under 2001 settlement agreement, the
IRR was reduced to 12% from that of 17% committed in the original agreement.
Based on current price, Hubco’s remaining dividend stream offers a lucrative
US$ IRR of 15.2%. Against this, 10-year US treasury yield is just 2.6%. For local
investors, the Rupee IRR of Hubco at current levels arrives at 20% - well above
what domestic investors can earn on other fixed-income securities in Pakistan.
Given the low risk associated with Hubco on account of dollar based
guaranteed returns and elimination of liquidity constraints amid recent
settlement of circular debt, we feel that this gap between yields is unjustified.
Balance sheet cleanup has improved working capital position
Due to sky-high oil prices and government’s inability to pass-on cost hikes, the
energy sector underwent a severe circular debt crisis starting 1QFY09. Despite
two rescue attempts by the government in the form of TFC issuance (In Mar-09
and Sep-09) in the initial stage, the circular debt accretion could not be
arrested. In March 2009, the government issued TFCs worth PRs80bn out of
which Hubco received a major chunk of PRs35bn. Thereafter, in September
2009, the government issued 2nd tranche of the circular debt settlement by
issuing TFCs worth PRs82bn. In this respect, Hubco received PRs28bn against
the outstanding dues from WAPDA, out of which PRs27bn were paid to PSO.
Nonetheless, despite subsequent liquidity injections, Hubco’s receivables from
WAPDA continue to surge and reached PRs115bn (including Narowal) on end-
March 2013 from its end-March 2009 level of PRs32bn. On the positive front,
05
Hubco vs Kapco
BOX: How circular debt created?
Jun- 06 > PEPCO was forced to obtain
b a n k l o a n s a g a i n s t
government guarantee
Aug-06 > PEPCO delayed payments to
IPPs
Jun-07 > IPPs started borrowing from
banks
Jun-08 > IPPs payable to OMCs
(mainly PSO) started
building up
Jul-08 > OMCs deferred their
payments to refineries
Aug-08 > OMCs and Refineries started
to obtain loans from banks
Nov-08 > Few refineries unable to
open oil import LCs due to
exposure exhaustion

-175
-125
-75
-25
25
75
125
175
1QFY06
3QFY06
1QFY07
3QFY07
1QFY08
3QFY08
1QFY09
3QFY09
1QFY10
3QFY10
1QFY11
3QFY11
1QFY12
3QFY12
1QFY13
3QFY13
Receivables - WAPDA Payables ST borrowing
PRs80bn TFC
issue
PRs82bn TFC
issue
SETTLEMENT OF POWER SECTOR CIRCULAR DEBT
PRs bn
Gross Transaction Amount 503.025
Liquidated Damages (22.916)
Total (Excluding LDs) (A) 480.109
Gross Transaction (B) 341.958
Dividend received 19.710
Total Net Transaction 322.247
Payments Details
Cash IPPs 161.229
PIB OGDCL 56.322
PIB PPL 23.363
PSO Cash + PIB (Cash 33.217 + PIB 48.116) 81.333
322.247
WAPDA-Hydel 90.083
NTDC 10.216
Gencos 14.888
Nuclear Plants 22.964
TOTAL (C ) 138.151
GRAND TOTAL (A= B+C) 480.109
Source: Ministry of Finance
Non-Cash Settlement on 21-07-2013
the newly elected PML-N government - in line with its election manifesto -
addressed the circular debt on priority basis and the longstanding dues of
energy chain were finally cleared on June 28, 2013. Accordingly, the
government injected a whopping PRs322bn in the energy chain. This includes
PRs128bn bond issue coupled with a cash payment of PRs161bn to IPPs and
PRs33bn to PSO. The following is the circular debt settlement statement:
06
BOX - Circular Debt Causes
Primary Causes
 Governance
 Delays in tariff determination
and notifications
 Delays in fuel price adjustments
 Poor revenue collection by the
power distribution companies
 T&D losses and theft
 Insufficient payment of tariff
differential subsidy
 Improper payment arrears
settlement
Secondary Causes
 Thermal inefficiencies of
generation companies
 Inadequate budgeting of
subsidies
 Unfavorable generation mix of
the GENCOs
 Non-commercial approach to
load shedding
 Non-improvement in tariff terms
and conditions
 Prolonged stays on fuel price
adjustments granted by the
courts
 Late payment surcharges for IPPs
 Legacy payments
Hubco - Circular debt scenario (PRs bn)
Source: Company data, FCEL Research

-
2.0
4.0
6.0
8.0
10.0
12.0
14.0
FY08 FY09 FY10 FY11 FY12
Determined by NEPRA Approved by GOP
Once again Hubco was the major beneficiary of this settlement as the
company received PRs75bn, resulting almost complete settlement of its
overdue receivables from WAPDA. In past, the liquidity constraints due to
receivables build-up had raised concerns on the certainty of future dividends
by Hubco. The liquidity injection to cleanup the balance sheets of energy chain
has significantly reduced the working capital requirements of Hubco, thereby,
easing the investors’ concerns on the certainty of future dividends.
Circular debt resurfacing albeit at a slower pace
Following the major settlement of energy debt in late June 2013, latest media
reports suggest the resurgence of circular debt circular debt with total amount
quoted at ~PRs157bn in the wake of delay in fuel/power payments. This
includes a carryover amount PRs81bn and the re-emergence of ~PRs76bn during
Jul-Aug 2013. Nonetheless, despite improved generation levels, the monthly
accumulation in debt stock is relatively lower at ~PRs38bn versus that of
~PRs60bn previously. In August 2013, the energy debt accumulation was about
~PRs32bn compared to ~PRs45bn in July 2013. This slowdown in debt
accumulation could be linked with the 50% hike in the weighted average
electricity tariffs for industrial and commercial users effective August 2013.
Tariff hikes to reduce power subsidies
Under the recently secured US$6.64bn Extended Fund Facility (EFF) from the
IMF, the government is obliged to implement a comprehensive energy reform
policy. As per the details, the government is required to phase out the Tariff
Differential Subsidies (TDS) and bring the tariffs to cost recovery level over
the life of the program (36 months). The pre-deal tariff hike of 50% for
07
Source: NEPRA
Power tariffs (PRs/kWh)

