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Vietnam Power Sector

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Vietnam Power Sector

  1. 1. April 2, 2014 THIS REPORT IS PREPARED IN ASSOCIATION WITH VNDIRECT SECURITIES CORPORATION. PLEASE SEE DISCLAIMER AND IMPORTANT NOTICES APPEARING AT THE END OF THIS DOCUMENT. IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE ALSO PROVIDED AT THE END OF THIS REPORT. Designed by Eight, Powered by EFA VIETNAM POWER Hungry for power investments Electricity demand is growing at about 15% per year in Vietnam. Industry-wide reforms should lead to more favourable power purchase agreements (PPAs) for the independent power producers (IPPs) in Vietnam who are currently paid only 5¢/kwh vs. 8¢/kwh in Thailand. Figure 1: Electricity prices in Vietnam (2008=100) 80 90 100 110 120 130 140 150 160 170 2008 2009 2010 2011 2012 2013 SOURCES: CIMB, EVN We are Overweight the power sector because growing demand and deregulation should lead to more favourable PPAs for the IPPs. VSH is our top pick. Its low costs make it one of the biggest winners from deregulation. Robust energy demand prompts reforms Vietnam’s electricity usage will increase from 120Twh in 2014 to 695Twh in 2030, but the government needs US$123bn to build this new generating capacity, so it plans to rely on private sector and foreign investment. The industry's lack of transparency had discouraged those investors in the past, so industry-wide reforms, including electricity price liberalisation, are being implemented. Power price liberalisation Vietnam’s complex system of subsidies in its power industry resulted in losses of US$1bn for Electricity Vietnam (EVN), the SOE electricity distribution monopoly, dampened profits at the SOE coal and gas companies (that sell to generators at below-market prices), and retail electricity prices more than 60% below those in other Asean countries in 2009. Subsidies are now being eliminated. Retail electricity prices have risen by about 10%/year since 2009 (so EVN is no longer loss making), and are set to rise another 22% by 2015, the prices IPPs are paid for electricity are being liberalised – we expect fair market pricing within five years while subsidies on gas and coal input prices are set to evaporate because Vietnam will soon need to import both of these commodities. Hydropower generators benefit most from reforms Hydropower generators have the lowest costs, so they are coerced to sell their electricity at the lowest prices in order to cross-subsidise the coal- and gas-fired generators. Hydropower generators will benefit the most when prices are liberalised. Notes from the Field ————————————————————————————————————————— NGUYEN Xuan Huy T (84) 90 912 3880 E nguyen.xuanhuy@cimb.com ‘‘‘‘ Vietnam is selling electricity at a low price, compared with the production cost.” – Bui Van Thach, Vice chairman of Economic Centre Highlighted Companies VSH: Vinh Son Song Hinh Hydro Power VSH has the lowest production costs of any listed power company in Vietnam. About half its competitive advantage stems from its low depreciation costs. That low cost structure makes VSH one of the companies set to benefit the most from the deregulation of Vietnam’s electricity industry. PPC: Pha Lai Thermal Power PPC is a coal-fired generator which currently enjoys a 10% subsidy on the coal it purchases from Vietnam’s coal mining SOE (Vinacomin). The company has a 1x D/E ratio, and all of its debt is yen-denominated so PPC’s earnings and share price performance are closely linked to movements in the JPY exchange rate. REE: Refrigeration Electrical Engineering REE is a conglomerate whose core business is air conditioning manufacture (for home and industrial users) and installation (for industrial users). The company also owns several office buildings it leases and has been investing heavily in the utility sector recently. Currently about half of REE’s assets are comprised of investments in 14 utility and coal mining companies, including a 22% stake in PPC.
  2. 2. POWER April 2, 2014 2 Figure 2: Electricity generators' FY12 ratios Market Cap (US$mn) ASP Production cost Gross margin Net margin ROE ROA P/E P/B Debt/equity (%) Hydro power producers VSH VN Equity 167 351 203 53 70 10 7 16 1 33 TMP VN Equity 63 474 307 54 28 17 10 7 1 48 TBC VN Equity 56 522 343 56 50 15 15 8 1 1 SJD VN Equity 46 780 322 59 45 26 15 5 1 41 GHC VN Equity 15 923 248 73 52 49 18 4 2 137 DRL VN Equity 14 814 290 64 59 31 28 9 3 0 Average 60 51 25 16 8 2 43 Coal power producers PPC VN Equity 359 832 764 11 12 14 4 5 1 167 BTP VN Equity 45 1,411 1,060 14 9 15 6 7 1 85 NBP VN Equity 12 1,083 1,034 12 5 14 8 8 1 0 Average 12 9 14 6 7 1 84 Gas power producer NT2 VN Equity 89 1,172 1,037 12 0 0 0 253 1 336 SOURCES: CIMB, COMPANY REPORTS We prefer hydropower to coal- and gas-fired generators for the following reasons: 1) Hydropower companies have lower production costs than the coal and gas power companies. Furthermore, depreciation makes up 50% of their costs, versus about 18% for the gas- and coal-fired generators. 2) Gas- and coal-based producers currently enjoy subsidies for their input natural gas and coal, but those subsidies will eventually be phased out as a by-product of the on-going liberalisation of Vietnam’s power industry. 3) In the run-up to full electricity price liberalisation, EVN is likely to continue paying very low prices to hydropower companies for the electricity they generate. One consequence of this is less-than-optimal utilisation rates for some coal-fired generators, further exacerbating their high costs per unit of electricity generated. 4) Hydropower companies should benefit the most from electricity price liberalisation because the prices they are currently being paid for the electricity they generate are the furthest below fair market prices (EVN’s rationale is that hydro generators’ marginal costs are low).
  3. 3. Power April 2, 2014 3 1. BACKGROUND 1.1 Soaring demand leads to brownouts in the dry season Vietnam‘s electricity demand grew 14% CAGR over 2000-13, and is expected to continue growing at a slightly higher pace over 2014-20. Figure 3: Vietnam's electricity demand 0 100,000 200,000 300,000 400,000 500,000 600,000 700,000 800,000 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 2026 2027 2028 2029 2030 Mwh SOURCES: CIMB, EVN This growing electricity demand is closely tied to its GDP growth, as one would expect. From 2000 to 2013, electricity demand grew at about two times the GDP growth, on average. Figure 4: Electricity and GDP growth 0% 2% 4% 6% 8% 10% 12% 14% 16% 18% 20% 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 GDP growth Electricity demand growth SOURCES: CIMB, WORLD BANK, EVN Industrial demand accounts for half of Vietnam’s electricity usage, and grew 17% CAGR over 2000-2010. This is followed by residential usage, which accounts for nearly 40% of the demand, with a CAGR of 11% over 2000-2010. Going forward industrial usage will continue to be driven by the on-going build-out of Vietnam’s industrial base and the continued flood of FDI into the country, while residential demand will be driven by urbanisation (only 30% of Vietnam’s citizens live in its major cities), and by the emerging middle classes’ hunger for a wide variety of white goods such as air conditioners, electric cookers and microwaves (LPG cooking is still widespread in Vietnam). Table of Contents 1. BACKGROUND p.3 2. OUTLOOK p.9 3. RISKS p.12 4. VALUATION & RECOMMENDATION p.13 5. APPENDIX p.14 ‘‘‘‘ Vietnam cannot sell electricity [priced this low] forever.” – Bui Van Thach, Vice chairman of Economic Centre
  4. 4. Power April 2, 2014 4 Figure 5: Consumption breakdown 0 10 20 30 40 50 60 70 80 90 2000 2010 Twh Industry& construction Residence & administration Commerce, hotels & others Agriculture, forestry& aquaculture SOURCES: CIMB, EVN The robust demand growth described above has caused brownouts during Vietnam’s dry season (which lasts for half of the year), because nearly half of the country’s electricity is generated from hydropower. These brownouts primarily affect the country's domestic manufacturers, whose production costs are inflated by the need to increase working hours and to use costly backup generators. Vietnam is at risk of losing its competitive advantage as a low-cost production base if this situation worsens. Finally, we note that Vietnam imports about 2% of its electricity from China, but this is not due to the lack of domestic generating capacity discussed above. It is because the cost of building an electricity grid in certain remote areas of the country is uneconomical compared to the cost of importing electricity from China to those regions. Figure 6: Power production break down 43.9% 34.5% 18.9% 2.2% 0.1% 0.4% Hydro power Gas turbin Coal fired Import FO oil fired Others SOURCES: CIMB, EVNNLDC 1.2 Two-thirds of Vietnam’s electricity is generated by EVN EVN and its subsidiaries generate 67% of Vietnam’s electricity, followed by PetroVietnam (12%), and Vinacomin (5%). With over 80% of Vietnam’s electricity generated by these three SOEs, the private sector only accounts for a small proportion of capacity. Foreign operators generate 9% of Vietnam’s electricity and the domestic private sector generates just 6% because the lack of price transparency for electricity discourages private and foreign investors from participating in the industry.
  5. 5. Power April 2, 2014 5 To make matters worse, EVN also does not want to build more generating capacity because it only makes about a 1% ROE on its power projects – so the company has been preoccupied with non-core businesses in recent years including banking, insurance and telecommunications. Figure 7: Breakdown of power suppliers 50.7% 17.0% 12.3% 4.7% 9.0% 6.2% EVN EVN Jsc Petro Vietnam Vinacomin Foreign developer Local developer SOURCES: CIMB, EVN 1.3 Massive investments required Vietnam’s government plans to increase the country’s electricity generation capacity from 22,000MW to 75,000MW by 2020 (CAGR of 13%) and to 146,000MW by 2030 (CAGR of 7% for 2020-30). It also plans to reduce Vietnam’s dependence on hydropower, which is a cheap but unstable source of electricity, and to increase the proportion of electricity generated from gas and coal, which are stable sources of electricity, but this means average production costs will increase over time. According to Vietnam’s master development plan, hydropower capacity will increase from 10,000MW in 2011 to 19,000MW in 2020, and 23,000MW in 2030, but the proportion of Vietnam’s electricity generated from hydropower will drop from 44% to 26% and finally to 16% by 2030. Coal-fired generating capacity will increase from 3,000MW at present to 36,000MW in 2020, and 75,000MW in 2030, so the proportion of Vietnam’s electricity generated using coal will increase from 19% at present, to about 50% from 2020 onwards. Vietnam also aims to operate its first nuclear power plant in 2020, with a capacity of 975MW, and plans increase its nuclear generating capacity to 9,689MW by 2030. To achieve its targeted capacity, Vietnam needs to invest US$123bn over 2011-30, but EVN does not have sufficient capital nor is it sufficiently focused on its core business. EVN needs to increase retail electricity prices, to attract more private sector investment (both domestic and foreign), and to increase transparency. Lack of transparency has been a key concern for prospective investors in the power sector. For example, the PPAs of certain foreign generators (like America’s AES) have been shrouded in secrecy.
  6. 6. Power April 2, 2014 6 Figure 8: Capacity breakdown (MW) Figure 9: Output breakdown by generator (twh) 0 20,000 40,000 60,000 80,000 100,000 120,000 140,000 160,000 2011 2020 2030 Gas fire Hydro power Coal fire Others Nuclear Renewable Import 0 100 200 300 400 500 600 700 800 2012 2020 2030 Gas fire Hydro power Coal fire Import Others Nuclear Renewable SOURCES: CIMB, EVN SOURCES: CIMB, EVN 1.4 An elaborate system of subsidised prices Vietnam's electricity prices are subsidised by EVN, and are the lowest in the region. Retail electricity prices had been more than 60% below those in the rest of the region in 2009. Seven electricity price increases since 2009 have closed the gap somewhat, as can be seen in figure 11 below, but prices in Vietnam are still about 50% below those in the rest of Asean (we calculated the ‘50%’ figure by weighting the electricity prices in the table below with the GDP of each Asean country). Figure 10: Vietnam retail electricity price vs region Average price (Cent/kwh) Vietnam 7.6 China 7.5-10.7 Thailand 5-9.8 Cambodia 36.1 Philippines 36.1 Malaysia 7.09-14.75 Singapore 20.88 Indonesia 8.75 India 8-12 Japan 20-24 SOURCES: CIMB, WIKIPEDIA, EVN Vietnam’s price subsidies to end-consumers have generated VND20tr (~$US1bn) of accumulated losses for EVN. The seven electricity price hikes since 2009 described above increased retail prices 63% (or 10% CAGR over 2008-2013), which stopped the flow of red ink at EVN, but the company is far from being reasonably profitable. In 2012, EVN’s all-in costs including generating/ purchasing electricity and the cost of maintaining the grid came to VND1,322/kwh, while its average selling price to retail customers was VND1,364/kwh. For 2014, EVN targets an ROE of only 1%. To help EVN bolster its profitability, the government approved a further 21% of price hikes, in 3 increments, which will raise retail electricity prices to VND1,835/kwh (8.7¢) by 2015, but part of these price hikes will go towards defraying another dysfunctional aspect of the power industry in Vietnam - the subsidy system extends beyond retail electricity prices. Natural gas is currently sold to the gas-fired electricity generators at US$5.19/MMBTU, vs. US$8.5-11.6/MMBTU for industrial users, and coal is sold to power generators at about 10% discount to market prices, dampening the profits of Vietnam’s natural gas and coal SOE’s (PetroVietnam and Vinacomin).
