KEL - Re-intiation Report (AKD Research Apr'30 2015).pdf

1

Pakistans largest vercally integrated electric ulity connues on a growth trajectory. Growth is predominantly underpinned by: 1) persistent reducon in T&D losses (currently at 23.8%, ~2% cut p.a. down from 36% in FY09), 2 substanal governance turnaround, 3) improved fleet e-ciency and 4) enhanced transmission infrastructure. With several projects in the pipeline, growth and value creaon are set to connue simultaneously in the medium and long term (5yr forward EBITDA CAGR of 18.5%). The debt re-profiling post issuance of PkR22bn Sukuk, has aligned KELs capital structure with planned long term investment prospects, while capitalizing on the current low interest environment (reducing weighted average interest rate by ~2%). Moreover, the remaining PkR395bn in deferred tax assets, of which PkR290bn are deducble by FY17, further the case for sharp EPS growth. With a 5yr forward NPAT CAGR of 40.8%, we be-lieve KEL oers an undemanding valuaon set (FY16F/17F P/E of 6.1x/4.5x ) underpinning our bullish stance. Based on our Dec15 TP of PkR13.5/share, the stock oers an upside of 82% from last close - BUY! Strong track record: ThepersistentdecreaseinT&D(36%inFY09to23.8%on1HFY15)accompaniedby increase infleeteciency(30.4% inFY09to37.0% inFY14)makeupforthecoreoftheturnaroundaectedbyAbraajcontrolledmanagement.The impactofqualitavechanges iswellreflectedinthecompanysfinancialperformancewhereitachievedaposiveEBITDAbyFY11andPBTwasinthegreenzonebyFY12.ThisconnuousgrowthintheboomlineenabledKELtopostNPATofPkR12.9bn(EPS:PkR0.47)inFY14.WiththistrendlikelytoconnueweesmatethecompanysEBITDAtoexpandbya5yrCAGRof18.5%.Projects in the pipeline: FollowingformalapprovaloftheKenergysgeneraonlicenseandtari,two units of BQPSI (420MW) are to undergo coal conversion by FY17. Furthermore, KEL hassignedanMoUforanEPCcontractwithChinaDatangCorporaonfora700MWGreenfieldcoalpowerplant.AlsodevisedisaUS$300mntransmissionpackagespreadover3yrsforrehabilitangandenhancing transmission lines,undergroundcables,gridandsubstaons.Theseplannedprojectsaimtoenhanceoperaonsby:1)increasinglowcostgeneraon(coalgeneraonatPkR4.1/KwHvs.PkR14.3/KwHforRFO),2)curbingremainingT&Dlosseswithinfrastructureimprovements(1%reduconinT&Dadds~PkR0.1/share)and3)execungnewventurestomodernizetheulity.Capital Restructuring:DebtrestructuringallowsKELtocapitalizeonprevailingmonetaryeasingbyreducingfinancialcharges (~16%YoYreducon inFY16F), improvingcashflowsandreducingtheweightedaveragecostofdebt.Aligningthedebtstructuretothefirmslongtermprojectcommitments,while leaving room foraddionalborrowing, thePkR22bnSukuk issue (withgreen shoeoponofPkR2bn)connectsshorttermliquiditywithlongtermcapitaleciency.Remainingsizeableaccrued taxbenefitsofPkR395bn,withPkR290bndeducblebyFY17,bringing5yr forwardNPATCAGRto40.8%.Investment Perspecve: RFOpriceseasingoby41%FY15TD,allowsforareducon,notonlyinthecostofgeneraonbutalsothecostofpurchasedelectricity.Addionally,duetothebuilt inallowancefor15%T&Dinthemulyeartari(MYT),thequantumofaddionallosses(past15%)bornby the company is curtailed.Coupledwith improvements in thedebt structureunlockingcashflows,increasedCAPEXdeliveringvalue,KELisposionedforpriceperformance.ValuesignifiedbyFY16F/FY17FP/BVof1.6x/1.2xandorganic cashflowgeneraon signaledbya5yrCFOCAGRof41.8%,armourbullishstanceonthescrip.ThescripatpresenttradesatFY16F/FY17FP/Eof6.1x/4.5xandprovidesanupsideof82%againstourDec15TPofPkR13.5/share,BUY!