0.0%
0.4%
0.8%
1.2%
1.6%
2.0%
Initial Phase I Phase II Phase III Phase IV
industrial sector has resulted into almost full elimination of the subsidy for this
segment. Under phase-II, the government has recently raised average tariff for
second group of consumers by 30% which is projected to generate an additional
revenue of PRs175bn. Tariffs for consumers between 0-200 kWh consumption
will not be increased in FY14. During phase III-IV, the government is committed
to reduce the remaining subsidies (on agriculture and consumption below
200Kwh) by 0.4% of GDP per year in FY15-16 to reach a maximum of 0.3% of
GDP. This means improved WAPDA/NTDC cashflows that will, in turn, bode well
for Hubco as it sold electricity to WAPDA/NTDC and as such will result in timely
receipts of CPP.
Structural reforms will further alleviate counter-party risk
Additionally, in order to achieve full cost recovery, besides ensuring improved
collection from nonpayers, the government would undertake cost-cutting and
efficiency measures in both generation and distribution companies. In order to
arrest circular debt accumulation, the period for NEPRA’s determination of the
base tariff will be reduced from 8–10 months to 90 days by the next
determination cycle. To overcome theft in the system, necessary changes in
legal framework would be enforced by Dec-2013 which would enhance
investigation, prosecution and penalties.
With current energy mix largely skewed towards cost fuel oil, the government
would encourage the conversion of fuel oil-based GENCOs and IPPs to coal-
based plants. Concrete steps would be taken to improve energy sector
governance and transparency. That said, the independence, accountability,
and administrative capacity of the regulatory body, NEPRA will be enhanced.
Besides, distribution companies (DISCOs) would be allowed to make
08
Source: IMF
Energy subsidies (as % of GDP)

0%
25%
50%
75%
100%
Hubco
Kapco
DatangInt.
YTLPower
ManilaElec.
HuanengP.
TataPower
Elec.Gen.
Tenaga
HuadianP.
commercial decisions on power allocations and implement differential outages
in areas with low recovery rate. Meanwhile, the boards of directors and
management DISCOs and the NTDC would be changed by end-2013. Besides
upgrading the transmission and distribution system, focus will be on the
rehabilitation of the generation plants. In this regard, the rehabilitation of
three plants is expected by Dec 2013 which would result into a recovery of
500MW along with 1-2% improvement in the efficiency. Successful
implementation of these structural reforms will significantly reduce the
receivable risk for the company, which in turn will improve inventors’
confidence in the Hubco’s sustainable higher dividend stream.
Robust contracts provide insulation from circular debt
Unlike other IPPs, Hubco is insulated against circular debt due to favorable
terms of its security contracts. Under the PPA, Hubco’s overdue receivable
from WAPDA carries a mark-up at SBP discount rate plus 2% (base project) and
from NTDC attracts a markup of 3 months KIBOR + 4.5% (Narowal project).
Meanwhile, the mark-up on payables to PSO stands at SBP discount rate + 2% as
per the Fuel Supply Agreement (FSA).
That said, while circular debt carries negative earnings implications for other
IPPs, Hubco earns spread income on its short-term borrowing due to favorable
credit terms with WAPDA and PSO. For instance, in Kapco’s case, overdue
receivables from WAPDA bring in penalty income equivalent to the SBP’s
discount rate plus 4% while the payables to PSO attract penal markup of T-Bill
plus 6%. Additionally, under the Implementation Agreement (IA), PSO’s
capability to supply fuel for the Hub Plant is guaranteed by the government.
The fuel supply guarantee is not available to the new IPPs under 2002 Power
Policy and as such overdue receivables cannot be financed from payables in
their case.
Average payout ratio of 101% in last 5 years
Investors concerns about the circular debt impact on Hubco’s payout capacity
are largely misplaced in the sense that despite liquidity constraints amid
receivable buildups, the company has been able to pay bulk of its earnings as
dividends. In fact, Hubco stands out among the domestic and regional utilities
with average DPS/EPS ratio of 101% during last five years. The counter has
airtight agreements that would lead to sovereign default if not adhered to.
Ideally, an IPP should payout all cash in the form of dividends after accounting
for working capital and debt servicing reserves. It is pertinent to mention that
the company has successfully completed two expansion projects (Narowal &
Laraib) without altering its dividend profile.
09
Avg. payout in last 5 yrs
Source: Reuters

A rare blend of value and growth
Value and growth are often quoted as the two most common investment styles.
Hubco is one of the rare investment cases which possess the characteristics of
both value and growth. Though growth in IPPs is constrained due to limits on
capacity enhancement, the widening gap in the country’s electricity demand
and supply allowed Hubco to pursue energy related investments. Meanwhile,
strong balance sheet coupled with a sound technical knowledge through its
sponsors favored Hubco in undertaking new energy projects. That said, in a bid
to add value to its shareholders, a new slogan ‘Growth through Energy’ was
adopted in 2006. With the monetization of an oil-fired 225MW (Narowal Power
Plant) and an 84MW hydroelectric power generating complex (Lariab Energy),
Hubco is now transformed into a broad based IPP from a single project utility.
Narowal Power Plant
PPA of Narowal was executed on Nov 20, 2008 and the plant achieved its COD
on April 22, 2011. Under the tariff structure (bases on 2002 power policy), the
Narowal project carries a guaranteed 15% IRR on 30% equity based on the
project cost of US$267mn (US$1.2mn/MW). The reference tariff at 60%
capacity factor stands at PRs15.6/kWh (or US Cents 18.6/kWh). Narowal
project contributed PRs1.2/share (15%) to FY13 earrings. In a bid to effectively
mange the working capital requirement, the management has recently decided
to de-merge Narowal Plant into a separate company subject to regulatory
approvals. Recall that in the case of Narowal, fuel supply is not covered by any
sovereign guarantee and Hubco is obliged to arrange requisite cash so as to
ensure annual contractual availability of 88%. Going forward, the company may
also issue shares of Narowal in Private Placement or IPO that would unlock its
value for Hubco’s shareholders.
Laraib Energy - Pakistan’s first hydropower IPP
In August 2008, Hubco acquired 75% controlling interest in Laraib Energy
Limited - an 84MW run of the river hydroelectric power generating complex.
The project achieved COD on March 23, 2013, ahead of the required COD of
June 1, 2013 as per PPA. Built under Build-Own-Operate-Transfer (BOOT) basis,
the project would be transferred to the government of AJ&K free of cost at the
end of a 25-year term. The PPA provides coverage against the hydrological risk
and ensures minimum guaranteed payment for fixed costs (debt servicing,
O&M, ROE & insurance) based on output of 470 GWH. The reference tariff at
Financial Closing stood at PRs6.8/KWh (US cents 8.5453/KWh) based on a total
project cost of US$215mn, debt equity ratio of 75:25 and US$ equity IRR of
17%. Under the PPA, tariff is subject to adjustments at COD. In FY13, Laraib
contributed PKR0.6/share to Hubco’s consolidated earnings. Due to lower
generation cost, Laraib is relatively insulated against circular debt. Hubco is
expected to start receiving dividend income form Laraib from FY14.
10