  7. 7. Power April 2, 2014 7 Figure 11: Gas prices User US$/MMBTU Power plant 5.19 Fertiliser plant 6.56 Industrial 8.5-11.6 SOURCES: CIMB, GAS The hydropower companies also subsidise the coal- and gas-fired power companies, albeit indirectly. In 2012 the average price EVN paid all electricity generators was VND1,016/kwh, which is double the price that EVN paid the hydropower generators (Figure 2), but below the price it paid the coal and gas power generators. This dysfunctional system of cross-subsidies needs to be resolved fairly quickly because Vietnam is set to become a net importer of natural gas and coal in the next few years. The reforms to the utility sector that these imminent imports will necessitate are going to significantly increase costs for the gas- and coal-fired power generators. 1.5 EVN is the sole buyer of electricity, sets purchase prices Electricity Vietnam (EVN) is the SOE which currently owns all of Vietnam’s power grids so it is the only buyer of the electricity in the country. Electricity is sold to end users via five EVN subsidiaries that distribute electricity to different parts of the country. Generator Generator Generator EVN - Sole buyer Distributor (EVN 100% ownership) Distributor (EVN 100% ownership) Distributor (EVN 100% ownership) End user End user End user
  8. 8. Power April 2, 2014 8 Since EVN is currently the only buyer of electricity in Vietnam it is able to set the price it pays generators for their electricity. In theory, EVN sets the prices it pays different power producers for their electricity to give the SOE power generators a 10% ROE (SOE power generators include EVN’s own subsidiaries, as well as power generators owned by PVN, the national oil company, and Vinacomin the national coal company). For private sector power generators, our understanding is that the unofficial ROE target is the five-year Vietnam Government Bond yield plus 300bp (the current VGB 5-year yield is 7%). Under this scheme, the power producers with lower costs receive lower payment for their electricity so the hydropower producers are paid the least for their electricity. In 2012, the last year for which data is publicly available, the average price EVN paid electricity generators was VND1,016/kwh, while the prices it paid hydropower generators was an average of VND644/kwh (EVN’s total costs were VND1,322/kwh that year and the average selling price was VND1,364/kwh). The reality however is that even though EVN determines the prices stipulated in the power purchase agreements (PPAs) it signs with power generators in Vietnam using the equitable system just described, it does not always adhere to the prices in those contracts. In the past, EVN had used its monopoly status to pay arbitrarily lower prices for the electricity it purchases from generators. The most famous case is of the on-going EVN-VSH dispute which is described in detail in the company note below. In short, VSH and EVN had a PPA which expired at the end of 2008. EVN wanted to roll over that contract with a new purchase price 10% below the then prevailing price, even though EVN had actually begun raising the retail electricity prices it charges its end-customers. When the two parties could not reach an agreement, EVN unilaterally began paying VSH a price that was 10% below the price stipulated in the expired PPA, and later lowered the price it pays VSH even further. 1.6 How electricity selling prices are determined Under the current regulatory framework, EVN proposes the retail electricity price to the Ministry of Industry and Trade (MOIT). Within 10 working days, the MOIT will respond to EVN’s proposal. If the MOIT agrees with EVN’s proposal, the former will submit the proposal to the Prime Minister for final approval. The Prime Minister will have 10 working days to reply to the proposal. Under the current pricing regime, EVN needs to justify price increases, and it does so by delineating the four components of its own costs: generation, transmission, distribution and management. In FY12, the latest year for which data is publically available, EVN’s total costs were VND1,322/kwh, of which electricity generation accounted for 77% (VND1,016/kwh), followed by distribution (16%, VND217/kwh), transmission (6.3%, VND83/kwh) and management (0.4%, VND5/kwh).
  9. 9. Power April 2, 2014 9 Figure 12: 2012’s electricity production cost (VND/kwh) 1,016.4 83.2 217.7 5.3 Generation cost Transmission cost Distribution cost Management cost SOURCES: CIMB, ERAV Electricity prices are differentiated by the type of user, the amount of usage (on an graduated pricing schedule), and proximity to major electric transmission lines (factories tapping into trunk lines get a 2% discount for their electricity). Currently, the agriculture users pay the lowest electricity prices as do the poor and low-income earners. Figure 13: Electricity retail price below 6kV Manufacturing Business Agriculture Hospital, school Public lighting Administrative office Regular hour 1,406 2,285 1,259 Low hour 897 1,410 656 High hour 2,542 3,900 1,803 1,471 1,590 1,590 SOURCES: CIMB, MOIT For residential users, the retail price is charged on a graduated pricing schedule. The following tables show the retail prices for different users and by usage. Figure 14: Residential retail price Electricity consumed in a month Price (VND/kwh) 50 kwh (for poor and low income) 993 0-100kwh (regular household) 1,418 For kwh from 101-150 1,622 For kwh from 151-200 2,044 For kwh from 201-300 2,210 For kwh from 301-400 2,361 Fro kwh above 401 2,420 SOURCES: CIMB, COMPANY REPORTS Finally, we note that under current regulations (introduced in 2013), the minimum time between any two successive price increases is six months, and the price ceiling for every adjustment is 7%. 2. OUTLOOK 2.1 Electricity price liberalisation In July 2013, Vietnam’s 2004 electricity law was amended to reaffirm a long- standing (but sluggishly implemented) plan to create a competitive electricity market in Vietnam. Electricity prices are being liberalised in Vietnam for two reasons: 1) The increase in Vietnam’s electricity capacity has not kept pace with increasing demand, thanks partly to EVN’s lack of focus on its core electricity business in recent years, and because the dysfunctions outlined above discouraged private sector investment.
  10. 10. Power April 2, 2014 10 2) Vietnam’s SOE coal and gas monopolies are coerced to sell to coal- and gas-based electricity generators at below-market prices, but these subsidies will need to be eliminated within the next few years because Vietnam is set to become an importer of gas and coal – necessitating the application of market prices. These two exogenous factors give us confidence in the continued reforms to Vietnam’s power industry – the government simply cannot put off reforming the system much longer. Also, EVN’s stature in Vietnam has declined, which is discussed in the next section – we do not believe EVN has the ability to block market reforms any longer. Before moving on to a discussion about EVN, we would firstly like to delve into the two factors above as these are the main catalysts for the current, on-going reforms. Reform needed to meet Vietnam’s power needs Vietnam’s electricity demand is growing at about 14-15% a year. The system requires about US$5bn of investment a year just to keep pace with demand, which means about another 5,000MW of capacity a year, lest the problem of brownouts become worse, which would reduce Vietnam’s competitiveness as a low cost production base. For example, one reason cited for Vietnam’s fall from the 90th position to the 99th position in the World Bank’s most recent ‘Doing Business’ survey is the availability of electricity. Figure 15: World Bank’s “Doing Business” survey for Vietnam SOURCES: CIMB, DOING BUSINESS INDICATORS, WORLD BANK Vietnam’s government does not have US$5bn a year to spend on electricity, especially at a time when physical infrastructure spending is being ramped up (roads, bridges, ports, etc.), and Vietnam’s banking system is being cleaned up (the government has repeatedly said it does not want to spend public money to bail out the banks but we think some public money will be needed to re-capitalise some of the banks). Growing foreign involvement So far, the government has resolved its conundrum by starting to allow some foreign investment into the power generation business on advantageous terms. AES from the US and POSCO from Korea are developing a US$2bn, 1,200MW plant scheduled to go on-line in 2015 and a variety of other operators (including Sumitomo, Sembcorp, Samsung and Enercon) are said to be in discussions to build US$1bn-2bn plants, with capacities of 1,200-2,600MW.
  11. 11. Power April 2, 2014 11 The US$-denominated PPA between the AES & POSCO consortium and the Vietnamese government was shrouded in secrecy, but it is widely rumoured that the long-term deal has AES selling electricity to the government at 8-9¢/kwh. We do not believe the government will be able to keep such deals secret forever, especially as more foreign operators become involved in the Vietnam’s power sector. Furthermore, we believe this situation will create widespread resentment (some local hydropower companies are only being paid 1.5-3 cents/kwh for their electricity), which will further prompt the deregulation of the market and more transparency in electricity pricing. Reform needed to eliminated cross-subsidy system We mentioned above that Vietnam will need to start importing natural gas and coal within the next 2-3 years. We think it is very unlikely that the government will be able to compel the SOE gas and coal companies to sell to the gas and coal based generators at below-market prices once they are importing those commodities at world prices. Also, it should be noted that for whatever reason, those two SOE’s have relatively more political power in Vietnam than EVN has, making it even less likely the current cross-subsidy system can survive. We also believe that the government will not be able to eliminate the cross-subsidies from the natural gas and coal SOEs to the power generators without also reducing the cross-subsidisation of coal and gas electricity generators by the hydropower generators. This means PPAs for hydropower companies look set to rise going forward. 2.2 The tide of public opinion has turned against EVN In January 2014, a scathing article in Vietnam’s state-owned press titled, “The lessons of EVN’s incompetence” summed up the prevailing sentiment towards the SOE electricity giant. The article was written by a former vice chairman of the SCIC (the entity that holds the government’s ownership stakes in all non-bank SOE’s) who now works at the Ministry of Planning and Investment. Among other things, the author cites the government’s inspectorate’s findings that EVN invested US$5.8bn in non-core businesses, while its paid-in capital was only US$3.7bn. The author also cited the company’s “past negligence and incompetence” which led it build $30m worth of villas, tennis courts and swimming pools on 355,000 sqm of land designated for the construction of power plants. 2.3 Timetable of industry reforms The transformation of Vietnam’s electricity market into a transparent, competitive market is set to take place in three phases: 1) Phase 1: Competitive generation market (2011-2014) Competition happens in the generation of electricity, but there is only a single wholesaler (i.e. EVN is still the single buyer from the power generators). A portion of the electricity the generators produce is sold to the single buyer at the price stipulated in the PPA between EVN and the individual generator, but a fraction of those generators’ output (~20%) is sold via a type of bidding system described below. 2) Phase 2: Competitive wholesale market (2015-2021) Competition happens in electricity generation and in electricity wholesaling. There will be multiple wholesalers (multiple buyers) that will bid for electricity from the generators. The wholesaler will also compete to supply the electricity distributors/transporters.  2015-2016: pilot wholesale market  2017-2021: wholesale competitive market
  12. 12. Power April 2, 2014 12 3) Phase 3: Competitive retail market (2020 onwards) Competition happens in electricity generation, wholesaling, and retailing, meaning that end-users will be able to select their electricity provider. The retailers will compete for the electricity offered by the wholesalers by paying market prices.  2022-2023: pilot retail market  2024 onwards: competitive retail market Figure 16: Vietnam’s electricity reform horizon SOURCES: CIMB, EVN At first glance, the roadmap identified above seems straightforward, but on closer investigation several questions arise, which are discussed in the next section. 3. RISKS 3.1 The opaque road to transparency While the government’s transformation plan outlined above sounds good in theory, it leaves several open questions about how deregulation will be implemented in reality. When Phase I, which is current being implemented, is discussed in the press, words like “market prices” and “open bidding” are routinely misused, making us a little concerned about how the future phases of the liberalisation will be implemented. The ‘nuts and bolts’ of how the current phase of liberalisation functions follows: Phase 1 of deregulation In the current phase of deregulation, the generators sell the majority of the electricity to EVN at previously-agreed PPA prices (which are generally far too low). However, EVN now allows generators to sell up to 40% of the electricity they generate at what it terms “market price” in an “open bidding” process. The “market price” EVN is referring to is actually an arbitrary price set by EVN themselves moment-to-moment, which tends to be about 10% higher than the previously-stipulated PPA prices for both the gas & coal generators and the hydro generators (to be clear, that means EVN has two “market prices” at any time: one for electricity produced by gas/coal based generators, and one for electricity produced by hydro-based generators). Those “market prices” fluctuate according to EVN’s load demand, but on average they are about 10% above the fixed PPA prices, so all of the generators would, in theory, like to sell their entire 40% quota production at those higher
  13. 13. Power April 2, 2014 13 prices. At any moment, different electricity generators will have different abilities to meet the current load demand so the amount of electricity they actually offer to sell will vary – hence the “open bidding” process referred to above. At present EVN arbitrarily decides how much electricity it buys from each generator at its higher “market prices” when a surplus is offered by the generators (as is often the case). In 2012, the generators sold about 10% of their output at these higher “market prices” and in 2013 that number was 20%. We are not enthusiastic about the opaque and arbitrary nature of the current system, but we must concede its genius – it encourages additional electricity production by the generators, especially at times of peak load, thus ensuring the efficient utilisation of the current system. And it also is an incremental step in the direction of deregulation. Phase 2 of deregulation Things will become a bit clearer in Phase 2 of the industry deregulation. The government will restructure the industry’s wholesaling mechanism by introducing 1-2 additional electricity wholesalers. Those wholesalers will be created by splitting EVN’s current wholesaling function into more than one company - note that there is a precedent for something similar to this in Vietnam when the post office’s mobile phone operations were split into two competitors, VNPT and Mobiphone. It is not exactly clear how the introduction of additional wholesalers will improve the generators’ situation, but since there will be competitive forces at work bidding up the price of electricity, presumably this should help things further along towards fair market pricing. We expect electricity prices in Vietnam to be transparent and at market prices well before the end of Phase 2 of deregulation (around 2019-2020). 3.2 Resistance from consumers The electricity price hikes of the last few years have inflated the monthly electricity bills of many households to the point that electricity expenses now represent 10-15% of those households’ incomes. Naturally, this has created some unhappiness among Vietnam’s citizens, especially when coupled with the widely publicised problems of EVN which were described above. Our fear is that if the pushback becomes too intense, the government could postpone or derail the on-going liberalisation of the electricity market, although at the present time, we see little risk of that happening given the strong forces prompting deregulation (i.e. increasing demand and Vietnam’s imminent need to import gas and coal). 4. Valuation and Recommendation We’ve initiating coverage on Vietnam’s power generating sector and ‘Add’ rating based on the on-going deregulation in the market, Vietnam’s growing electricity demand and also due to valuation. The trailing PE of Vietnam’s power sector is more than 50% below the Asean average valuation (8x for Vietnam versus ~18x for Asian, excluding certain outliers in Asian with very high PE’s). Within the sector we see real value in some of the smaller companies in the sector but the market caps of those companies are too small for most investors so we’ve focused out attention on the three stocks most investors will find easiest to buy: VSH, PPC and REE. Investors who are interested in those smaller power companies would be well advised to take a close look at REE, which has been increasing its investments in those small companies (as well as its holdings of PPC shares). Our top pick in the sector is VSH because it has the lowest costs, so we believe it will benefit the most from deregulation.