Electrifying returns yet to be priced in!

[email protected]

April30,2015AKD Equity Research / Pakistan

Important Disclosure: Importantdisclosuresincludinginvestmentbankingrelaonshipsandanalystcerficaonatendofthisreport.AKDSecuriesdoesandseekstodobusinesswithcompaniescoveredinitsresearchreports.Asaresult,investorsshouldbeawarethatthefirmmayhaveaconflictofinterestthatcouldaecttheobjecvityofthereport.Investorsshouldconsiderthisreportasonlyasinglefactorinmakingtheirinvestmentdecision.

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Insight Price:PkR7.41,TargetPrice:PkR13.5,PotenalUpside:82%KEl: K-Electric

Priced on April 29, 2015

KSE-100 Index

33,460.01

KSE Market Cap

PkR7,265bn (US$71,35mn)

KATS Code KEL Bloomberg Code KEL.PA Price PkR 7.41

MarketCap(PkRmn) 204,629MarketCap(US$mn) 2,026Shares(mn) 27,615

3MHigh(PkR) 8.763MLow(PkR) 6.11

1YrHigh(PkR) 10.291YrLow(PkR) 6.11

3MAvgTurnover'000 13,2641YrAvgTurnover'000 10,848

3MAvgDTValue(PkRmn) 102.753MAvgDTValue(US$mn) 1.02

1YrAvgDTValue(PkRmn) 89.051YrAvgDTValue(US$mn) 0.88

KELvs.KSE100Performance

20%10%0%

10%

20%

30%

40%

50%

60%

70%

Mar14

Apr1

4

May14

Jun1

4

Aug1

4

Sep1

4

Oct14

Dec1

4

Jan1

5

Feb1

5

Apr1

5

KSE100Index KEL

2

Source:NEPRA&AKDResearch

AKD Securies Limited April30,2015 Insight - K-Electric Limited

Background: The Abraaj Group Aprivateequity(PE)fundfocusedonemergingandfronereconomies,theAbraajGroupemploysover300people in25+ocesacross theglobe.Abraajcurrentlymanages~US$9.0bnacross10sectors including consumer,healthcare,financialsandenergy,encompassingprivateequityandrealestate investments.Abraaj isa leading investor inhighgrowthmarketssuchasAsia,Africa,LanAmericaand theMiddleEast. In thePE space,Abraajhasmade close to140 investmentshavingrealizedUS$5.1bnfromover70fulltoparalexits,in50countrieswithastrategybasedonboardrepresentaonandvaluecreaonthroughsuperiorknowhow,operaonal improvementsandopmizaonofthecapitalstructurewithafocusonsustainabilitygearedtowardssocialvalues. In this regard, somepartnerorganizaons includeNetwork Internaonal, the largest independentpaymentsoluonsprovider in theMiddleEastandAfrica, IntegratedDiagnoscsHoldings, the largestmedicaldiagnoscsbusiness in theMiddleEastandSouthAsia,andBrooksideDairy,aleadingdairycompanyinEastAfrica.WithaPEmandate,Abraajulmatelyaimstorealizevaluethroughanexit,eithertostrategicbuyersorontopublicmarkets,typicallyovera57yr investmenthorizon.Incorporaon Timeline

Why Buy KEL? PersistentreduconinT&D Resoluonoflegacyimpediments Considerableimprovementsinfleeteciency Deducbletaxlossestoboostboomline 5YREBITDACAGRof18.5% Amongsttheprimarybeneficiariesofmonetaryeasingcycle

KELincorporatedin1913,isapubliclylisted,fullyintegratedpowerutilityinvolvedingeneration,transmissionanddistribution;lightingupKarachiforthelast100years.