Currency depreciation remains a key upside risk
Pak Rupee, after showing strong weakness in FY13 (avg. decline of 9%),
continue to depict a dwindling trend against US dollar. In fact, the devaluation
phenomenon has become more severe in FY14 and rupee has depreciated by
almost 6.7% YTD against the greenback. Hubco’s reference tariff is indexed
with exchange rate semi annually based on preceding six month’s average
exchange rate. That said, currency depreciation does not put additional burden
on the cashflows, the rupee earnings in fact rise. Our discussion with money
market experts revealed that the PRs/US$ parity may reach 110 by end June
2014. In our model, we have assumed an average parity of 107. That said, we
see PKR/USD a key upside risk to earnings and valuation. As per our working, a
1% devaluation translates into a ~1% increase in earnings.
Coal conversion - fears over dividend cut unfounded
In a bid to reduce generation cost, Hubco recently signed an MoU with the
government to convert its RFO based plant to coal. Total Project cost is
estimated at about US$1.0bn with deemed equity of 25%. The conversion would
augment Hubco’s return profile amid higher IRR (17-20%) associated with coal
based power projects. Nonetheless, Hubco’s share price tumbled (down 15%
from high of PRs73 on Sep 06, 2013) amid renewed concerns about dividend
curtailment to finance the equity portion (20-30%) of the project cost.
Meanwhile, Hubco’s proposal to raise its authorized capital from PRs12bn to
PRs25bn raised fears of right issue. However, the company has put its plan to
increase the authorized capital on the backburner amid lukewarm progress on
the policy guidelines. Additionally, the execution of coal conversion project is
linked with the timely receipt of payments by WAPDA/NTDC and government's
ability to arrest circular debt accretion. We think that market’s concerns about
dividend cut are largely unfounded. While the recent settlement of circular
debt has improved the balance sheet position, Hubco can potentially offer
shares of Narowal/Laraib. Assuming 100% debt financing for the equity portion
and 17% IRR, the project’s NPV arrived at PRs6.6/share at 17.0% equity
discount rate.
11
FY14E PKR/US$ EPS DPS PO
101 9.0 8.6 75
103 9.1 8.7 76
105 9.3 8.9 77
Base Case 107 9.4 9.0 78
109 9.6 9.1 79
111 9.7 9.3 80
113 9.9 9.4 81
EPS & PO sensitivity to PKR/US$ assumption
Installed Capacity (MW) 1,200
Cost per MW (US$ mn) 1.2
Total Cost (US$ mn) 1,000
COD Jun-16
Equity Portion 25.0%
IRR 17.0%
Equity Portion (US$ mn) 250
Project Life (Years) 25
Leverage (x) 1.0
Interest Rate on Loan 14.0%
Annual Rupee dep. 3.0%
Annual US CPI 2.0%
CAPM 17.0%
NPV/share 6.6

Valuation
Since the expansion size of 309MW (Narowal + Laraib) is 25% of the current
capacity of 1200MW, the major portion of the company’s value is tagged with
its existing dividend stream. Keeping in view the fairly certain dividend stream
and a limited project life, we believe DDM is an ideal method to value HUBCO.
We have used an equity discount rate of 17.0% to discount future dividend
stream. This is based on a risk free rate of 12.8%, beta of 0.7 and an equity risk
premium of 6.0%. Ideally, a lower risk premium should be incorporated while
valuing IPPs due to the fact that these projects have been guaranteed a tariff
rate which has a built-in profit element and as such there is no significant risk
to earnings. However, due to the circular debt, we have used the benchmark
risk premium to value Hubco. The tariff and PCE are being indexed with annual
PRs/US$ depreciation of 3% and 2% US CPI. Our price objective for Hubco
arrives at PRs78/share - an upside potential of 26% from current levels.
12
RRR
14.0% 15.0% 16.0% 17.0% 18.0% 19.0% 20.0% 21.0%
0.5% 87 82 78 74 71 67 64 62
1.0% 89 84 79 75 72 68 65 63
1.5% 90 85 81 77 73 70 67 64
2.0% 92 87 82 78 74 71 68 65
2.5% 94 89 84 80 76 72 69 66
3.0% 96 91 86 81 77 74 70 67
3.5% 98 93 88 83 79 75 71 68
US CPI
RRR
14.0% 15.0% 16.0% 17.0% 18.0% 19.0% 20.0% 21.0%
1.5% 87 82 78 74 71 67 65 62
2.0% 89 84 80 76 72 69 66 63
2.5% 90 85 81 77 73 70 67 64
3.0% 92 87 82 78 74 71 68 65
3.5% 94 89 84 80 76 72 69 66
4.0% 96 91 86 81 77 73 70 67
4.5% 98 92 87 83 79 75 71 68
PRS/US$
Annual Rupee depreciation
1.5% 2.0% 2.5% 3.0% 3.5% 4.0% 4.5% 5.0%
0.5% 71 72 73 74 76 77 78 80
1.0% 72 73 74 76 77 78 80 81
1.5% 73 74 76 77 78 80 81 83
2.0% 74 76 77 78 80 81 83 85
2.5% 76 77 78 80 81 83 85 86
3.0% 77 79 80 82 83 85 86 88
3.5% 79 80 82 83 85 86 88 90
US CPI