  14. 14. Power April 2, 2014 14 5. APPENDIX: VIETNAM’S COAL INDUSTRY 5.1 Vinacomin is Vietnam’s coal SOE Vinacomin is the coal industry’s analogy to EVN in the electricity industry. Vinacomin and its 8 listed subsidiaries are responsible for 95% of Vietnam’s coal production. About 60% of Vinacomin’s production is sold to EVN to produce electricity and the industry employs 120,000 people in Vietnam, mostly as coal miners. Unfortunately, Vinacomin like most SOEs in Vietnam is actively invested in non-core businesses including banking, insurance and real estate. Finally, until 2012, the price which Vinacomin sold its coal to EVN was heavily subsidised and only covered about half the cost of digging the coal out of the ground. Coal prices have been rising rapidly since 2012, in tandem with electricity prices to final users. The Ministry of Industry and Trade wanted electricity producers to pay market prices for coal from 2013, but the prices they pay are still about 10% below free market prices at present. 5.2 Vinacomin’s listed subsidiaries In another analogy between Vinacomin and EVN, Vinacomin also has listed subsidiaries, which are all still 51%-owned by Vinacomin. The market capitalisations of these subsidiaries are tiny, especially when compared to their coal reserves, mainly because Vinacomin pays the listed coal companies below-market prices for their coal production. Figure 17: Coal producers' reserve Market cap ($ m) Total Above ground Under ground TDN 62.1 4.7 63 36 27 2.6 NBC 19.0 4.5 60 15 45 5.2 TVD 17.8 7.3 97 8 89 3.5 HLC 13.2 13.5 180 80 100 2.4 TC6 11.3 2.5 33 33 0 2 TCS 9.9 3 40 40 0 3.9 THT 9.6 1.5 20 20 0 3 MDC 8.8 0.8 10 10 0 1.8 Tkr Value of reserves ($b) Reserves (m tons) Annual Prod. (m) SOURCES: CIMB, COMPANY REPORTS Vinacomin pays below-market prices to its subsidiaries, but aims to give them reasonable profit margins on the coal they mine (ie. vis-à-vis their cost of doing the actual mining), which is also analogous to the EVN case, but the analogy breaks down after that because Vinacomin technically still owns the coal mines associated with each listed company, while companies like PPC and VSH own their electricity production facilities outright. 5.3 Vietnam’s listed coal companies are contract miners The economic profile of Vietnam’s listed coal companies is as if they were contract miners with perpetual contracts to mine their own coal reserves. In a typical contract mining arrangement, several bidders would be invited to tender on a contract to extract coal from a particular mine, which ensures competitive pricing for the mine owner and reasonable profit margins for the contract miners. In Vietnam’s case, the listed coal company is acting as a contract miner of its own coal reserves at contract rates that are set by Vinacomin. Since Vinacomin does its own coal mining as well as purchase coal from the listed coal companies it believes it has ability to set the correct purchase prices which are sufficient for the listed coal companies to turn a profit. The reality however, as can be seen below is that the operating margins Vinacomin allows the listed coal companies to earn are well below those of
  15. 15. Power April 2, 2014 15 contract coal miners in other countries. In Indonesia, for example, contract miners typically earn a 14-18% operating margin. Figure 18: Listed coal producers Ticker MCap ($ m) P/E P/B ROE (%) Div Yld (%) Net Mrg (%) Op Mrg (%) TDN 62.1 8.1 1.1 13 17 1.1 1.0 NBC 19 4.3 1.3 26 15 3.4 5.1 TVD 17.8 4.2 1 26 - 3.2 4.3 HLC 13.2 7.9 1 13 14 1.6 1.8 TC6 11.3 4 0.7 27 - 6.7 2.6 TCS 9.9 2.7 1.3 20 17 1.3 2.1 THT 9.6 6 0.7 13 14 1.6 1.9 MDC 8.8 5.2 1 14 20 1.9 1.9 SOURCES: CIMB, COMPANY REPORTS Finally, we note that recent developments with the deregulation of electricity (described above) and increased prices on the coal sold to EVN (described below) have led to an increased interest in these small listed subsidiaries of Vinacomin. The most notable development is the increased interest in the sector by one savvy investor, the REE conglomerate, which is described in the brief company report about REE below. One appeal of these stocks are their high ROEs, but that is partially a function of the high leverage that being under the umbrella of their powerful parent affords them. 5.4 Subsidised prices – a dysfunctional equilibrium In 2012, Vinacomin lost well over US$300m mainly due to the losses it incurred when it sold coal to power producers at below-market costs. The company loses money from selling coal to EVN at below-market prices, but those losses are partially compensated by the fact that it also buys some of its coal from the listed coal companies at below-market prices. One problem with this cross-subsidisation situation is that there is a lack of transparency about the exact prices that are being paid to the listed coal companies, the prices that are charged to the electricity generators, and the exact amount of losses that this arrangement generates. This transparency issue has come to the fore recently because some members of the government have called for the company to present its cost and revenue structure in an open and precise way, at the time the coal prices to electricity producers were raised (see next section). Also, Vinacomin has found it difficult to sustain its coal exporting business because falling world coal prices coupled with high export tariffs have made the business unviable. Vinacomin asked the government to lower export tariffs because of its mounting coal inventory and losses from selling coal at below-market prices to the electricity generators, but Vinacomin’s request to lower export tariffs again prompted some in the government to call for the company to give an open and precise accounting of its costs and revenues. Realistically, this lack of transparency is unlikely to go away any time soon. Our understanding is that the listed coal companies acquiesce to Vinacomin’s requirement to sell coal at below-market prices without a fight because the current arrangement is in the personal interests of the individual managers working in those companies. There are widespread suspicions in the market that the real production of the listed coal companies is higher than the companies themselves report, and that the additional coal finds its way over the border into China - with the revenue from these off-the-book sales staying rather questionable. That is why we titled this section of the report “a dysfunctional equilibrium”. We have outlined the situation in the diagram below, as best we can, based on our conversations with industry insiders.
  16. 16. Power April 2, 2014 16 5.5 Reform of the coal industry means rising prices Vinacomin is in the midst of restructuring, which is set to run until 2015. The three main thrusts of that restructuring are: an elimination of price subsidies, the disposal of non-core investments, and an increase in industry-wide productivity by increasing mechanisation. The first leg of the programme is well underway – coal prices to EVN and its subsidiaries have been raised steadily, in tandem with electricity prices. Figure 19: Coal price hikes Date Price increase Jan-14 4-10% Aug-13 14% Apr-13 27% Oct-12 28-42% Jul-12 10-11.5% Apr-11 5% Mar-10 28% SOURCES: CIMB, VINACOMIN, PV POWER COAL Also, note that coal export tariffs were lowered from 20% to 10% in 2012. The tariff cut was somewhat controversial because the government derives a significant portion of its revenues from export tariffs and the budget deficit is already 6% of GDP YTD. However, Vinacomin was able to convince the government to reduce tariffs by citing the lower tariff rates of other coal exporting countries, including 0% in Indonesia and Australia, 5% in Russia, 7% in Mongolia, and 10% in China. Not just raising prices – productivity enhancements In addition to eliminating subsidies and reducing non-core investments, Vinacomin’s restructuring also aims to increase private sector investment, especially in the infrastructure and equipment required to efficiently extract and transport coal (such as conveyer belts, etc). According to a Vinacomin spokesman, the company’s opencast mining operation uses modern technology but it has limited mechanisation in its underground coal mines, which severely impedes productivity. The first project which will be opened up to private sector bidding is a set of two 10-km conveyor belts to carry coal out of the Cao Son coal mine. The project is worth about VND2tr (US$96m) and it is anticipated that the investor in the conveyor belts will be compensated by sharing in the profits from the mine. If the Cao Son conveyor belt project is successful then the company anticipates opening up several other projects to private tender including other conveyor belt projects which would transport coal from the mine to an adjacent power station. The company is hoping to share VND10tr (US$480m) of its circa VND35tr (US$1.7bn) annual investment expenditure with foreign investors. Overall, the industry targets to extract 55m tons of coal a year by 2015, versus 47m tons in 2010, but that increase in productivity will require about US$2bn of investment in new machinery and equipment. NBS .Smuggling to China HLC TCS Vinacomin (SOE) EVN Limited output Subsidy Subsidized electricity prices .
  17. 17. Power April 2, 2014 17 5.6 An overview of Vietnam’s coal deposits The Quang Ninh province in the north east of the country, close to the border of China, is abundant in anthracite coal. Open cast mines represent just over half of coal production in the country. That is partially due to insufficient technology and mechanisation at Vietnam’s underground mines and also because there are substantial coal deposits close to the surface. It is estimated that there are 3.5 billion tons of anthracite coal in Vietnam at depths of no more than 300 meters, with estimated reserves at greater depths of a higher order. Because of the close proximity of the mines to the Chinese border, exports to China are about 80% of Vietnam’s anthracite exports. Vietnam is the world’s largest exporter of anthracite, but the country is unlikely to remain a coal exporter in the future. Energy demand is growing rapidly which is driving an 11% a year increase in coal demand for the foreseeable future.
