Utility price hikes misread by the market

Remain OW on valuation, low-risk profile, and growth visibility. We expect Tabreed to grow its EBITDA by 11% y-o-y in 2018. Of this, 5% is from S&T consolidation, while 2% is from 65k RT* of backlog, 50% of which is due in 2H18. New connections, along with an increase in the UAE’s CPI, provide high EBITDA growth visibility. We raise our 12M TP by a marginal 2.3% to AED2.66/share, factoring in further utility price hikes in Abu Dhabi (c55% of capacity), to illustrate that utility price hikes are positive for Tabreed’s investment case. The stock, among our MENA top picks, trades on 2018e and 2019e EV/EBITDA of 9.4x and 8.4x, respectively, 11% and 18% discounts to global utility peers, with a 2018-20e EBITDA CAGR of 5.2% vs. 4.6% for peers, and a 2018e dividend yield of 4.6%.

Factoring in utility subsidy removal is positive. We foresee a c130bps EBITDA margin dilution p.a. over 2020-23, to account for the possibility that utility prices in Abu Dhabi reach AED0.38/kWh by 2023 (terminal year), in line with Dubai’s tariffs (subsidy-free), from the current AED0.20/kWh. As utility costs are 100% pass-through, any increase raises low-margin consumption charges’ contribution to top line (capacity/consumption revenue split of 52/48 by 2023e vs. current 60/40), diluting margins (43.7% by 2023e, down from a peak of 47.7% in 2020e), but increasing our EBITDA estimates over 2020-23 by c2% p.a.. Higher utility prices should accelerate DC adoption across the GCC, as its relative cost efficiency rises, increasing CPI, which would raise the high-margin capacity charges contribution.

Deleveraging leaves scope for M&A; upside from ENGIE yet to unfold. Falling net debt/EBITDA of 3.4x and 2.8x in 2018e and 2019e, respectively, should result in further growth, dividend expansion, and possible M&A. The introduction of ENGIE as a 40% shareholder (as of Jun-17) should hasten Tabreed’s penetration in Egypt, Turkey, and India (although this does not appear to be imminent). Risks include: i) receivables collection, as 1Q18 DOH came in at 158 days, 36% higher than 2016-17 average, ii) unfavourable changes to large concessions in the UAE (top three clients = c60% of 2017 revenue), iii) business risk in Qatar (44% owned, c5% of our TP), and iv) introduction of new DC regulations in the UAE.

Note (*): RT refers to refrigeration tonnes

Remain OW on valuation, low-risk profile, and growth visibility. We expect Tabreed to grow its EBITDA by 11% y-o-y in 2018. Of this, 5% is from S&T consolidation, while 2% is from 65k RT* of backlog, 50% of which is due in 2H18. New connections, along with an increase in the UAE’s CPI, provide high EBITDA growth visibility. We raise our 12M TP by a marginal 2.3% to AED2.66/share, factoring in further utility price hikes in Abu Dhabi (c55% of capacity), to illustrate that utility price hikes are positive for Tabreed’s investment case. The stock, among our MENA top picks, trades on 2018e and 2019e EV/EBITDA of 9.4x and 8.4x, respectively, 11% and 18% discounts to global utility peers, with a 2018-20e EBITDA CAGR of 5.2% vs. 4.6% for peers, and a 2018e dividend yield of 4.6%.

Factoring in utility subsidy removal is positive. We foresee a c130bps EBITDA margin dilution p.a. over 2020-23, to account for the possibility that utility prices in Abu Dhabi reach AED0.38/kWh by 2023 (terminal year), in line with Dubai’s tariffs (subsidy-free), from the current AED0.20/kWh. As utility costs are 100% pass-through, any increase raises low-margin consumption charges’ contribution to top line (capacity/consumption revenue split of 52/48 by 2023e vs. current 60/40), diluting margins (43.7% by 2023e, down from a peak of 47.7% in 2020e), but increasing our EBITDA estimates over 2020-23 by c2% p.a.. Higher utility prices should accelerate DC adoption across the GCC, as its relative cost efficiency rises, increasing CPI, which would raise the high-margin capacity charges contribution.

Deleveraging leaves scope for M&A; upside from ENGIE yet to unfold. Falling net debt/EBITDA of 3.4x and 2.8x in 2018e and 2019e, respectively, should result in further growth, dividend expansion, and possible M&A. The introduction of ENGIE as a 40% shareholder (as of Jun-17) should hasten Tabreed’s penetration in Egypt, Turkey, and India (although this does not appear to be imminent). Risks include: i) receivables collection, as 1Q18 DOH came in at 158 days, 36% higher than 2016-17 average, ii) unfavourable changes to large concessions in the UAE (top three clients = c60% of 2017 revenue), iii) business risk in Qatar (44% owned, c5% of our TP), and iv) introduction of new DC regulations in the UAE.

Note (*): RT refers to refrigeration tonnes