Highly attractive in regional context
Hubco is by far the most attractive utility in the region and although one can
attribute some of the heavy discounts to local market dynamics, no other
justification can be given for the undervaluation. Again, the high quality of the
company’s earnings suggest that the stock should trade at a smaller discount
(owing to local market valuation gap to region) if not at a premium. We believe
that the investors must focus on the yield of 14-16% that the stock offers at
current levels. Not many stocks in the region offer such return opportunities
along with the guarantee and agreements that Hubco enjoys. Based on the
current price, Hubco’s remaining dividend stream offers a lucrative US$ IRR of
15.2%. The stock is attractive at 6.6x FY14E earnings, a FY14-16E DPS CAGR of
11% and a FY14 PEG ratio of 0.5x. On ROE, Hubco stands out amongst the
regional peer. A relatively higher PBV highlights the stock’s high payout ratio.
13
Company
Bloomberg
Ticker
Country
Mkt Cap
(US$ mn)
Price (LC)
Nov 5
Div Yield P/E (x) EV/EBITDA (x)
2014E 2015E 2014E 2015E 2014E 2015E
Hub Power HUBC PK Pakistan 672 62.4 14% 16% 6.6 5.8 5.0 4.7
Kot Addu Power KAPCO PK Pakistan 488 59.5 14% 15% 6.5 6.2 3.5 3.3
Huaneng Power 902 HK Hong Kong 13738 5.8 6% 7% 8.0 7.0 6.5 6.3
Electricity Generating EGCO TB Thailand 2090 124.0 5% 5% 9.3 9.2 14.5 17.0
Huadian Power 600027:CH China 3847 3.3 5% 5% 7.0 6.3 7.8 7.6
Datang Intl Power Gen 991 HK Hong Kong 8933 4.5 3% 4% 10.7 8.3 8.4 7.3
Manila Electric MER PM Philippines 8108 307.2 3% 3% 17.8 18.7 9.9 9.5
Tenaga Naisonal TNB MK Malaysia 16,735 9.4 3% 3% 11.8 11.2 6.0 5.5
Kepco 015760 KS Korea 17,186 28,400.0 2% 3% 9.7 6.9 6.7 6.0
Tata Power TPWR IN India 5,614 83.5 1% 1% 22.9 17.5 9.6 8.6
YTL Power YTLP MK Malaysia 4,071 1.9 1% 1% 12.1 11.2 7.9 7.3
Reliance Power RPWR IN India 3,505 77.5 0% 0% 21.6 17.4 21.9 14.7
Regional Median 3% 3% 11.3 10.2 8.1 7.5
Company
Bloomberg
Ticker
Country
Mkt Cap
(US$ mn)
Price (LC)
July 03
ROE P/Bv (x) PEG (x)
2014E 2015E 2014E 2015E 2014E 2014E
Hub Power HUBC PK Pakistan 672 62.4 33% 37% 2.2 2.1 0.5 545
Kot Addu Power KAPCO PK Pakistan 488 59.5 30% 30% 2.0 1.9 1.6 429
Huaneng Power 902 HK Hong Kong 13738 5.8 15% 16% 1.2 1.1 0.6 714
Electricity Generating EGCO TB Thailand 2090 124.0 10% 9% 0.9 0.8 12.4 710
Huadian Power 600027:CH China 3847 3.3 15% 15% 1.0 1.0 0.7 900
Datang Intl Power Gen 991 HK Hong Kong 8933 4.5 11% 13% 1.2 1.1 0.4 1056
Manila Electric MER PM Philippines 8108 307.2 22% 19% 4.0 3.6 -3.4 954
Tenaga Naisonal TNB MK Malaysia 16,735 9.4 11% 11% 1.3 1.2 2.1 964
Kepco 015760 KS Korea 17,186 28400.0 4% 5% 0.4 0.3 0.2 1,177
Tata Power TPWR IN India 5,614 83.5 7% 9% 1.6 1.5 0.7 1,305
YTL Power YTLP MK Malaysia 4,071 1.9 10% 10% 1.3 1.2 1.6 6,632
Reliance Power RPWR IN India 3,505 77.5 5% 6% 1.1 1.0 0.9 1,346
Regional Median 11% 10% 1.2 1.1 0.7 1,010
EV/kW
(US$)

EGCOTB
600027:CH
TNBMK
MERPM
991HK
015760KS
TPWRIN
902HK
HUBCPK
KAPCOPK
RPWRIN
0
250
500
750
1,000
1,250
1,500
1,750 2014E 2015E
TNBMK
015760KS
902HK
991HK
YTLPMK
600027:CH
TPWRIN
MERPM
RPWRIN
EGCOTB
HUBCPK
KAPCOPK
0.0
5.0
10.0
15.0
20.0
25.0 2014E 2015E
KAPCOPK
600027:CH
015760KS
902HK
991HK
EGCOTB
TNBMK
YTLPMK
RPWRIN
TPWRIN
MERPM
HUBCPK
0.0
5.0
10.0
15.0
20.0
25.0 2014E 2015E
KAPCOPK
902HK
EGCOTB
600027:CH
991HK
MERPM
TNBMK
015760KS
TPWRIN
YTLPMK
RPWRIN
HUBCPK
0%
5%
10%
15%
20%
2014E 2015E
KAPCOPK
MERPM
902HK
600027:CH
991HK
TNBMK
YTLPMK
EGCOTB
TPWRIN
RPWRIN
015760KS
HUBCPK
0%
10%
20%
30%
40%
2014E 2015E
Dividend Yield (%)
Source: Bloomberg, Reuters, FCEL Research
First Capital Equities Ltd 14
PE (x)
ROE (%)
PBV(x)
EV/EBITDA (x)
EV/kW (US$)
600027:CH
RPWRIN
991HK
902HK
YTLPMK
TNBMK
TPWRIN
KAPCOPK
MERPM
EGCOTB
015760KS
HUBCPK
0.0
1.0
2.0
3.0
4.0
5.0 2014E 2015E