  18. 18. Power April 2, 2014 18 Vietnam is likely to turn into a coal importer within the next few years (possibly by 2015), and a coal importing terminal is currently in the planning stages, to be located in the south of the country. Anthracite Coal Anthracite coal is a unique type of coal which has the highest density and energy content among all grades of coal, so its price is 2-3 times higher than ordinary coal. Only 1% of the world’s coal is anthracite, with most originating from China, while other producers include Vietnam, North Korea, Russia and Australia. Both Vietnam and China use anthracite coal to generate electricity but our understanding is that this is not the case in other parts of the world because of the high value of anthracite coal. About 60% of the coal used for power generation in Vietnam is anthracite, and China’s vociferous demand for electricity has made it an importer of a Vietnamese anthracite coal for use in power generation, but in other parts of the world anthracite is used in higher value-added applications (including for home use in the US where it is referred to as ‘hard coal’)
  19. 19. Power│Vietnam April 2, 2014 THIS REPORT IS PREPARED IN ASSOCIATION WITH CIMB/VNDIRECT SECURITIES CORPORATION. PLEASE SEE DISCLAIMER AND IMPORTANT NOTICES APPEARING AT THE END OF THIS DOCUMENT. IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE ALSO PROVIDED AT THE END OF THIS REPORT. Designed by Eight, Powered by EFA The industry’s low-cost producer VSH’s production costs are about a third lower than those of its closest competitors, and half of its costs are in non-cash depreciation expenses. The company is thriving in the nascent competitive electricity market and will increase its capacity by 160% by 2017. Vinh Son Hydro’s low-cost structure and planned capacity expansion make it ideally positioned to take advantage of the two big trends in Vietnam’s power industry: deregulation and growing demand. We initiate coverage with an Add rating and a target price of VND19,725, based on 12x FY14 P/E (70% higher than the industry average). Expanding capacity to meet growing demand VSH will increase its generating capacity from 136MW to 356MW by 2017. The company, which currently sells about 20% of its output in the nascent ‘competitive market’, should be the industry’s biggest gainer from deregulation given its low costs. Also, VSH has ample room to gear up its balance sheet as its net gearing currently sits at just 9% and its cashflow is strong. CB issuance is a catalyst VSH plans to issue VND500bn worth of 3-year convertible bonds that carry very attractive terms: a 13.5% coupon and a conversion price which is 40% below the current share price. Only existing shareholders will be offered the CBs so the share price is likely to jump ahead of the ex-date, around the middle of this year. Something similar happened when CII:VN, an infrastructure developer, issued an attractive CB to its existing shareholders. Resolution of dispute with EVN to boost earnings, BV VSH has been embroiled in a protracted dispute with EVN over its power purchase agreement (PPA). That dispute looks set to be resolved soon, which is why the stock price is up 50% over the last year. We expect the resolution of the dispute to: 1) boost its earnings by 70% this year, 2) trigger a restatement of earnings over FY10-13 which will boost the company’s book value (BV) by 14%, and 3) result in a new 4-year PPA between EVN and VSH which will improve earnings visibility going forward. The details of the dispute are described later in the note, but the short story is that EVN and VSH could not agree on a purchase price after their earlier PPA expired at the end of 2008. Vinh Son-Song Hinh Hydropower COMPANY NOTE VSH VN / VSH.HM Current VND17,000 Market Cap Avg Daily Turnover Free Float Target VND19,725 US$166.2m US$0.84m 45.5% Prev. Target VND VND3,506,101m VND17,536m 206.2 m shares Up/Downside 16.0% Conviction| | Notes from the Field ———————————————————————————————————————— NGUYEN Xuan Huy T (84) 90 912 3880 E nguyen.xuanhuy@cimb.com T E Company Visit Expert Opinion Channel Check Customer Views ———————————————————————————————————————— 95.0 105.0 115.0 125.0 135.0 11,000 13,000 15,000 17,000 19,000 Price Close Relative to VNINDEX (RHS) Source: Bloomberg 1 2 3 4 5 Apr-13 Jul-13 Oct-13 Jan-14 Volm Financial Summary Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Revenue (VNDb) 332.2 283.3 488.8 492.5 488.4 Operating EBITDA (VNDb) 223.2 212.2 377.8 377.0 368.4 Net Profit (VNDb) 234.0 198.9 337.4 354.0 343.1 Core EPS (VND) 1,157 969 1,644 1,725 1,672 Core EPS Growth (28.9%) (16.3%) 69.6% 4.9% (3.1%) FD Core P/E (x) 14.69 17.42 10.34 9.86 10.17 DPS (VND) 412.6 3.8 500.0 500.0 500.0 Dividend Yield 2.43% 0.02% 2.94% 2.94% 2.94% EV/EBITDA (x) 15.26 17.53 11.23 12.58 14.25 P/FCFE (x) 14.27 NA 6.70 55.20 66.28 Net Gearing (0.8%) 9.4% 26.9% 40.9% 53.3% P/BV (x) 1.40 1.34 1.23 1.13 1.05 ROE 9.8% 7.9% 12.4% 11.9% 10.7% % Change In Core EPS Estimates CIMB/consensus EPS (x) 1.06 17,000 19,725 11,700 18,000 Target 52-week share price range Current SOURCE: CIMB, COMPANY REPORTS
  20. 20. Vinh Son-Song Hinh Hydropower April 2, 2014 20 PEER COMPARISON Research Coverage Bloomberg Code Market Recommendation Mkt Cap US$m Price Target Price Upside Cypark Resources Bhd CYP MK MY ADD 151 2.72 3.09 13.4% Pha Lai Thermal Power PPC VN VN REDUCE 339 22,500 17,869 -20.6% Tenaga Nasional TNB MK MY ADD 20,314 11.74 14.14 20.4% Vinh Son-Song Hinh Hydropower VSH VN VN ADD 166 17,000 19,725 16.0% 0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 4.00 4.50 5.00 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Rolling P/BV (x) Cypark Resources Bhd Pha Lai Thermal Power Tenaga Nasional Vinh Son-Song Hinh Hydropower 0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0 50.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Rolling FD P/E (x) Cypark Resources Bhd Pha Lai Thermal Power Tenaga Nasional Vinh Son-Song Hinh Hydropower 0.0% 1.6% 3.2% 4.8% 6.4% 8.0% 9.6% 11.2% 12.8% 14.4% 16.0% 0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 1.60 1.80 2.00 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Peer Aggregate: P/BV vs ROE Rolling P/BV(x) (lhs) ROE(See Footnote)(rhs) -100% -72% -44% -17% 11% 39% 67% 94% 122% 150% 0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Peer Aggregate: FD P/E vs FD EPS Growth FD P/E (x) (See Footnote) (lhs) FD EPS Growth (See Footnote) (rhs) Valuation FD P/E (x) (See Footnote) P/BV (x) EV/EBITDA (x) Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Cypark Resources Bhd 11.70 9.62 8.67 1.74 1.73 1.55 8.19 7.97 6.93 Pha Lai Thermal Power 4.19 7.94 7.60 1.33 1.18 1.06 3.73 3.38 2.58 Tenaga Nasional 14.56 13.33 11.68 1.81 1.74 1.74 7.02 6.36 5.82 Vinh Son-Song Hinh Hydropower 17.42 10.34 9.86 1.34 1.23 1.13 17.53 11.23 12.58 Growth and Returns FD EPS Growth (See Footnote) ROE (See Footnote) Dividend Yield Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Cypark Resources Bhd 37.7% 21.6% 11.0% 18.9% 19.2% 20.0% 3.43% 4.13% 4.62% Pha Lai Thermal Power 202.8% -47.3% 4.4% 35.8% 15.8% 14.7% 4.44% 2.28% 2.28% Tenaga Nasional 29.3% 9.3% 14.2% 12.8% 13.3% 14.9% 3.33% 3.90% 4.35% Vinh Son-Song Hinh Hydropower -15.6% 68.4% 4.9% 7.9% 12.4% 11.9% 0.02% 2.94% 2.94% SOURCE: CIMB, COMPANY REPORTS Calculations are performed using EFA™ Monthly Interpolated Annualisation and Aggregation algorithms to December year ends. NPAT/EPS values for calculations and valuations are based on recurring and normalised values for GAAP and IFRS accounting standard companies respectively.
  21. 21. Vinh Son-Song Hinh Hydropower April 2, 2014 21 We expect VSH to sign a new PPA with EVN which will increase the price it gets paid for its electricity by 60% per kwh. Investments in new hydropower projects. Share price info Share px perf. (%) 1M 3M 12M Relative 7.7 -0.4 28.7 Absolute 6.9 14.9 42.9 Major shareholders % held EVN Genco 3 30.5 State Capital Investment Corporation 24.0 VIAC 8.1 0.0% 2.0% 4.0% 6.0% 8.0% 10.0% 12.0% 14.0% 16.0% 0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 1.60 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 P/BV vs ROE Rolling P/BV(x) (lhs) ROE(See Footnote)(rhs) -40% -27% -13% 0% 13% 27% 40% 53% 67% 80% 0.0 2.0 4.0 6.0 8.0 10.0 12.0 14.0 16.0 18.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 FD Core P/E vs FD Core EPS Growth Rolling FD CoreP/E(x) (lhs) FD Core EPS Growth (rhs) Profit & Loss (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Total Net Revenues 332.2 283.3 488.8 492.5 488.4 Gross Profit 240.3 227.6 404.3 403.7 394.9 Operating EBITDA 223.2 212.2 377.8 377.0 368.4 Depreciation And Amortisation (85.8) (75.4) (85.9) (85.9) (85.9) Operating EBIT 137.5 136.8 291.9 291.1 282.5 Total Financial Income/(Expense) 93.5 44.2 90.2 109.8 106.0 Total Pretax Income/(Loss) from Assoc. 1.7 0.6 0.7 0.8 0.9 Total Non-Operating Income/(Expense) 32.8 45.8 0.0 0.0 0.0 Profit Before Tax (pre-EI) 265.5 227.4 382.9 401.7 389.4 Exceptional Items Pre-tax Profit 265.5 227.4 382.9 401.7 389.4 Taxation (31.5) (28.6) (45.5) (47.7) (46.2) Exceptional Income - post-tax Profit After Tax 234.0 198.9 337.4 354.0 343.1 Minority Interests Preferred Dividends FX Gain/(Loss) - post tax Other Adjustments - post-tax Net Profit 234.0 198.9 337.4 354.0 343.1 Recurring Net Profit 234.0 198.9 337.4 354.0 343.1 Fully Diluted Recurring Net Profit 234.0 198.9 337.4 354.0 343.1 Cash Flow (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F EBITDA 223.2 212.2 377.8 377.0 368.4 Cash Flow from Invt. & Assoc. Change In Working Capital 50.8 (308.2) (9.2) (0.2) 0.2 (Incr)/Decr in Total Provisions (9.6) Other Non-Cash (Income)/Expense Other Operating Cashflow 32.7 398.5 Net Interest (Paid)/Received 94.8 34.0 90.2 109.8 106.0 Tax Paid (35.8) (48.6) (45.5) (47.7) (46.2) Cashflow From Operations 356.2 288.1 413.4 438.9 428.4 Capex (547.7) (369.6) (833.0) (836.6) (836.6) Disposals Of FAs/subsidiaries 402.1 0.0 0.0 0.0 0.0 Acq. Of Subsidiaries/investments Other Investing Cashflow 7.0 Cash Flow From Investing (138.6) (369.6) (833.0) (836.6) (836.6) Debt Raised/(repaid) 23.4 15.4 940.6 460.8 460.8 Proceeds From Issue Of Shares Shares Repurchased Dividends Paid (83.4) (0.8) (102.6) (102.6) (102.6) Preferred Dividends Other Financing Cashflow Cash Flow From Financing (60.0) 14.7 838.0 358.2 358.2 Total Cash Generated 157.5 (66.9) 418.4 (39.4) (50.0) Free Cashflow To Equity 241.0 (66.1) 521.0 63.2 52.6 Free Cashflow To Firm 222.3 (80.4) (416.5) (395.2) (406.4) BY THE NUMBERS SOURCE: CIMB, COMPANY REPORTS
  22. 22. Vinh Son-Song Hinh Hydropower April 2, 2014 22 More leverage to fund the new hydropower plant. Balance Sheet (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Total Cash And Equivalents 821 573 992 952 902 Total Debtors 575 624 759 761 758 Inventories 31 36 62 63 62 Total Other Current Assets 40 25 43 43 43 Total Current Assets 1,468 1,258 1,856 1,820 1,766 Fixed Assets 1,899 2,390 3,137 3,888 4,639 Total Investments 14 14 14 15 16 Intangible Assets 0 0 0 0 0 Total Other Non-Current Assets 3 3 3 3 3 Total Non-current Assets 1,915 2,406 3,154 3,906 4,657 Short-term Debt 591 665 441 341 241 Current Portion of Long-Term Debt Total Creditors 38 37 63 64 63 Other Current Liabilities 91 198 341 344 341 Total Current Liabilities 720 899 845 748 645 Total Long-term Debt 212 154 1,318 1,879 2,440 Hybrid Debt - Debt Component Total Other Non-Current Liabilities 0 0 0 0 0 Total Non-current Liabilities 212 154 1,318 1,879 2,440 Total Provisions 0 0 0 0 0 Total Liabilities 932 1,053 2,163 2,627 3,085 Shareholders' Equity 2,450 2,612 2,847 3,098 3,339 Minority Interests Total Equity 2,450 2,612 2,847 3,098 3,339 Key Drivers Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Power Despatched (GWh) 847.5 879.9 868.2 874.7 867.6 Capacity (MW) 136.0 136.0 136.0 136.0 356.0 Average Capacity Utilisation (%) 118.5% 123.1% 121.4% 122.3% 121.3% Avg tariff/ASP per kwh (% chg) N/A N/A N/A N/A N/A Fuel Cost Per Kwh (% Change) N/A N/A N/A N/A N/A Industry Reserve Margin (%) N/A N/A N/A N/A N/A BY THE NUMBERS Key Ratios Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Revenue Growth (27.7%) (14.7%) 72.5% 0.8% (0.8%) Operating EBITDA Growth (40.0%) (4.9%) 78.0% (0.2%) (2.3%) Operating EBITDA Margin 67.2% 74.9% 77.3% 76.6% 75.4% Net Cash Per Share (VND) 92 (1,193) (3,737) (6,174) (8,663) BVPS (VND) 12,116 12,725 13,869 15,093 16,265 Gross Interest Cover 32.6 37.1 94.4 119.5 158.8 Effective Tax Rate 11.9% 12.6% 11.9% 11.9% 11.9% Net Dividend Payout Ratio 35.7% 0.4% 30.4% 29.0% 29.9% Accounts Receivables Days 199.3 212.2 189.3 238.8 241.4 Inventory Days 112.3 219.7 213.0 257.5 245.0 Accounts Payables Days 328.7 245.2 215.5 260.5 247.9 ROIC (%) 7.2% 5.7% 10.3% 8.1% 6.5% ROCE (%) 7.38% 5.53% 9.59% 8.13% 6.89% SOURCE: CIMB, COMPANY REPORTS
