InterRAO - No News Is Bad News

InterRAO held a long-awaited strategy event today. However, in our view, the main questions surrounding the company's investment case remain unanswered. The management team presenting (which did not include the CEO) reiterated the company's "balanced" target dividend payout of 25% of IFRS net income, indicated that the quasi-treasury shares will not be used for M&A in the short term and provided no guidance on the M&A appetite in the Russian market. The BoD has not yet approved a management incentive program, and its approval does not appear to be a priority right now. We consider these developments negative and expect the stock to continue to weaken, as the management's comments failed to point to InterRAO's fundamental value being unlocked any time soon.> Strategy. Unsurprisingly, the company named electricity generation as its top priority, with retail in second place and the energy equipment business a potential growth driver. None of this represented new information for the market. The management indicated that capex would total R500 bln through 2025 and R1 trln over 2020-30, while the debt/EBITDA ratio should stay below 1.5.> Greenfield/brownfield capex; comments on M&A. The management mentioned M&A as an option (both the purchase of stakes in generating companies and separate power plants), but provided no tangible comments: it did not indicate the maximum amount of cash it could spend on non-organic growth and did not provide a breakdown of EBITDA growth between organic and non-organic growth. In terms of major growth opportunities, the company is focused on modernization contracts. The management expects the contracts already allocated with COD in 2022-25 to require roughly R50 bln of capex and generate R9.4 bln of EBITDA per year. InterRAO expects higher capex per kW of capacity modernized as a result of upgrades to its CCGT technology, meaning that both the capital requirements and earnings potential of this market should increase. Modernization contracts for another 4.8 GW may be allocated in future tenders, including 1.5 GW of CHPs, but no capex or EBITDA guidance was provided for these new projects. On top of this, specific projects like the creation of infrastructure for the Vostok Oil project could also require additional capex and would be attractive should there be a guaranteed return mechanism. > Dividends. InterRAO's dividend approach has been "no less than 25% of IFRS net income," but today the CFO commented that the management regards 25% as a "balanced" payout, which would allow the company to continue to grow. The company expects its bottom line to more than double or even triple by 2030, which would boost the DPS as well. However, as far as we understand, the 25% payout will be the base case for the medium term.> Management incentive program. The long-term incentive program has been developed and envisages TSR, FCF and strategic priorities as long-term KPIs, but the presenting team indicated that the program has not yet been considered by the BoD and that "it might not be appropriate to consider it now." We believe the market has been treating the program as a significant trigger for the share price, so the lack of clarity over the potential approval of the program is likely to disappoint investors.