Hub Power Company Limited
Income Statement Key Assumptions
Yr to Jun (PRs mn) 2012A 2013A 2014E 2015E 2016E Yr to Jun 2012A 2013A 2014E 2015E 2016E
Sales Revenue 174,712 165,862 168,168 177,851 179,054 Hub Plant Cap. (MW) 1,200 1,200 1,200 1,200 1,200
Cost of Sales 156,402 146,871 150,403 159,285 160,298 Narowal Cap.(MW) 225 225 225 225 225
Gross Profit 18,310 18,991 17,765 18,566 18,756 Hub Plant Gen. (GWh) 7,770 7,672 7,148 7,358 7,148
Operating Exp. 384 390 436 466 489 Narowal Gen.(GWh) 1,321 821 1,310 1,310 1,310
Operating Profit 17,927 18,602 17,329 18,100 18,266 Hub Plant LF (%) 74 73 68 70 68
Other Income 35 34 228 476 490 Narowal LF (%) 70 44 70 70 70
Other Charges - - - - - PRs/US$ parity 89.1 97.0 106.7 112.0 115.4
EBITDA 17,962 18,636 17,558 18,576 18,757 US CPI (%) 1.7 1.9 2.0 2.0 2.0
Depreciation 2,674 2,684 2,454 2,392 2,259 Sales (PRs/kwh) 19.3 19.5 19.9 20.5 21.2
EBIT 15,272 15,937 15,103 16,184 16,498 Ratio Analysis
Finance Cost 7,083 6,548 4,188 3,788 3,263 Yr to Jun 2012A 2013A 2014E 2015E 2016E
EBT 8,190 9,389 10,916 12,396 13,235 Performance (%)
Taxation - 2 - - - Sales growth 41.7 (5.1) 1.4 5.8 0.7
PAT 8,190 9,388 10,916 12,396 13,235 EBITDA growth 66.9 3.8 (5.8) 5.8 1.0
Balance Sheet EPS growth 51.0 14.6 16.3 13.6 6.8
Yr to Jun (PRs mn) 2012A 2013A 2014E 2015E 2016E EBITDA margin 10.3 11.2 10.4 10.4 10.5
Paid-up Capital 11,572 11,572 11,572 11,572 11,572 EBIT margin 8.7 9.6 9.0 9.1 9.2
Unapp. Profit 19,196 21,062 21,564 22,388 22,894 Pre tax margin 4.7 5.7 6.5 7.0 7.4
Shareholder's Funds 30,767 32,633 33,135 33,960 34,466 Net profit margin 4.7 5.7 6.5 7.0 7.4
Long Term Loans 21,728 19,365 13,281 10,052 7,313 ROA 3.9 9.5 11.7 14.7 17.6
Other Items 11 - - - - ROE 26.6 28.8 32.9 36.5 38.4
Current Liabilities 151,205 43,129 42,510 36,571 29,726 ROCE 27.0 28.4 30.0 33.9 36.4
Capital & Liabilities 207,817 99,313 92,904 84,361 75,094 Valuation (x)
Operating Assets 46,037 43,423 42,292 39,945 37,731 EV/Sales 0.7 0.5 0.5 0.5 0.5
Capital WIP 26 67 10 10 10 EV/EBITDA 6.6 4.6 5.0 4.7 4.5
Other Assets 4,714 4,770 4,770 4,770 4,770 EV/Invested Capital 1.6 2.0 2.0 1.9 1.9
Current Assets 156,543 33,985 35,885 33,555 27,925 PBV 2.3 2.2 2.2 2.1 2.1
Cash & Cash Equiv. 497 17,069 9,946 6,081 4,658 PE 8.8 7.7 6.6 5.8 5.5
Total Assets 207,817 99,313 92,903 84,361 75,093 Earnings Yield (%) 11.3 13.0 15.1 17.2 18.3
Per share data Dividend Yield (%) 9.6 12.8 14.4 16.0 17.6
Yr to Jun (PRs) 2012A 2013A 2014E 2015E 2016E Cash Earnings Yield (%) 15.1 16.7 18.5 20.5 21.5
Share capital (mn) 1,157 1,157 1,157 1,157 1,157 Solvency (%)
Reported EPS 7.1 8.1 9.4 10.7 11.4 Net debt to equity 153.4 41.0 44.8 44.4 37.4
Dividend 6.0 8.0 9.0 10.0 11.0 Net debt to total assets 22.7 13.5 16.0 17.9 17.2
Cash Earnings 9.4 10.4 11.6 12.8 13.4 Interest Cover (x) 2.2 2.4 3.6 4.3 5.1
Book value 26.6 28.2 28.6 29.3 29.8 Current ratio (x) 1.0 1.2 1.1 1.1 1.1
PE Chart Shareholding Pattern
Jul 08 - Nov 13 End-Jun 2013
-
10
20
30
40
50
60
70
80
Jul-08
Nov-08
Mar-09
Jul-09
Nov-09
Mar-10
Jul-10
Nov-10
Mar-11
Jul-11
Nov-11
Mar-12
Jul-12
Nov-12
Mar-13
Jul-13
Nov-13
PRs
3.0x
5.0x
7.0x
9.0x
DH
Fertilizer,
11%
Allied Bank,
10%
Fauji
Found., 9%
Dawood
Hercules,
3%
National
Bank, 5%
Others,
63%

-
2.0
4.0
6.0
8.0
10.0
12.0
14.0
FY08A
FY09A
FY10A
FY11A
FY12A
FY13A
FY14E
FY15E
FY16E
Earnings
Dividend
Cash Earnings
Source: Company accounts, FCEL ResearchSource: Company accounts, FCEL Research
-
50
100
150
200
250
300
350
400
FY08A
FY09A
FY10A
FY11A
FY12A
FY13A
FY14E
FY15E
FY16E
-
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0Days receivables
Recievable t/o
5.0
7.0
9.0
11.0
13.0
15.0
FY12A FY13A FY14E FY15E FY16E
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%PAT (PRs bn) ROE
ROA ROCE
60
80
100
120
140
160
180
200
4%
5%
6%
7%
8%
9%
10%
11%
12%
Revenues EBITDA margin
EBIT margin NP margin
500
700
900
1,100
1,300
1,500
40%
50%
60%
70%
80%Generation (GWh)
Load factor (%)
6,000
6,500
7,000
7,500
8,000
40%
50%
60%
70%
80%Generation (GWh)
Load factor (%)
Generation & Load Factor (Hub Plant)
Source: Company accounts, FCEL Research
Generation & Load Factor (Narowal Plant)
Operating performance
Receivables velocity
Return profile
Payout pattern (PRs/share)

About the Company
Hub Power Company Limited (Hubco) is Pakistan’s first independent thermal
power plant. Structured as a complex build-operate-own project, it comprises
of four 323MW oil fired generation units. The first unit was commissioned in
July 1996 and the entire capacity was on-line by March, 1997. The project cost
was US$1.6bn, excluding a stand-by credit line of US$250mn, which was not
used. International Power of UK and Xenel of Saudi Arabia were the major
sponsors of the project. Hubco was hailed as a landmark in the field of
infrastructure finance and its convoluted set of documentations laid the
foundation for the 1994 Private Power Policy. It was declared as the project
finance ‘Deal of the Year’ by Euromoney Institutional Investor in 1994.
Thereafter in 1999, Hubco received ‘Deal of the Decade’ title by the same
magazine.
In October 2011, Xenel International divested its entire shareholding (12.1% or
140.3mn shares) in Hubco with total value of US$60mn (PRs37/share) to
selected investors. In March 2012, International Power entered into share sale
& purchase agreements with Dawood Group and Allied Bank Limited to sell its
entire stake (17.4% or 201.8mn shares) a price of PRs31/share. Considering the
rising demand-supply gap of electricity, Hubco has successfully completed two
expansion projects, first, a 220-MW thermal power plant at Narowal in Punjab,
second, an 84-MW hydropower project built at 8 kilometers downstream from
Mangla Dam.
Power Purchase Agreement (PPA)
In theory, the tariff structure of IPPs in Pakistan is such that its shareholders
are guaranteed a fixed return, assuming they meet certain conditions set in
power purchase agreement (PPA) with WAPDA. Under the PPA, WAPDA has the
right to purchase electricity from HUBCO up to the Net Capacity of the Plant.
WAPDA has an obligation to pay HUBCO for Net Capacity made available for
electrical energy delivered in accordance with a tariff formula specified in the
PPA.
The tariff has two parts a) Capacity Payments (Capacity Purchase Price - CPP)
and b) Energy Payments (Energy Purchase Price - EPP).
Tariff = Capacity Payments (CPP) + Energy Payments (EPP)
Capacity Payments are the fixed component of tariff with further two
components: Escalable and Non- Escalable. Escalable portion covers the fixed
cost and an implicit return (shareholder’s return and fixed Operational &
Maintenance costs) whereas non-escalable portion covers the principal
17