  23. 23. Vinh Son-Song Hinh Hydropower April 2, 2014 23 1. BACKGROUND 1.1 Company history Vinh Son Hydro was established in 1994, privatised in 2004 and listed on the stock exchange in 2005. It was the first stock to be floated on the Hanoi Exchange, and transferred its listing to the Ho Chi Minh Stock Exchange one year later. VSH owns two hydropower facilities – Vinh Son (66MW) and Song Hinh (70MW). EVN owns 30.5% of VSH and the State Capital Investment Corporation (SCIC) owns 24% (the SCIC is the government’s holding vehicle for its ownership stakes in non-bank SOE’s). Although VSH is majority owned by the state, we believe it functions as a private sector company. 1.2 Straight forward business Nearly 100% of VSH’s revenues are derived from the electricity it sells to EVN. That means its revenues are dependent on: 1) rainfall, which varies from year-to-year (2013 was a particularly bad year), and 2) the price it gets from EVN, which is also fickle. Figure 1: VSH's revenue break-down (VNDbn) Figure 2: VSH's sale volume (Gwh) 0 100 200 300 400 500 600 2008 2009 2010 2011 2012 2013 Electricity revenue Other revenue 600 650 700 750 800 850 900 950 2008 2009 2010 2011 2012 2013 Sale volume 6 year average SOURCES: CIMB, COMPANY REPORTS SOURCES: CIMB, COMPANY REPORTS 1.3 The industry’s low-cost producer VSH’s FY12 production cost was VND203/kwh, which is the lowest among the listed power companies. In general, hydropower is cheaper than coal and gas, which can be seen in the table below. However, VSH’s costs are also significantly below those of other hydropower generators because its depreciation costs are lower. The lower depreciation costs are due to the fact that VSH has already depreciated a higher proportion of its fixed assets. Figure 3: FY12 production cost Hydro power producers VND/kwh VSH VN Equity 203 TMP VN Equity 307 TBC VN Equity 343 SJD VN Equity 322 GHC VN Equity 248 DRL VN Equity 290 Coal power producers PPC VN Equity 764 BTP VN Equity 1,060 NBP VN Equity 1,034 Gas power producer NT2 VN Equity 1,037 SOURCES: CIMB, Bloomberg Table of Contents 1. BACKGROUND p.5 2. OUTLOOK p.6 3. RISKS p.9 4. FINANCIALS p.10 5. VALUATION AND RECOMMENDATION p.11
  24. 24. Vinh Son-Song Hinh Hydropower April 2, 2014 24 Going forward, the liberalisation of the power market will lead to higher production costs for coal- and gas-fired power producers since no subsidies will be given for feedstock prices. Deregulation should also lead to higher selling prices for all the generators as electricity prices will be determined by the market. Both of these developments should benefit VSH the most because of its low production costs. 1.4 Low cash expenses Half of VSH’s production costs stem from depreciation expenses. In FY12, its production cost was VND203/kwh, but excluding the depreciation, its cash cost of generating electricity was only VND102/kwh. For this reason, VSH’s cashflow-to-earnings ratio has been around 1.4x over the last few years. Its high free cashflow is also probably one of the reasons why EVN has arbitrarily lowered the price it pays for the electricity in recent years (discussed in the next section). Figure 4: Production cost breakdown 50% 15% 3% 2% 30% Depreciation Labor Purchasing Material Others SOURCES: CIMB, COMPANY REPORTS 2. OUTLOOK 2.1Dispute with EVN The previous PPA between Vinh Son Hydro and EVN expired at the end of 2008 and the companies have not been able to sign another PPA as they could not agree on a purchase price. VSH wants to keep the PPA prices unchanged at VND476/kwh in the rainy season (Jul-Sep), and VND580/kwh in the dry season (Oct-Jun), while EVN wants much lower contracted purchase prices. As can be seen in the table below, EVN unilaterally dropped the price it paid to VSH by 10% in 2010-11, despite the fact that it was actually raising the electricity prices it charged to the end-users at the time (in 2009 EVN continued to pay VSH the contracted prices on the then-expired PPA contract). In 2012-13, EVN dramatically lowered the price, presumably to pressure the company into signing a new four-year PPA at the 10% discounted tariff it paid VSH in 2010-11.
  25. 25. Vinh Son-Song Hinh Hydropower April 2, 2014 25 Figure 5: VSH's PPA (VND/kwh) ASP Note 2009 563 Wet/dry season price of VND476/580 2010 504 90% of FY09 PPA 2011 509 First 11 months was set at 90% of FY09 PPA, and December was set at 76% FY09 PPA 2012 382 67% of FY09 PPA 2013 351 62% of FY 09 PPA SOURCES: CIMB, COMPANY REPORTS EVN’s tactic does not seem to have worked though, partly because VSH has strong support from the powerful State Capital Investment Corporation (SCIC) which owns 24% of the company, and partly because the public sentiment towards EVN has turned negative. Also, to put the matter in context, VSH is currently being paid just 1.6 US¢/ kwh for the electricity it generates versus the 8 US¢ that IPPs are paid in Thailand and that the foreign producers such as AES are widely rumoured to be contracted to receive in Vietnam. EVN’s justification: EVN said that it lowered the price it pays to VSH because VSH’s cost of production turned out to be lower than it had expected. Note that, EVN’s stated target is to give the private sector generators an ROE of the 5-year VGB yield plus 300bp. However, this argument seems disingenuous for a few reasons: 1) while VSH’s production costs per unit of electricity generated did fall in the mid 2000’s, it was primarily due to an increase in capacity utilisation from about 100% to about 120% by 2008. It does not make sense to penalise the company for the increased productivity, in our view; 2) it is widely understood in the industry that the reason why EVN requested for lower PPA prices is because of its own financial problems, but part of those difficulties were a result of mismanagement (in addition to the subsidised prices to the end-users); and 3) it is widely rumoured that one reason EVN unilaterally lowered the price was because VSH had previously lent money to its cash-strapped parent, but it subsequently cut off that line-of-credit in response to pressure from its other shareholders. 2.2 Imminent resolution of EVH dispute should boost earnings by 70%, book value by 14% As a result of the dispute with EVN, VSH only reported preliminary revenues for FY10, FY11, FY12 and FY13, using the electricity purchase prices in Figure 21. We believe that a resolution to the dispute is imminent (most likely during the expected Apr 14 AGM of VSH) as: 1) The SCIC has started some ‘housecleaning’ in advance of the next change in the government (expected in about 2 years); 2) EVN’s political power has diminished while this dispute has dragged on (many in the market expected a resolution to this last year); and 3) VSH’s stock price has risen by 15% this year on rampant market talk that a new PPA is imminent. We expect the new PPA price to be similar to the on that expired at the end of 2008 (VND476/580kwh), and we expect the PPA will be back dated to 2010. If that happens, then under the Vietnam Accounting Standards (VAS 29), VSH would need to restate its earnings, resulting in FY10 net profit to be higher by 14%, FY11 by 12%, FY12 by 53%, and FY13 by 73% than the previously reported numbers.
  26. 26. Vinh Son-Song Hinh Hydropower April 2, 2014 26 Figure 6: VSH's report and pro-forma key figures Unit 2010 2011 2012 2013 Reported ASP VND/kwh 504 509 392 351 Reported revenue VNDbn 425 459 332 283 Reported net profit VNDbn 302 329 234 199 Report EPS VND 1,470 1,627 1,157 969 Reported PE x 10.4 9.4 13.2 15.8 Reported PB x 1.3 1.3 1.3 1.2 Rerated revenue VNDbn 470 504 473 451 Rerated net profit VNDbn 345 369 358 345 Rerated EPS VND 1,677 1,827 1,771 1,682 Rerated PE x 9.1 8.4 8.6 9.1 Rerated PB x 1.3 1.3 1.2 1.1 SOURCES: CIMB, COMPANY REPORTS Under VAS 29, the company will need to publish a new set of financial statements which will need to include a comparison between the old and the new figures. The table above shows our estimates of the pro-forma restated financial figures if VSH is able to clinch the FY09 price for FY10, FY11 and FY12. 2.3Increasing capacity by 160% VSH is investing in a new hydropower facility – Thuong Kon Tum, located in upper Kontum with a capacity of 220MW (1.6x VSH's current capacity) and an investment cost of VND5,744bn (1.6x VSH's current total assets). The company expects to sell electricity generated by the dam at VND931/kwh (~1.6x the FY09 purchase price). We do not see much risk of EVN raising similar objections to the new plant as the investment cost will be considerably higher than that of VSH’s two existing dams, both of which were built in early 1990’s. In theory, the contract prices are based on an equitable system which targets a fair ROE for the generators. So VSH will need to be paid considerably more for the electricity generated at the third plant just for the plant to break even. Figure 7: Investment cost breakdown (VNDbn) Fixed asset 3,869 Land clearnace 301 Provision 626 Capitalised interest 720 Others 228 Total 5,744 SOURCES: CIMB, COMPANY REPORTS As at end-FY13, VSH had spent a total of VND1,468bn (US$70m?) on the project. The company expects the plant to start operations in FY16, but we think that the plant will come onstream about a year later. 2.4CB to fund the new plant should also boost sentiment To fund the cost of the new hydro plant, VSH will issue VND500bn worth of convertible bonds with a maturity of three years, coupon of 13.5% and a conversion price of VND10,000/share – a 40% discount to the current share price, and a mandatory conversion into shares at maturity. The CBs will only be offered to existing shareholders, so given the attractive terms of the bond we view this as a kind of a rights issue which is likely to boost sentiment for the stock in the lead-up to the ex-date (something similar happened when CII:VN, an infrastructure company, issued CBs with highly attractive terms in 2014). We forecast that the company’s debt-to-equity will peak at 80% in FY16, before falling to 67% in FY17 when the Thuong Kon Tum project comes online. Given
  27. 27. Vinh Son-Song Hinh Hydropower April 2, 2014 27 the strong cashflow, we are not concerned about the company’s debt ratio, especially as those gearing figures are quite reasonable in this industry. Figure 8: Solvency ratios 2013 2014 2015 2016 2017 Net gearing 9.4% 26.9% 40.9% 53.3% 28.3% Total debt to equity 31.3% 61.8% 71.7% 80.3% 67.2% Net debt to asset 6.7% 15.3% 22.1% 27.7% 14.1% SOURCES: CIMB, COMPANY REPORTS Finally, we note that the issuance of this new CB is contingent on VSH signing a new PPA with EVN, but as mentioned previously we believe that is imminent. 3. RISKS 3.1Two key risks: EVN and rainfall The two keys risks facing VSH are the price it gets paid for its electricity from EVN and the amount of electricity it is able to generate due to the variable rainfall every year. To reiterate, EVN may hold out from paying VSH a reasonable price for its electricity for a longer period of time (while the market expects this issue to be resolved in the next month or so), and the other possibility is that the new PPA could resume the payment of reasonable prices to VSH but not be backdated for FY10-13. There is also the possibility that EVN will not pay VSH a fair price on electricity generated at its new hydropower project scheduled to go online in 2017. The second key risk is the amount of rainfall which can vary significantly every year, and has a major impact on the amount of electricity each dam is able to generate. The physical characteristics of each of VSH’s two dams (and their reservoirs) are quite different. The Vinh Son plant’s electricity output is more volatile in the rainy season, and has ranged from 20Gwh to 93Gwh in the past, while the Song Hinh plant’s output varies more in the dry season and has ranged between 122 Gwh and 172Gwh. Figure 9: VSH's seasonal production (Gwh) Rainy season Dry season Lowest 20 146 Highest 93 178 Lowest 80 122 Highest 81 172 Vinh Son Generator Song Hinh Generator SOURCES: CIMB, COMPANY REPORTS 3.2Dilution risk The final key risk that the company faces is the dilution risk that arises from the VND500bn convertible bonds which will be converted in three years' time. The bonds will be converted into 50m shares, equivalent to 24% of its current outstanding shares. However, the convertible bond issuance is effectively a rights issues for its existing shareholders. As such, if the existing investors buy the convertible bonds, their ownership will not be diluted.