Generaon

OwnGeneration(52.5%) PowerPurchases(47.5%)Capacity: MW

KEInternal 2,247IPPsandothers 365NTDC(NationalGrid) 650

KEcoveragearea:6,500sq.km11kVdistributioncapacityof4,973MVAthrough15,588PMTs

0.4kV:12,044KM(90%overhead)

Business Overview

Capacity:

63gridstations

128powertransformers1,249KMof220kV,132KV,66kVcables

Transmission

GridStations Distribuon

Consumption by Classification (GwH)

Classification FY13 % FY14 %

Domestic 5,083 46% 5,489 48%Commercial 1,507 14% 1,507 13%Industrial 3,445 31% 3,568 31%Agriculture 149 1% 160 1%PublicLighting 111 1% 106 1%BulkSupply+Others 647 6% 624 5%Total 10,942 11,454

Number of Consumers by Classification (000 consumers)

Classification FY13 % FY14 %

Domestic 1,661 78% 1,650 78%Commercial 452 21% 438 21%Industrial 20 1% 21 1%Agriculture 3 0% 2 0%PublicLighting 0 0% 0 0%BulkSupply+Others 0 0% 0 0%Total 2,137 2,112

Source:CompanyReport&Circulars

ShareholdingStructure

KESPower,66.4%

IFC&ADB,3.80%

GoP,24.4%

MinorityFloat,5.4%

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Strong track record: Numbers mark the extent of the turnaround story The persistent decrease in T&D (36% in FY09 to 23.8% on 1HFY15) accompanied by increase in fleet eciency (30.4% in FY09 to 37.0% in FY14) make up for the core of the turnaround aected by Abraaj controlled management. The impact of qualitave changes is well reflected in the companys financial performance where it achieved a posive EBITDA by FY11 and PBT was in the green zone by FY12. This connuous growth in the boom line enabled KEL to post NPAT of PkR12.9bn (EPS: PkR0.47) in FY14. With this trend likely to connue we esmate the companys EBITDA to expand by a 5yr CAGR of 18.5%. Pruning T&D vital: AmarkofKELsturnaroundhasbeenthesuccessfularrestanddrawdownofT&D losses,where losseshavebeencurtailedto23.8%ll1HFY15 from35.9% inFY09,approximately2.1%p.a.WithaviewtoalignCAPEXwiththeoverallaimofcungdownT&Dlosses,KELhasinvested~US$1bnongeneraonanddistribuonsegmentsbetweenFY0915.SpecificiniaT&D losses Actual & Projected

Source:CompanyReportsandAKDResearch

Multi-Year Tariff Inplace since2002and renewedbeforeAbraajsventure into theulity,many facetsof thearrangementareuniquetoKELscase.Havingonetariacrossallbusinesssegments,theMYTisaneciencydriven tariallowing for superior returns forperformanceacrossgeneraon,transmissionanddistribuon.Fleeteciency(averagecostofgeneraon/KwH),T&DlossesandO&Mcostsarethemajorbarometersforachievingsuperiorreturns,astheregulatordoesnotadjustthetarilowerforincreasesineciency.Majorcomponentsofthetariare: Monthlyfuelcostvariaons:Variablefuelcostofowngeneraonandunitspurchased is

passedonthecustomer,withthevariaonforeachmonthcalculatedoverthelastmonthofthepreviousquarter.

Quarterly Adjustment: Fuel costs, O&M costs and capacity charges are adjusted, accounngforthetotalcostofgeneraon.AtthisstagetheallowedT&Dlossesof15%areaccounted for,basedonunrecovered costsusedonly for theupcomingquarterand revisedasthequarteriscompleted.