payment and interest payment on debt.
Energy Payments are the variable tariff component, designed to cover fuel and
variable O&M costs. Interestingly, if WAPDA decreases its electricity off-take
from HUBCO, the company’s fixed costs, shareholder’s return and principal &
interest payments would still be covered through the CPP, thereby, ensuring
the stable dividend stream for the investors. That said, from a shareholder’s
perspective, the most important tariff component is the escalable portion of
the CPP, as it contains investors’ return. This component, fixed in real US$
terms, is indexed to US CPI and Rupee depreciation, thereby, allowing HUBCO
to offer a real dollar return to its shareholders.
Dispute with WAPDA – Settlement Agreement
In April 1998, the government initiated a dispute with the IPPs on the pretext
that they were charging high tariff rates and so their tariff rates cannot be
accepted by the government. Finally in December 2000, the Musharaf
government reached an agreement with Hubco. At the time of implementation,
the new agreement, termed as ‘Settlement Agreement’, promised a real IRR of
12% instead of 17% committed in the old agreement. This means there is still a
hedge against rupee devaluation. Following the signing of ‘Settlement
Agreement’, Hubco gave estimates of the Cash flow available for dividend to
share holders. It is pertinent to mention that these cashflows are in real US$
terms and are subject to indexation against US CPI and Rupee/Dollar parity.
The following table provides the cash flow for dividend as distributed by the
company after the settlement agreement.
18
Free Cash Flows (Real) as per settlement agreement
Year US$ mn US$/share Year US$ mn US$/share
2001 28.57 0.02 2015 57.27 0.05
2002 88.90 0.08 2016 60.65 0.05
2003 82.51 0.07 2017 62.61 0.05
2004 72.22 0.06 2018 62.57 0.05
2005 62.36 0.05 2019 62.46 0.05
2006 80.76 0.07 2020 62.19 0.05
2007 69.24 0.06 2021 62.43 0.05
2008 42.93 0.04 2022 65.65 0.06
2009 43.85 0.04 2023 72.79 0.06
2010 50.26 0.04 2024 77.68 0.07
2011 56.91 0.05 2025 82.38 0.07
2012 58.54 0.05 2026 89.16 0.08
2013 61.40 0.05 2027 144.53 0.12
2014 59.25 0.05

Power sector synopsis
Power sector in Pakistan comprises of Generation Companies, Distribution
companies and Transmission Companies. Initially, two vertically integrated
utilities namely Water and Power Development Authority (WAPDA) and Karachi
Electric Supply Company (KESC) were in place. WAPDA had the mandate to
supply electricity throughout Pakistan, except Karachi which is still catered by
KESC. Independent Power Producers (IPPs) supply power to their sole client
WAPDA. Under its Strategic Plan of 1992, the government decided to
restructure the entire power sector in the country through a) de-regulation of
power sector, b) restructuring of WAPDA, c) promotion of IPPs and d)
privatization of select corporate entities. In 1997, an autonomous regulatory
body, NEPRA, was formed under an act of the parliament. Later in 1998, the
vertically integrated power wing of WAPDA was unbundled into three
generation (GENCOs), eight distribution (DISCOs) and one transmission and
dispatch (NTDC) companies. To promote private investment and overcome load
shedding, the government introduced a Power Policy in 1994 and established
Private Power and Infrastructure Board (PPIB) to facilitate IPPs. In 2005, the
government privatized KESC.
19
W
A
P
D
A
Hydel
G
E
N
C
O
S
GENCO-I
GENCO-II
GENCO-III
GENCO-IV
IPPs
NTDC
D
I
S
C
O
S
FESCO
GEPCO
HESCO
IESCO
LESCO
MEPCO
PESCO
QESCO
KESC
Evolution of Power Sector
1947 60MW capacity
1952 GOP acquired KESC
1958 WPDA was formed
1959 119MW capacity
1965 663MW capacity
1970 1,331MW capacity
1988 Hubco LOI issued
1988 World Bank approved the
US$150mn PSEDP-I
1993 Energy task force formed
US$250mn PSEDP-II
1994 Power Policy 1994
1996 PPIB formed
1997 NEPRA established
1997 Hubco COD achieved
1997 Disintegration of WAPDA
US$150mn PSEDP-1
2002 Power Policy 2002
2005 19,400 capacity
2006 KESC privatized

Single buyer model
In Pakistan’s power sector, a ‘Single buyer model’ is currently in place where
the Central Power Purchasing Agency (CPPA) is authorized to procure power
from GENCOs, Hydel and IPPs and deliver it to DISCOs in accordance with the
respective demand through 500 kV, 220 kV & 132kV network. Going forward,
the government plans to develop wholesale markets by introducing multiple
buyers and sellers.
Market size and composition
As of FY12, the total installed capacity (including hydro, thermal and nuclear)
in Pakistan stood at 22,797 MW. Out of total power generation capacity of the
country, WAPDA owns 49%, IPPs 37%, KESC 10% while Pakistan Atomic Energy
Commissions (PAEC) contributes 3% of energy. Nonetheless, the generation
companies were unable to purchase expensive fuel oil amid liquidity
constraints and the available capacity at any given time was less than 14,000
MW during FY12. That said, the gap between demand and supply reached
above 6,000 MW and remained between 4-5 GW during most of the year,
thereby, causing 8–10 hours of load shedding in the system.
The country’s generating infrastructure relies primarily on hydel and thermal
energy, which accounted for 94% of the total generation in FY12. Meanwhile,
the generation mix is more skewed towards thermal power generation which
contributed 64% in FY12 whereas the share of hydel was 30%.
20
FY07 FY08 FY09 FY10 FY11 FY12
Peak demand load 15,838 17,398 17,852 18,467 18,521 18,940
Peak generation load 13,645 14,151 14,055 14,309 14,468 15,062
Peak load management 2,645 5,454 7,018 6,408 6,151 8,393
Peak demand (%) 16.7% 31.3% 39.3% 34.7% 33.2% 44.3%
Trend in Peak Electricity Demand (MW)
WAPDA IPPs
KESC PAEC
Capacity breakup
Source: Energy Year Book 2012
Oil Hydel Gas
Nuclear Coal
Supply by source
Supply by Cost
Oil Hydel Gas
Others