  28. 28. Vinh Son-Song Hinh Hydropower April 2, 2014 28 4. FINANCIALS 4.1Review of FY13 results VSH’s FY13 revenue and net profit fell 15% yoy. Revenue declined due to a 20% drop in the electricity output during the year and an 8% drop in the average price of electricity it received from EVN. Also, VSH is sitting on a moderate cash balance because of its strong positive cashflow, so the falling interest rates in Vietnam caused the company’s interest income to decline by 53% yoy, but this was offset by a gain of VND44bn realised from the disposal of VSH’s investment in PPC, the thermal power generator (which is discussed below). Also, we estimate that EVN paid VSH about VND48bn to compensate for a similar amount of resource and royalty fees that VSH had paid to the government over the last three years. EVN is responsible to pay those resource usage fees to the government (as per its PPAs with the hydropower producers), but there is a timing mismatch of when the fees are paid – VSH pays the fees to the government annually but EVN typically reimburses VSH about once every three years. Regarding the drop in electricity output, according to our understanding, the dry season was particularly long last year, with rainfall about 20-25% below the typical levels. The 8% drop in the ASP in FY13 was due to the fact that EVN unilaterally dropped the prices further in FY13, but this drop was partially offset by an increase in the proportion of VSH’s electricity sold in the nascent “free market” from 10% in FY12 to 20% in FY13. To review how this nascent “free market” mechanism works, EVN started allowing the generators to sell a portion of their output at a spot market price which EVN determines based on supply and demand on the grid at any moment. The spot market price EVN offers the generators varies over time, but currently averages out to be about 10% above the PPA prices. Since VSH has low production costs, it is usually enthusiastic to sell in the spot market. In contrast, generators with higher production costs may not be willing to sell additional electricity when the spread between the spot price and the PPA price is not sufficiently attractive. 4.2Forecast for FY14 and beyond VSH’s electricity output is heavily dependent on nature, so we have used a 4-year moving average of VSH’s past production to forecast the future output. Also, VSH is confident that it can sign a new PPA this year with the prices similar to the PPA that expired at the end of 2008. Therefore, we have assumed the company will be paid an average of VND563/kwh (which is based on the weighted average of output in the rainy and dry seasons). Figure 10: Sales volume forecast 2014 2015 2016 2017 Sale volume Gwh 868 875 868 873 ASP VND/kwh 563 563 563 563 SOURCES: CIMB, COMPANY REPORTS The expected increase in ASP during FY14 due to the resolution of the PPA dispute with EVN should prompt a 58% increase in its revenue yoy and 73% increase in its net profit (with the difference between profit growth and revenue growth due to the company’s degree-of-operating-leverage due to its fixed costs). For FY15 and FY16, we expect the company’s profits to be flat, unless the rainfall is better than expected. We expect the company to see significant revenue and profit growth in FY17, when the Thuong Kon Tum project comes online – which we expect to happen one year later than the company’s target
  29. 29. Vinh Son-Song Hinh Hydropower April 2, 2014 29 date of 2016. We forecast FY17 revenue to increase by 210% yoy and net profit to increase by 50% yoy. Figure 4: P&L forecast 2013 2014 2015 2016 2017 Revenue 283 489 492 488 1,510 Cost of sales (56) (84) (89) (94) (400) Gross profit 228 404 404 395 1,110 Operating cost (15) (26) (27) (26) (82) Operating EBITDA 212 378 377 368 1,028 Depreciation cost (75) (86) (86) (86) (285) Operating EBIT 137 292 291 283 743 Associates' profit 1 1 1 1 1 Net interest income 44 90 110 106 (101) Pretax profit 227 383 402 389 643 Taxation (29) (45) (48) (46) (76) Profit after tax 199 337 354 343 566 SOURCES: CIMB, COMPANY REPORTS 4.3Strong cashflow VSH has strong cashflows, given that 50% of its cost comes from depreciation expenses. The company’s cashflow-to-net profit ratio has ranged from 1.1-1.5x. This robust cashflow allows the company to fund its investments internally and pay decent dividends (with yields of around 3%). Figure 12: Net profit & cashflow 2009 2010 2011 2012 2013 Net profit (VNDbn) 375 302 329 234 199 CFO (VNDbn) 414 377 424 379 288 CFO/Net profit 1.1 1.2 1.3 1.6 1.4 SOURCES: CIMB, COMPANY REPORTS 4.4Clean balance sheet VSH has a strong balance sheet with a net debt-to-equity of 9%, and no investments – except for nominal investments in one associate with an investment value of VND13bn (0.3% of its total assets). Some 65% of the company’s total assets are fixed assets, with the in-progress Thuong Kon Tum project accounting for 40% of the total assets. 5. VALUATION AND RECOMMENDATION 5.1 VSH is the lowest cost producer, deserves a higher P/E We initiate coverage on VSH with an Add rating and a target price of VND19,725, based on a forward P/E of 12x, which is 70% higher than the industry average. We believe that VSH’s premium valuation is justified by its competitive advantage, which stems from its low costs, and because VSH is one of only two listed companies in the sector (together with PPC) to have a reasonable market capitalisation and liquidity. The other names in the sector are simply too small for most investors. VSH is trading at a trailing P/E of 16x, based on reported EPS, but we believe that VSH’s EPS figures for the last few years will soon be revised upwards as the new PPA, which is likely to be signed soon, should be backdated to 2010, resulting in a restatement of past earnings. We believe that investors who want exposure to Vietnam’s growing and deregulating electricity sector, should buy VSH in view of its low production costs, imminent capacity expansion, and reasonable valuation (assuming the new PPA is signed at 2009 electricity purchase prices).
  30. 30. Vinh Son-Song Hinh Hydropower April 2, 2014 30 Finally, while all of the listed IPPs, hydropower generators in particular, should benefit from the industry-wide reforms, VSH has the second-largest market capitalisation and liquidity among the electricity stocks in Vietnam. Figure 13: Electricity generators' FY12 valuation and performance ratios ASP Production cost Gross margin Net margin ROE ROA P/E P/B Debt/equity (%) Hydro power producers VSH VN Equity 351 203 53 70 10 7 16 1.2 33 TMP VN Equity 474 307 54 28 17 10 7 1.4 48 TBC VN Equity 522 343 56 50 15 15 8 1.3 1 SJD VN Equity 780 322 59 45 26 15 5 1.1 41 GHC VN Equity 923 248 73 52 49 18 4 2.1 137 DRL VN Equity 814 290 64 59 31 28 9 2.5 0 Average 60 51 25 16 8 1.6 43 Coal power producers PPC VN Equity 832 764 11 12 14 4 5 1.5 167 BTP VN Equity 1,411 1,060 14 9 15 6 7 1.0 85 NBP VN Equity 1,083 1,034 12 5 14 8 8 1.0 0 Average 12 9 14 6 7 1.1 84 Gas power producer NT2 VN Equity 1,172 1,037 12 0 0 0 253 0.7 336 SOURCES: CIMB, COMPANY REPORTS
  31. 31. Power│Vietnam April 2, 2014 THIS REPORT IS PREPARED IN ASSOCIATION WITH CIMB/VNDIRECT SECURITIES CORPORATION. PLEASE SEE DISCLAIMER AND IMPORTANT NOTICES APPEARING AT THE END OF THIS DOCUMENT. IMPORTANT DISCLOSURES, INCLUDING ANY REQUIRED RESEARCH CERTIFICATIONS, ARE ALSO PROVIDED AT THE END OF THIS REPORT. Designed by Eight, Powered by EFA Lights out for forex gains PPC’s share price soared 118% in 2013, thanks to the 17% depreciation of the yen vs. the VND which helped net profit jump 110% in FY13 due to forex gains on US$256m yen-based debt at end-2013 (1x D/E). Profits are likely to halve this year as we do not expect another big drop for yen. We do not expect a repeat of PPC’s windfall forex gains in FY14 or of the windfall gains stemming from reduced output by the hydropower producers in 2013. We initiate coverage with a Reduce call and a target price based on 7x CY14 P/E, on par with the sector average. 2/3 of PPC’s assets trapped in non-core investments PPC generates ample cash but is restricted in how much it can pay out to shareholders under Vietnamese regulations because of the earnings volatility caused by the company’s yen-denominated debt (in FY11, the depreciation of the VND caused a large unrealised loss, in contrast to the unrealised gain in FY13). Currently, 42% of PPC’s assets are in the form of cash and money-market instruments, which generate less than 20% of its pretax profit while 23% of its assets are shareholdings in other utilities. Only 16% of PPC’s assets are proper fixed assets that generate electricity but these assets are the source of almost half the company’s pretax profits. Earnings depend on yen PPC’s yen-based debts equate to 45% of the company's assets so any depreciation/appreciation of the yen materially affects the company’s bottomline. A 13% firming of the yen against the VND would wipe out the company’s net profits while a 10% depreciation of the yen would, ceteris paribus, lead to a 72% jump in PPC’s net profits. Suboptimal output, ageing generators, no growth EVN prefers to buy electricity from hydropower producers because of their low production costs. This means that thermal power producers often run at very low utilisation rates. PPC is sometimes only able to operate one of its six turbines because EVN’s demand for thermal generated electricity is so low. Also, maintenance expenses for the company’s ageing generators are increasing and PPC does not have any plans to increase capacity to benefit from Vietnam’s growing electricity demand. Pha Lai Thermal Power COMPANY NOTE PPC VN / PPC.HM Current VND22,500 Market Cap Avg Daily Turnover Free Float Target VND17,869 US$339.3m US$1.45m 47.7% Prev. Target VND VND7,158,479m VND30,478m 326.2 m shares Up/Downside -20.6% Conviction| | Notes from the Field ———————————————————————————————————————— NGUYEN Xuan Huy T (84) 90 912 3880 E nguyen.xuanhuy@cimb.com T E Company Visit Expert Opinion Channel Check Customer Views ———————————————————————————————————————— 94.0 104.0 114.0 124.0 134.0 144.0 154.0 17,000 19,000 21,000 23,000 25,000 27,000 29,000 Price Close Relative to VNINDEX (RHS) Source: Bloomberg 2 4 6 8 10 Apr-13 Jul-13 Oct-13 Jan-14 Volm Financial Summary Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Revenue (VNDb) 4,131 6,583 5,986 6,285 6,600 Operating EBITDA (VNDb) 1,060 1,596 1,379 1,355 1,173 Net Profit (VNDb) 505 1,632 812 848 994 Core EPS (VND) 1,788 5,374 2,833 2,959 3,434 Core EPS Growth 708% 201% (47%) 4% 16% FD Core P/E (x) 12.68 4.19 7.94 7.60 6.55 DPS (VND) 8.6 999.3 512.7 512.7 512.7 Dividend Yield 0.04% 4.44% 2.28% 2.28% 2.28% EV/EBITDA (x) 7.32 3.73 3.38 2.58 2.08 P/FCFE (x) NA 14.41 6.20 7.06 8.18 Net Gearing 58.7% 8.0% (15.2%) (31.8%) (42.6%) P/BV (x) 1.72 1.33 1.18 1.06 0.95 ROE 16.0% 35.8% 15.8% 14.7% 15.3% % Change In Core EPS Estimates CIMB/consensus EPS (x) 0.82 0.92 1.26 22,500 17,869 18,500 27,700 Target 52-week share price range Current SOURCE: CIMB, COMPANY REPORTS
