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HUBC: Starting afresh on strong footing, (AKD Detailed Report, September 25' 2019)

Hub Power Company Limited  (Detailed Report)

 

Starting afresh on strong footing

We reinstate our Buy stance on Hub Power Company Ltd (HUBC) with TP of PKR140/sh (right adjusted), implying an upside of 91% on last close. HUBC’s successful foray in coal power projects (CPHGC, TEL and SECMC c. EPS contribution: PKR14.07/sh, 50% of FY22F EPS) is expected to translate into 3 year earnings CAGR of 42%. Additional value accretion may emanate from: (i) financial close of HUBC’s 38.3% owned ThalNova Power project (EPS impact of PKR1.20 post CoD, not yet incorporated), and (ii) clarity on desalination project. Meanwhile we expect piecemeal payouts to resume in 2HFY20, which are then expected to steadily increase as power plants move past their gestation stage. With HUBC’s D/A breaching Shariah compliant level in 3QFY19, potential sell-off from Islamic mutual funds has kept a cap on HUBC’s price performance. Meeting further CAPEX financing (PKR8bn) through shariah compliant methods, and partial conversion of existing debt into Sukuks may potentially keep HUBC Shariah compliant in the upcoming review, catalyzing price performance.

Dominating Pakistan’s Power space: Amid a stream of new power plants, HUBC is expected to continue to dominate Pakistan’s power space, with 1,980+ MW of generation capacity addition to its portfolio over FY19-21F.  HUBC’s 47.5% owned 2x660MW imported coal based power project (China Power Hub Generation Co. – CPHGC) has already commenced operations in Aug’19 (Jun’19 load factor of ~40%), while 60% owned 330MW Thar Energy Ltd (TEL) will commence operations in FY21F. HUBC’s successful foray in coal power projects (CPHGC, TEL and SECMC - c. EPS contribution: PKR14.07/sh, 50% of FY22F EPS) is expected to translate into 3 year earnings CAGR of 42%. HUBC has also bought 38.3% stake in ThalNova power project in Mar’19, which is expected to achieve financial close by 1HFY20 (CoD: FY21). The project will add PkR1.2/sh to HUBC’s bottomline, assuming 100% debt financed equity investment in the project. However, we await financial close of the project before incorporating the same in our estimates.

Payouts to improve in medium term: HUBC’s CAPEX requirements imply a financing gap of PKR7-8bn, post 12.1% right issue in Apr’19 and after taking complete drawdown of long term finance facility into account. We expect payouts to resume in 2HFY20, in the best case scenario, where elevated leverage levels - D/A at ~40% on average over FY19-21F - shall constrain payouts in the medium term. The payouts are however, expected to steadily increase as power plants move past their gestation stage. We foresee FY20/21/22F DPS of PKR2.0/8.0/11.0, based on improving consolidated FCFE, implying D/Y of 2.7/11.1/15.3%., at last close vs. 10yr PIB rate of 12.1%.

From IPP to IPWP? The company’s management is considering to convert its 1,292MW Hub Base plant into a non-recycled waste based desalination plant. Karachi’s non-recycled waste (13,240 TPD) could generate around 200 MW electricity which could be used to run desalination plants to produce 175-190 million gallons per day (MGD) of potable water (550 MGD of water shortage in Karachi). While non-recycled waste may utilize only one out of four 300MW units of the Base plant, a new water desalination plant of 200 MGD capacity would cost US$400mn (PKR62bn), where project financing appears to be a herculean task for HUBC at the moment, given its cash-stressed B/S.  Assuming HUBC’s 50% stake in the US$400mn water desalination plant, with 25% RoE, it would translate into a positive EPS impact of PKR0.81/sh on its bottomline, assuming 100% debt-financed equity.

Investment Perspective: With HUBC’s D/A breaching Shariah compliant level in 3QFY19, potential sell-off from Islamic mutual funds has kept a cap on the scrip’s  price performance (3M: -ve10.04%). Meeting further CAPEX financing through shariah compliant methods (similar to PKR8.5bn raised in 3QFY19), and partial conversion of existing debt in Sukuks may potentially keep HUBC’s leverage levels compliant in upcoming review (Nov’19), catalyzing price performance. Our TP of PKR140/sh implies an upside of 91% on last close—Buy!

AKD Research