As per NTDC, the annual electricity demand growth rate is projected to hover
around 5-6%. By 2015, the overall national demand at peak hours is projected
at 26,000 MW. The following table shows projects about supply and demand in
NTDC.
21
Planned Generation
Capability as per NTDC (MW)
NTDC projected
demand growth rate
NTDC projected
demand during peak
hours (MW)
Surplus/(Deficit)
(MW)
FY14 21,668 7.40% 25,918 (4,250)
FY15 30,510 7.70% 28,029 2,481
FY16 20,352 5.50% 24,018 (3,666)
FY17 24,075 5.50% 25,352 (1,277)
Source: NEPRA
Projected Supply & Demand in NTDC system
Source: NEPRA
Average cost of units delivered to DISCOs (FY12)
0
5,000
10,000
15,000
20,000
25,000
PEPCO area KESC area
Source: NEPRA
Maximum electricity demand in country (MW)
0
5
10
15
20
25
30
35
40
Hydel
Coal
HSD
RFO
Gas
Nuclear
Import
Mixed
Wind
0
2
4
6
8
10
12
14
16
18
20% share Cost (PRs/KWh)

0%
20%
40%
60%
80%
100%
Thermal Hydel Nuclear Imported
0
5
10
15
20
25
30
Gas RFO HSD Coal Overall Cost
Source: Energy Year Book
Electricity generation by type (%)
Source: NEPRA
GENCOs’ cost of fuel (PRs/kWh)
0%
20%
40%
60%
80%
100%
FY07 FY08 FY09 FY10 FY11 FY12
Gas Fumace Oil Diesel Oil Coal
Fuel Consumption for Thermal Power Generation

20.00%
20.25%
20.50%
20.75%
21.00%
21.25%
21.50%
0%
10%
20%
30%
40%
50%
Domestic Commercial Industrial Agriculture
Public Light Bulk Supply Traction
0
250
500
750
1000
1250
1500
1750
Kapco
Hubco
UchPower
Rousch
PakGen
Lalpir
Liberty
Orient
Saif
EngroEnergy
Atlas
Halmore
Sapphire
Narowal
Liberty
NishatPower
NishatChunian
Foundation
Attock
FaujiKabirwala
Habibullah
GulAhmed
SECPL
JapanPower
KohinoorEnergy
TapalEnergy
SabaPower
Laraib
AlternEnergy
Source: PPIB
Commissioned IPPs (MW)
Source: NTDC
Transmission & Distribution (T&D) losses (%)
Electricity consumption by group (%)
Already commissioned 2,614
2013 404
2014 163
2016 134
2017 247
2018 230
2020 3,800
IPPs: Act./Exp. capacity additions
Source: PPIB

BOX - Salient Features of 1994 Policy and Package of Incentives for Private Sector Power Generation
 An indicative Bulk Tariff of US cents 6.5/kWh* (to be paid in Rupees) for sale of electricity to WAPDA/KESC,
based on annual plant factor of 60%.
 A premium of US cents 0.25/kWh based on energy sold during the first 10 years of project operations was
allowed to projects above 100 MW which were commissioned by end 1997.
 Sponsors had to meet the following application procedure for bulk power tariffs:
 The average tariff for the first ten years does not exceed US cents 6.5/kWh
 The annual base tariff does not exceed US cents 8.33/kWh in the first year and US cents 6.66/kWh in
any subsequent year; and
 The levelized tariff for the life of the project does not exceed US cents 5.91/kWh (calculated based
on a 10% discount rate).
 The actual payment of tariff comprised two components, i.e. a “fixed” Capacity Price and a “variable” Energy
Price. As the capacity price is assured as per terms of the Concession Agreements, there was no guarantee for
purchase of a specified amount of power.
 The capacity payment was paid on a monthly basis (Rupees/kW/month) whether the plant generated
and sold power or not, provided the plant was available to generate and sell electricity. It covered
debt service, fixed operation and maintenance cost, insurance expenses and return on equity. A
portion of the capacity fee was fixed throughout the contract life and another portion was subject to
escalation for US and Pakistan inflation and exchange rate changes. For purpose of allocating the
capacity fee into a per kWh basis (e.g. for determining the average tariff for any year), a plant load
factor or utilization rate of 60% was assumed, independent of the actual plant utilization rate.
 The energy price was a variable amount equal to a US$/kWh variable operation and maintenance
component and a pass-through fuel cost component (subject to a maximum guaranteed heat rate/
kWh or alternatively, a minimum fuel conversion efficiency rate to electricity) times the actual
number of kWh sold during each month. The variable O&M cost was also subject to escalation. There
is no guaranteed minimum amount of electricity to be purchased by WAPDA/KESC per month.
 Fiscal Incentives consisting of: exemption from corporate income tax, customs duties, sales tax, and other
surcharges on imported equipment.
 Standardized Security Package which includes a model Implementation Agreement, Power Purchase
Agreement and Fuel Supply Agreement.
 Creation of a Private Power and Infrastructure Board (PPIB), to facilitate a “one stop” processing of IPP
proposals.
 Financial incentives to facilitate the creation of a corporate securities market in the country, including
permission for power generation companies to issue corporate bonds and shares at discounted prices, and
establishment of an Independent Rating Agency.
*The bulk tariff was later reduced to US cents 6.1/kWh with the elimination of the foreign exchange risk
insurance scheme.

BOX - Salient Features of 2002 Policy
 Invitation of Tariff bids through International Competitive Bidding (ICB)
 Unsolicited bids would be welcomed to develop raw sites (without already prepared feasibility study).
 'Hydropower' projects on BOOT basis; 'Thermal' projects on BOO basis
 Long-term Security Package including Implementation and Power Purchase Agreements, and Water Use
License (for Hydropower Projects)
 Two-part tariff structure consisting of fixed 'Capacity' and variable 'Energy' components. Capacity Payments to
cover fixed costs, i.e. Fixed O&M, Debt Servicing, and Return on Equity (ROE); independent of project/energy
dispatch.
 5% concessionary Customs/Import Duty on Plant & Equipment not manufactured locally. No levy of Sales Tax
on such plant, machinery, and equipment.
 Exemption from corporate Income Tax and Turnover Tax. Exemption from Withholding Tax on imports
 100% foreign ownership allowed with minimum 20% equity contribution requirements
 Sponsors can divest equity after six (6) years of project commissioning
 Conversion of Pak Rupee and remittance of Foreign Exchange for project-related payments ensured by GOP
 Performance obligations of Power Purchaser and Provinces/AJK guaranteed by GOP
 The guarantee is also available to projects up to 50 MW; provided the Power Purchaser is a Federal entity and
tariff is approved by NEPRA
 Responsibility of power transmission facilities rests with the Power Purchaser
 Continuity of payments in case of Political Force Majeure
 Pass-through of additional taxes/costs incurred due to Change in Law. Adjustments in Tariff for changes in
Benchmark Interest Rates (LIBOR/KIBOR). Compensation Payment in case of project termination due to GOP
default
 Foreign component of fixed and variable O&M Cost to be indexed with US CPI
 Term of concession period for hydropower projects is up to 50 years
 For hydropower projects, Hydrological Risk to be borne entirely by the Power Purchaser (WAPDA/NTDC/KESC)
 IPPs are not exposed to impact of exchange rate variation for US Dollar, Euro, Pound Sterling and Japanese
Yen up to Commercial Operation Date (COD); EPC contracts denominated in these four currencies besides Pak
Rupee are thus accepted by NEPRA
 At COD, Capital Cost to be fixed in US dollars based on any of the four currencies of EPC contract accepted by
NEPRA at the time of tariff determination, sources of financing, payments and actual exchange rates against
rupee for these currencies
 Foreign debt may be obtained by IPP in US Dollar, Pound Sterling, Euro and Yen; periodic adjustments in the
Debt Service Component of tariff will be made to cover exchange rate variation for these currencies
 For foreign O&M costs, adjustment for exchange rate variations between Pak Rupee and US Dollar have been
allowed
 Performance Guarantees to PPIB/GOP and Letters of Credit in favor of Power Purchaser to be accepted in
Euro, Pound Sterling and Yen in addition to US Dollar
 ROE will be adjusted for variations in US Dollar / Pak Rupee rates
 The GOP does not guarantee payment obligations of the Fuel Supplier; however, nation-wide shortage of fuel
oil would be recognized as a Pakistan Political Force Majeure Event
Source: PPIB

