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Morningstar | Limited Impact from EnergyAustralia Impairment; CLP FVE Unchanged at HKD 82. See Updated Analyst Note from 23 Jun 2019

With the ongoing changes in regulatory policies in Australia, CLP will take an estimated goodwill impairment charge of HKD 6 billion to HKD 7 billion for its EnergyAustralia operation. The impairment charge is noncash and a slight revision to our forecasts sees no impact on our fair value of HKD 82. The impairment charge was attributable to the implementation of Default Market Offer, which essentially reapplies regulation on retail electricity prices in New South Wales, Queensland, and South Australia. Separate regulated pricing will apply in Victoria from July 1, 2019.

The regulation will see retail customers moving to the default market offer, which is lower than the current standing offer. As such, the reregulation will see a reduction in electricity tariffs and CLP noted a negative impact of HKD 240 million to HKD 300 million in second-half earnings in 2019. As previously noted, EnergyAustralia had a limited number of customers on standing offers and the impact is smaller relative to peers. Prior to this, discounts were also offered to customers on standing offers. For the five months, operating earnings for EnergyAustralia is expected to be HKD 731 million, excluding the goodwill impairment but including a noncash fair value impact from economic hedges. This is materially lower than the HKD 2.3 billion in first half 2018 earnings. With CLP’s diversified earnings, the overall impact on CLP’s earnings is limited to less than 5%.

Management maintained a view that the Australian business remains sound with the retail and wholesale business providing a natural hedge. While regulation has tightened and reduced profitability for electricity operators in Australia, regulation remains transparent, in our view. The transition to renewables will continue to see a period of change in regulation and opens up new investment opportunities. EnergyAustralia has bolstered its renewable assets in the generation portfolio through direct investments, power purchasing agreements, and developments in storage facilities. The company has committed to two commercial scale battery projects in Victoria. With limited opportunities in the region after the partial divestment of its Indian operation, we expect further investments in Australia.

For the Victorian Default Offer, allowance is designed to capture the efficient operation of the retail business, modest customer acquisition and retention costs and applies a maximum retail profit margin. An EBITDA retail operating margin of 5.7% will apply and in all, the regulator expects electricity prices in Victoria will decline by an average of 18% to 24%, based on a consumption of 4,000 kWh.