  32. 32. Pha Lai Thermal Power April 2, 2014 32 PEER COMPARISON Research Coverage Bloomberg Code Market Recommendation Mkt Cap US$m Price Target Price Upside Cypark Resources Bhd CYP MK MY ADD 151 2.72 3.09 13.4% Pha Lai Thermal Power PPC VN VN REDUCE 339 22,500 17,869 -20.6% Tenaga Nasional TNB MK MY ADD 20,314 11.74 14.14 20.4% Vinh Son-Song Hinh Hydropower VSH VN VN ADD 166 17,000 19,725 16.0% 0.00 0.50 1.00 1.50 2.00 2.50 3.00 3.50 4.00 4.50 5.00 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Rolling P/BV (x) Cypark Resources Bhd Pha Lai Thermal Power Tenaga Nasional Vinh Son-Song Hinh Hydropower 0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0 50.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Rolling FD P/E (x) Cypark Resources Bhd Pha Lai Thermal Power Tenaga Nasional Vinh Son-Song Hinh Hydropower 0.0% 1.6% 3.2% 4.8% 6.4% 8.0% 9.6% 11.2% 12.8% 14.4% 16.0% 0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 1.60 1.80 2.00 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Peer Aggregate: P/BV vs ROE Rolling P/BV(x) (lhs) ROE(See Footnote)(rhs) -100% -72% -44% -17% 11% 39% 67% 94% 122% 150% 0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 Peer Aggregate: FD P/E vs FD EPS Growth FD P/E (x) (See Footnote) (lhs) FD EPS Growth (See Footnote) (rhs) Valuation FD P/E (x) (See Footnote) P/BV (x) EV/EBITDA (x) Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Cypark Resources Bhd 11.70 9.62 8.67 1.74 1.73 1.55 8.19 7.97 6.93 Pha Lai Thermal Power 4.19 7.94 7.60 1.33 1.18 1.06 3.73 3.38 2.58 Tenaga Nasional 14.56 13.33 11.68 1.81 1.74 1.74 7.02 6.36 5.82 Vinh Son-Song Hinh Hydropower 17.42 10.34 9.86 1.34 1.23 1.13 17.53 11.23 12.58 Growth and Returns FD EPS Growth (See Footnote) ROE (See Footnote) Dividend Yield Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Dec-13 Dec-14 Dec-15 Cypark Resources Bhd 37.7% 21.6% 11.0% 18.9% 19.2% 20.0% 3.43% 4.13% 4.62% Pha Lai Thermal Power 202.8% -47.3% 4.4% 35.8% 15.8% 14.7% 4.44% 2.28% 2.28% Tenaga Nasional 29.3% 9.3% 14.2% 12.8% 13.3% 14.9% 3.33% 3.90% 4.35% Vinh Son-Song Hinh Hydropower -15.6% 68.4% 4.9% 7.9% 12.4% 11.9% 0.02% 2.94% 2.94% SOURCE: CIMB, COMPANY REPORTS Calculations are performed using EFA™ Monthly Interpolated Annualisation and Aggregation algorithms to December year ends. NPAT/EPS values for calculations and valuations are based on recurring and normalised values for GAAP and IFRS accounting standard companies respectively.
  33. 33. Pha Lai Thermal Power April 2, 2014 33 Forex gains from the revaluation of yen debt Nominal capex planned Share price info Share px perf. (%) 1M 3M 12M Relative -9.2 -26.7 7.4 Absolute -10 -11.4 21.6 Major shareholders % held Genco 2 52.3 REE 22.4 Market Vector ETF 3.9 0.0% 4.0% 8.0% 12.0% 16.0% 20.0% 24.0% 28.0% 32.0% 36.0% 40.0% 0.00 0.20 0.40 0.60 0.80 1.00 1.20 1.40 1.60 1.80 2.00 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 P/BV vs ROE Rolling P/BV(x) (lhs) ROE(See Footnote)(rhs) -100% 0% 100% 200% 300% 400% 500% 600% 700% 800% 0.0 10.0 20.0 30.0 40.0 50.0 60.0 70.0 80.0 90.0 Jan-10 Jan-11 Jan-12 Jan-13 Jan-14 Jan-15 FD Core P/E vs FD Core EPS Growth Rolling FD CoreP/E(x) (lhs) FD Core EPS Growth (rhs) Profit & Loss (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Total Net Revenues 4,131 6,583 5,986 6,285 6,600 Gross Profit 1,157 1,702 1,475 1,456 1,280 Operating EBITDA 1,060 1,596 1,379 1,355 1,173 Depreciation And Amortisation (693) (694) (697) (702) (422) Operating EBIT 367 902 682 652 752 Total Financial Income/(Expense) 271 228 198 263 320 Total Pretax Income/(Loss) from Assoc. (16) (70) 4 7 10 Total Non-Operating Income/(Expense) 158 1,168 0 0 0 Profit Before Tax (pre-EI) 877 2,334 980 1,023 1,187 Exceptional Items Pre-tax Profit 780 2,228 883 922 1,081 Taxation (267) (587) (66) (69) (81) Exceptional Income - post-tax Profit After Tax 513 1,641 817 853 1,000 Minority Interests (8) (10) (5) (5) (6) Preferred Dividends FX Gain/(Loss) - post tax Other Adjustments - post-tax Net Profit 505 1,632 812 848 994 Recurring Net Profit 569 1,710 901 941 1,093 Fully Diluted Recurring Net Profit 569 1,710 901 941 1,093 Cash Flow (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F EBITDA 1,060 1,596 1,379 1,355 1,173 Cash Flow from Invt. & Assoc. Change In Working Capital (99) 354 115 (58) (61) (Incr)/Decr in Total Provisions 16 Other Non-Cash (Income)/Expense (657) (1,356) Other Operating Cashflow 608 1,269 Net Interest (Paid)/Received 261 216 198 263 320 Tax Paid 0 (279) (66) (69) (81) Cashflow From Operations 1,190 1,800 1,626 1,490 1,351 Capex (383) (515) (100) (100) (100) Disposals Of FAs/subsidiaries 0 0 0 0 0 Acq. Of Subsidiaries/investments (40) 0 0 0 0 Other Investing Cashflow (532) (368) 0 0 0 Cash Flow From Investing (955) (883) (100) (100) (100) Debt Raised/(repaid) (407) (421) (371) (376) (376) Proceeds From Issue Of Shares Shares Repurchased Dividends Paid (3) (318) (163) (163) (163) Preferred Dividends Other Financing Cashflow Cash Flow From Financing (410) (739) (534) (539) (539) Total Cash Generated (176) 179 992 851 712 Free Cashflow To Equity (173) 497 1,155 1,015 875 Free Cashflow To Firm 450 1,084 1,654 1,509 1,360 BY THE NUMBERS SOURCE: CIMB, COMPANY REPORTS
  34. 34. Pha Lai Thermal Power April 2, 2014 34 PPC’s fixed assets are already 80% depreciated. Balance Sheet (VNDb) Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Total Cash And Equivalents 4,473 4,939 5,931 6,782 7,494 Total Debtors 1,365 1,408 1,280 1,344 1,411 Inventories 785 939 854 896 941 Total Other Current Assets 17 7 7 7 7 Total Current Assets 6,641 7,292 8,071 9,029 9,854 Fixed Assets 2,560 1,871 1,274 671 350 Total Investments 2,691 2,721 2,725 2,731 2,741 Intangible Assets 0 0 0 0 0 Total Other Non-Current Assets 181 6 6 6 6 Total Non-current Assets 5,432 4,598 4,005 3,409 3,097 Short-term Debt 447 371 376 376 376 Current Portion of Long-Term Debt Total Creditors 203 277 252 264 278 Other Current Liabilities 746 804 731 768 806 Total Current Liabilities 1,396 1,452 1,359 1,408 1,460 Total Long-term Debt 6,485 5,004 4,628 4,252 3,876 Hybrid Debt - Debt Component Total Other Non-Current Liabilities 0 0 0 0 0 Total Non-current Liabilities 6,485 5,004 4,628 4,252 3,876 Total Provisions 0 0 0 0 0 Total Liabilities 7,881 6,456 5,987 5,661 5,336 Shareholders' Equity 4,156 5,396 6,045 6,729 7,561 Minority Interests 35 39 43 48 54 Total Equity 4,191 5,435 6,088 6,778 7,615 Key Drivers Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Power Despatched (GWh) 5,427.3 6,200.0 5,427.3 5,698.7 5,983.6 Capacity (MW) 1,040.0 1,040.0 1,040.0 1,040.0 1,040.0 Average Capacity Utilisation (%) 90.5% 103.3% 90.5% 95.0% 99.7% Avg tariff/ASP per kwh (% chg) N/A N/A N/A N/A N/A Fuel Cost Per Kwh (% Change) N/A N/A N/A N/A N/A Industry Reserve Margin (%) N/A N/A N/A N/A N/A BY THE NUMBERS Key Ratios Dec-12A Dec-13A Dec-14F Dec-15F Dec-16F Revenue Growth 10.5% 59.4% (9.1%) 5.0% 5.0% Operating EBITDA Growth (1.2%) 47.1% (13.3%) (1.3%) (12.1%) Operating EBITDA Margin 28.0% 25.9% 24.6% 23.2% 19.4% Net Cash Per Share (VND) (7,730) (1,371) 2,912 6,769 10,189 BVPS (VND) 13,063 16,960 19,000 21,152 23,764 Gross Interest Cover 2.25 6.50 6.05 6.35 7.89 Effective Tax Rate 34.2% 26.3% 7.5% 7.5% 7.5% Net Dividend Payout Ratio 0.5% 18.3% 18.0% 17.2% 14.8% Accounts Receivables Days 95.47 73.47 81.76 76.02 76.23 Inventory Days 90.75 64.46 72.51 66.12 63.20 Accounts Payables Days 24.18 17.94 21.39 19.50 18.64 ROIC (%) 10.4% 25.5% 24.7% 30.9% 45.3% ROCE (%) 9.1% 12.7% 10.1% 10.1% 11.1% SOURCE: CIMB, COMPANY REPORTS
  35. 35. Pha Lai Thermal Power April 2, 2014 35 A play on the JPY 1. BACKGROUND 1.1 Company overview PPC is a coal-fired power generator located in the north of Vietnam. Established in 1982, it was listed on the Hanoi stock exchange in 2006 but moved its listing to the HCMC stock exchange in 2007. PPC owns two coal-fired plants - Plant 1 (440MW) which has been operating since 1986 and Plant 2 (600MW) which has been operational since 2002. It also has a 50%-owned subsidiary which maintains power plants. PPC owns 21% of Hai Phong Thermal Power, which has 1,200MW of generating capacity. EVN owns 52% of PPC while REE (a listed conglomerate described below) owns 22%. The Market Vectors ETF currently owns 3% of the outstanding shares. 1.2 Simple business, complicated PPA Nearly 100% of PPC’s revenues are derived from the sale of electricity to EVN. PPC has two PPA contracts with EVN for each of its plants due to the differences in the production costs and efficiency of its two plants resulting from their different ages. EVN’s contracted purchase price for the electricity that PPC generates has two components – a fixed price component which covers depreciation and other fixed overheads, and a variable price component which varies largely in line with the price of coal. Plant 1 is quite old so the fixed price that EVN pays per kwh of electricity generated by Plant 1 is lower than that for Plant 2. But Plant 1’s age also makes it less efficient than Plant 2, leading to a higher variable price per kwh than Plant 2. Figure 1: PPC's factory Unit Plant 1 Plant 2 No of turbines 4 2 Capacity MW 440 600 Fixed price VND/kwh 291 429 Variable price VND/kwh 733 541 SOURCES: CIMB, COMPANY REPORTS Although the variable price component fluctuates with the price of coal, the PPA also incorporates the fact that PPC purchases its coal at a price which is about 10% below the market price in determining the price PPC is paid (recall from the industry overview that EVN targets an ROE of the 5-year VGB yield plus 300bp for the IPP’s). 1.3 PPC’s share price is a play on yen PPC’s share price is closely correlated with the yen, as can be seen in the chart below. Table of Contents 1. BACKGROUND p.5 2. OUTLOOK p.7 3. RISKS p.8 4. FINANCIALS p.9 5. VALUATION AND RECOMMENDATION p.12
  36. 36. Pha Lai Thermal Power April 2, 2014 36 Figure 2: PPC vs. yen 65 70 75 80 85 90 95 100 105 110 0 5,000 10,000 15,000 20,000 25,000 30,000 PPC JPY SOURCES: CIMB, COMPANY REPORTS, BLOOMBERG This correlation stems from PPC’s exposure to yen via its yen-denominated debt. At end-FY13, PPC had total debt of 26.9bn yen (VND5,374bn or 45% of PPC’s total assets). The debt arose from the assistance programme by the Japanese government. The Japan Bank for International Cooperation, a Japanese ODA agency, lent the money to EVN which, in turn, extended the loan on a back-to-back basis to PPC. The loan has an average interest rate of 2.45% p.a. Profits linked to yen Given the magnitude of the yen-denominated debt, movements in the value of the yen have a strong impact on PPC’s profit. In recent years, PPC booked large unrealised forex losses due to the firming of the yen against the VND. These forex losses reduced the company’s profits to nearly zero in FY10 and FY11. However, the VND stabilised in 2012-2013 due to Vietnam’s ‘Resolution 11’ programme to cool inflation and boost FX reserves while the yen depreciated because of dramatic loosening of monetary policy in Japan as part of the ‘Abenomics’ programme. PPC’s forex losses turned to a nominal profit in FY12 and a material profit in FY13, which resulted in a significant increase in the company’s net profit from VND7bn in FY11 to VND513bn in FY12 and VND1,641bn in FY13. Figure 3: PPC's forex profit/loss 2009 2010 2011 2012 2013 Total debt (VNDbn) 6,893 7,329 8,172 6,932 5,374 Net forex loss/profit from revaluation of debt (VNDbn) -528 -836 -603 38 1,160 Net profit (VNDbn) 892 4 7 513 1,641 SOURCES: CIMB, COMPANY REPORTS The company’s experience of 2009-2013 illustrates that forex profit is now the key driver of the company’s profit from year to year because PPC is largely insulated from changes in the coal price, its PPA with EVN is stable and it does not have any major expansion plans.