Box: How are Power Tariffs Determined?
Keeping in view the recent public reaction to tariff changes, we find it useful to provide an overview of the
determination of tariffs in the power sector. In order to understand electricity tariffs, consider the three main
stages in the power supply chain: (i) generation; (ii) transmission; and (iii) distribution. Electricity tariffs paid by
consumers are essentially a sum of production costs incurred and a fixed rate of return (margin) for firms at each
stage. These are approved by the power sector regulator, the National Electric Power Regulatory Authority
(NEPRA). At the end of the supply-chain (distribution), the government provides a subsidy to ensure uniform tariffs
across the country (PEPCO system), and notifies the final consumer tariff. The following provides a generalized
overview of this process:
Generation
Power plants that produce electricity (e.g., IPPs, private; and GENCOs, Wapda Hydel, etc., public), have Power
Purchase Agreements (PPAs) with a single purchaser, the National Transmission and Dispatch Company (NTDC).
This PPA specifies a two-part tariff structure which includes (i) Capacity Charge: to cover the fixed costs of
maintaining power plant capacity (e.g., operating and maintenance expenses (O&M), debt servicing, and return on
equity, etc.) that are to be paid regardless of dispatch; and (ii) Energy Charge: to cover variable costs, mainly fuel
(based on a benchmark for fuel prices by NEPRA), and variable O&M costs, that depend on the amount of
electricity actually sold. Fuel costs above or below the NEPRA benchmark are passed onto consumers as Fuel
Prices Adjustments (FPAs) (see Distribution below).
Transmission
NTDC acts as an intermediary: it purchases power from generation companies to sell it onwards to distribution
companies (DISCOs). For providing this service, it receives a Transfer Charge. This too includes a fixed component
(which depends on a particular DISCO’s maximum power demand during a billing period); and a variable charge
which is the average price of electricity procured from the generation companies (adjusted for NEPRA approved
power losses incurred during transmission).
Distribution
Each DISCO has a separate tariff approved by NEPRA. This is because in addition to the cost of power procured
from NTDC, it includes a Distribution Margin. This margin covers the costs associated with use of the DISCO’s
infrastructure (e.g., O&M expenses, depreciation, return on assets, etc.), and an adjustment for power losses
incurred during distribution. Since these losses vary widely across DISCOs, this would mean that consumer tariffs
too would vary across the country. However, in order to ensure uniform consumer tariffs across the PEPCO system,
at this stage the government provides an Inter-Disco Tariff Differential Subsidy (TDS). Therefore, while DISCO
tariffs are determined by NEPRA; the rates that consumers pay are notified by the government and were most
recently revised in October 2013.
Fuel Price Adjustments (FPAs)
In addition, consumer tariffs are adjusted monthly by NEPRA for variation in generation fuel costs, against
approved benchmarks through Fuel Price Adjustments (FPAs). These can be driven by variation in the actual fuel
mix versus NEPRA’s reference mix (e.g., gas shortages that force power plants to substitute gas with more costly
High Speed Diesel); and/or changes in fuel prices on global markets (e.g., furnace oil). Either of these can
automatically increase (or decrease) generation costs, and is passed on to consumers through FPAs. These charges
appear on consumers’ electricity bills separately based on units consumed in the previous month. It was the pass-
through of these adjustments that experienced delays during FY12.
Source: SBP

Notes
27

Analyst Certification
All of the views expressed in this report accurately reflect the personal views
of the responsible analyst(s) about any and all of the subject securities or issu-
ers. No part of the compensation of the responsible analyst(s) named herein is,
or will be, directly or indirectly, related to the specific recommendations or
views expressed by the responsible analyst(s) in this report.
Disclaimer
This information and opinion contained in this report have been complied by
our research department from sources believed by it to be reliable and in good
faith, but no representation or warranty, express or implied, is made as to
their accuracy, completeness or correctness. All opinions and estimates con-
tained in the document constitute the department’s judgment as of the date
of this document and are subject to change without notice and are provided in
good faith but without legal responsibility.
This report is not, and should not be construed as, an offer to sell or a solicita-
tion of an offer to buy any securities. First Capital Equities Limited (the com-
pany) or persons connected with it may from time to time have an investment
banking or other relationship, including but not limited to, the participation or
investment in commercial banking transactions (including loans) with some or
all of the issuers mentioned therein, either for their own account or the ac-
count of their customers. Persons connected with the company may provide or
have provided corporate finance and other services to the issuer of the securi-
ties mentioned herein, including the issuance of options on securities men-
tioned herein or any related investment and may make a purchase and/or sale,
or offer to make a purchase and/or sale of the securities or any related invest-
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This report may contain forward looking statements which are often but not
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Exchange rate fluctuations may affect the return to investors. Neither the
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28

Pakistan Contact Information
Mian Ehsan-ul-Huq (CEO) ceo@firstcapital.com.pk
Pakistan Research Team
Faraz Farooq faraz.farooq@firstcapital.com.pk
Abrar Hussain abrar.hussain@firstcapital.com.pk
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Hayat Khan hayatkhan@firstcapital.com.pk
Pakistan Sales Team
Farooq Habib (COO) farooq.habib@firstcapital.com.pk
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25 West 45th Street
New York, NY 10036 USA
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