EUR 850.00 For Business Accounts Only

Morningstar | Contact Energy's Hydro Assets Lift 1H Profit; Shares Fairly Valued

Narrow-moat-rated Contact Energy had a strong first-half fiscal 2019 with underlying EBITDA up 28% to NZD 278 million, underlying NPAT more than doubling to NZD 97 million, and interim dividends up 23% to NZD 16 cents per share. Dividend guidance has been increased to NZD 39 cents per share for the full year, from NZD 35 cents per share, based on a new dividend policy of paying out 100% of operating free cash flow. We increase our fiscal 2019 EBITDA forecast by 1% to NZD 544 million, including the discontinued LPG business, but our longer-term forecasts are mostly unchanged. The firm has performed strongly in recent years. Earnings have recovered with normalising rainfall, and its balance sheet has improved. We retain our NZD 6.20 fair value estimate, and last trading at NZD 6.32 per share, Contact is fairly valued.

Wholesale EBITDA increased 31% to NZD 243 million. The strong result was driven by the generation segment, with higher wholesale prices and lower generation costs. The wholesale market remains volatile, with lower national storage levels and constrained gas production causing the spot electricity price to spike, and near-term futures to lift.

Contact’s total generation was roughly flat compared with first-half fiscal 2018, but lower generation from gas-fired power stations balanced a 10% lift in renewable generation. Given the largely fixed costs of Contact's moaty renewable assets, generation costs for the half were lower than the previous corresponding period. Hydroelectric generation of 2,045 GWh is up 25% after cycling a dry first half of fiscal 2018 and is tracking in line with historical averages. This outpaces our previous full fiscal 2019 forecast of 3,700 gigawatt hours as we previously expected hydroelectricity volumes to return to historical averages of 3,900 GWh from 2021. Higher hydroelectric volumes were partially offset by 4% lower geothermal generation due to a planned outage in Wairakei.

Customer EBITDA increased 7% to NZD 48 million. Despite this slight increase in EBITDA, thanks to reductions in cost to serve and network costs, retail competition remains tough. Competition from both pure-play retailers and the large gentailers are squeezing retail prices, and Contact continues to leak customers. The firm's customer numbers are down 2.5% over the last year--although there are signs of this beginning to stabilise over the last few months. We forecast this segment continues to struggle with lower demand, falling customer numbers, and downward pressure on retail prices in the medium term. However, over the longer term, we expect a more rational environment.

The sale of Ahuroa gas storage and Rockgas LPG over the first half contributed NZD 438 million in net cash proceeds. With net debt down to conservative levels, Contact's balance sheet looks stronger than it has in years. We forecast net debt/adjusted EBITDA falls from 3.1 in fiscal 2018 to 1.9 in fiscal 2019. With debt now at comfortable levels, the firm increased dividend guidance on a new policy of paying out 100% of adjusted operating free cash flow. Management stressed the importance of keeping dividends consistent, so expect them to smooth the impact of variable rainfall and capital expenditure.