  37. 37. Pha Lai Thermal Power April 2, 2014 37 2. OUTLOOK 2.1 Uncertain future under deregulation One big uncertainty for PPC is what will happen to its PPA with EVN when its 10% coal price subsidies from Vinacomin are eventually eliminated. As Vietnam is set to become an importer of thermal coal within the next few years, it is very likely that Vinacomin, the SOE coal company, will begin charging the power generators market prices for coal within the next few years. It is not clear if PPC would be profitable if it had to pay market prices for coal. Management had no answer when we pressed it on this issue, saying that it would wait for instructions from EVN. 2.2 Ageing assets PPC’s assets have been in use for almost 30 years and are already 80% depreciated. At the current rate of depreciation, the company’s assets will be fully depreciated in three years’ time, i.e. by FY16. Depreciation costs account for 18% of the company’s cost of goods sold. As such, we forecast that the company’s production cost will be lower by FY16. Figure 4: PPC's fixed assets 2010 2011 2012 2013 Gross fixed asset (VNDbn) 13,521 13,702 13,811 13,806 Accumulated depreciation (VNDbn) (9,864) (10,574) (11,250) (11,935) Net fixed asset (VNDbn) 3,656 3,128 2,560 1,871 Annual depreciation (VNDbn) (811) (695) (693) (694) Depreciation/gross fixed asset 6% 5% 5% 5% Accumulated depreciation/gross fixed asset 73% 77% 81% 86% SOURCES: CIMB, COMPANY REPORTS Although lower depreciation expense will boost accounting earnings, the company’s ageing assets will also result in increased maintenance expenses and reduced revenues. For example, in 2013 when the level of rainfall in Vietnam was abnormally low, PPC had the opportunity to ramp up its output and boost its revenues. The company operated at full utilisation for much of the year, which is unusual given EVN’s preference for cheaper hydro-generated electricity. However, PPC’s windfall revenues were dampened in 3Q when one-third of PPC’s generating capacity was offline due to maintenance issues. Figure 5: Maintenance costs (VND bn) 0 100 200 300 400 500 600 700 2009 2010 2011 2012 SOURCES: CIMB, COMPANY REPORTS
  38. 38. Pha Lai Thermal Power April 2, 2014 38 3. RISK 3.1JPY/VND exchange rate The company's main risk is obviously its exposure to the yen:VND exchange rate. Our sensitivity analysis below assumes an average gross margin of 30% and uses 6Twh of production as the base case. In this scenario, a 10% yen depreciation would translate into a net profit of VND1,348bn while a 10% firming of the yen would cause the company’s net profit to fall to VND211bn. Figure 6: PPC's profit sensitivity analysis Net profit (VNDbn) -10% -5% 0% 5% 10% 7.0 419 703 988 1,272 1,556 6.5 315 599 884 1,168 1,452 6.0 211 496 780 1,064 1,348 5.5 107 392 676 960 1,244 5.0 4 288 572 856 1,140 Net profit growth (%) -10% -5% 0% 5% 10% 7.0 -46% -10% 27% 63% 100% 6.5 -60% -23% 13% 50% 86% 6.0 -73% -36% 0% 36% 73% 5.5 -86% -50% -13% 23% 60% 5.0 -100% -63% -27% 10% 46% Depreciation of JPY against VND Production (Twh) Depreciation of JPY against VND Production (Twh) SOURCES: CIMB, COMPANY REPORTS 3.2EVN’s preference for cheap hydropower The company's second key risk is EVN's preference for hydro-generated power, which means that PPC sometimes operates its two plants at very low utilisation rates. PPC’s production depends on EVN's needs but EVN sources power from the hydropower companies whenever it can due to the lower cost of electricity generated via hydropower. EVN reflects the intrinsically lower costs of hydro-generated electricity in the prices it pays the hydropower producers; in the case of VSH discussed above, EVN went as far as to renege on the PPA it signed with the hydropower producer and is currently paying VSH an arbitrarily low price for the electricity it generates. The net result of this is that PPC’s production will only be mobilised if production from the hydropower companies cannot meet the needs of the grid at any moment. PPC indicated that sometimes, only one of its six turbines would be operating as a result of good production from the hydropower companies. Figure 7: Production
  39. 39. Pha Lai Thermal Power April 2, 2014 39 0 1,000 2,000 3,000 4,000 5,000 6,000 7,000 8,000 2007 2008 2009 2010 2011 2012 2013 Production Capacity SOURCES: CIMB, COMPANY REPORTS This situation strikes us as somewhat ironic. Thermal power producers usually face higher production costs but their output is stable because they are not subject to the vagaries of nature. In PPC’s case, it is indirectly (and inversely) affected by the amount of rainfall in Vietnam because an increase in the flow of water to the hydropower generators results in a drop in demand for their electricity. 4. FINANCIALS 4.1 Review of 2013 In FY13, PPC’s revenues rose 59% and earnings leapt 223%, which explains why PPC’s share price shot up 118% during the year. Two factors boosted revenues 1) PPC’s output increased 14% in FY13. Vietnam experienced unusually dry weather with rainfall 20-25% below its typical levels, forcing EVN to rely more heavily on thermal power producers, 2) the price PPC sells its electricity to EVN increased about 38% in FY13. This is because input coal prices increased 50% in 2013. Recall from the above discussion on PPC’s PPA that EVN includes a built-in offset against fluctuating input costs in the contract so that part of the coal price hikes flowed through to EVN. Note: recall from the industry overview that Vietnam is unwinding its elaborate system of subsidies and cross-subsidies. The price of coal that Vinacomin charges the thermal generators was hiked 27% in April and 14% in August as part of a process to bring coal prices in line to world market prices – because Vietnam will become an importer of coal within the next few years. Next, earnings leapt because of the 17% depreciation of the yen versus the VND. Note that this depreciation triggered a VND1,136bn net currency gain but a 10% depreciation of the yen during FY12 resulted in only VND105bn currency gains (and earnings did not soar in FY12) because the majority of the profits generated from FY12’s 10% yen depreciation were offset against unrealised FX losses from the appreciation of the yen against VND in prior years. Finally, we estimate that earnings would have fallen by 2% in 2013 had the exchange rate been stable during the year.
  40. 40. Pha Lai Thermal Power April 2, 2014 40 4.2 Forecast of 2014 and beyond We expect PPC’s revenues to fall 9% in FY14 and profits to fall 60%. FY13 revenues were abnormally high, partly due to the low production from the hydropower companies. As we do not expect a repeat of the dry conditions seen in FY13, we expect PPC’s electricity output to fall 12% in 2014, i.e. back to its more typical level in recent years. Also, we forecast that the selling price of PPC’s electricity will increase 5% annually for the next few years to compensate for rising coal prices. We do not expect more coal price hikes in the short term after the series of aggressive hikes over 2012-13. Also, while the coal prices that power generators in Vietnam pay are not yet up to the level of world prices, they have over the past few years increased to the extent that coal miners are near breakeven levels compared to the costs of digging the coal out of the ground. This has reduced somewhat the urgency to raise coal prices. Finally, the company does not have plans to expand its generating capacity so we only expect nominal revenue growth for the next few years. As mentioned above, PPC seems to be employing a strategy of raising capacity indirectly by investing in other power generators, rather than building its own capacity. On the subject of PPC’s profits, we do not expect the yen to depreciate significantly in FY14, which means that there should not be a repeat of FY13’s windfall forex gain. As a result, we forecast FY14’s net profit to fall by 50%. This is the profit from the company’s core business. Any depreciation/appreciation of the yen would affect our forecast. We expect PPC’s earnings to be fairly stable given the company’s lack of expansion plans. While we are not experts on exchange rates, we expect more stability for the yen:VND exchange rate going forward, compared to the last two years. Figure 8: P&L forecast (VNDbn) 2014 2015 2016 Revenue 5,986 6,285 6,600 Cost of sales (4,511) (4,829) (5,320) Gross profit 1,475 1,456 1,280 Operating cost (96) (101) (106) Operating EBITDA 1,379 1,355 1,173 Depreciation (697) (702) (422) Operating EBIT 682 652 752 Associates profit 4 7 10 Net interest income 198 263 320 Forex gain/loss 0 0 0 Others non-operating income 0 0 0 Pretax profit 980 1,023 1,187 Tax (66) (69) (81) Profit after tax 817 853 1,000 SOURCES: CIMB, COMPANY REPORTS 4.3 Lending to EVN PPC has lent VND2,350bn to EVN. This cross-lending is common among EVN and its subsidiaries and has raised concern among investors that EVN’s subsidiaries (including PPC) are coerced to lend to their cash-strapped parent. In the case of VSH, as discussed at length above, one of the reasons for the dispute between EVN and VSH is thought to be the fact that VSH cut off its loans to its parent. 4.4 Two-thirds of PPC’s assets are trapped in investments At end-FY13, PPC had VND2,724bn (23% of its total assets) worth of long-term investments and VND4,938bn (~42% of total assets) in cash, trust investments

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