AnnualCPIadjustmentonO&M:AnnualCPIadjustmentaccountsforO&Mincurredforallcomponents,adjustedtoyearlyCPIlessaneciencyfactor(between23%)

DeterminedtarisarechargedtocustomerswiththebalancefinancedbyGoP.Claw back:Reducingtheavenuesforachievingexcessprofitabilityattheexpenseofcustomers,clawbackarrangementrevolvesaroundannualrealreturns.Quanfiedasreturnonregulatoryassets calculatedbyhavingEBIT in thenumeratorand sharecapital, reserves,allborrowingsminuscashinthedenominator.Slabsforallocangexcessreturnsareasfollows

Values for annual real returns Excess profit return rao 12%to15% 25%ofprofitsinexcessof12%15%to18% 50%ofprofitsinexcessof15%Exceeding18% Inaddiontoaboveslabs,75%ofprofitsexceeding18%

20.0%22.0%24.0%26.0%28.0%30.0%32.0%34.0%36.0%38.0%

FY08 FY09 FY10 FY11 FY12 FY13 FY14 FY15 FY16 FY17350375400425450475500525550575600625

T&DLosses(%) T&DLosses(MW)RHS

ReturnonregulatoryassetsRORA=EBIT/(SC+Reserves+OtherBorrowingsCash&Equivalents)

CapexulizaonFY09TD

Source:CompanyReports&AKDResearch

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vesinvolvedrefurbishmentsandextensions,building10new220Kvand132Kvgridstaonsraising the total to63,15,588PMTs,7,900KMof11kVcables (67%underground)and12,044KMof0.4kVlines.Allocangelectricitytoaconsumerbasesegregatedintofoursegments(lowlosstoveryhigh loss), andmoderangflows through 15,588polemounted transformers (PMTs)hasallowedfornontechnicallossestobecapped.AddingtothemeasuresistheadventofAerialBundleCabling(ABC),whichprovidesinsulaonagainsttradionalaemptsattheandarearecoverybasedelectricitysupply.WebelievetheseprojectswillallowKELtobringdownitsT&Dlossesto18.7%inFY18Ffromthecurrentlevelsof23.8%(asof1HFY15),bolsteringtheboomlineby1.2x.Governance turnaround: Managementsexpersehasbeeninstrumentalinthepostprivazaondrivetoovercomelegacyoverheads.Inthisregard,themanagementpushedthroughaVoluntarySeparaon Scheme (VSS) during FY1113 cosng PkR2.6bn,whichwas instrumental in bringingdown totalheadcount to10,242personnel inFY14.Thenext legofstrategy implementaon involvesfocusingoncorecompetencieswhileoutsourcingtheremainingaspectsofservicepersonnel.KELhasmanagedtotrimitsstabybenchmarkingperformancetothecurve,removing8,000underperformingpersonnelsinceApr10,whilegranngraises(salaryexpensegrowingat6.5%p.a.despite reducedheadcount) and enabling skilldevelopment (trainings, seminars,HSE). Thusbypriorizingsuperiortraininganddevelopmentforemployees,weexpectKELssalaryexpense, inthisregard,tocomeoby2%inFY17Ffromcurrent6%,armingourcaseforaleanerenty. T&D CAPEX key going forward: KELintendstoinvestUS$300mninCAPEXaspartofa36monthtransmission and distribuon infrastructure revamp, lasng ll FY18. Specific projects include1,000MVAtransmissionenhancementandrehabilitaonproject, including220KVand132KVgridstaons,bayextensionsandtransformers.Moreover,35kmoftransmissionlines,25kmofundergroundcablesandpilferageproofaerialbundledcableswillbe installed.Financial close for theprojectwithaccompanyingspecificsaretobecompletedby1QFY16,withinstallaonscommencingsoonaer.AnemergingtrendinconsumerloaddemandisexpectedtofurtherhelpKELinitseorts to increase bulk supply tomass consumers, retail and housing developments (recentlycompletedAgaKhangridprojectandMOUwithBahriaTownKarachi).Onthebackofthesedevelopments,weexpectT&Dlossestofurtherdropto18.7%overthenext3yrs,decliningatarateof1.7%p.awith room forposive surprises if recoveries increase fromplanned investment inadvancedmeteringinfrastructure. Projects in the pipeline: An eye on sustainable value generaon! Following formal approval of the K-energys generaon license and tari, two units of BQPS-I (420MW) are to undergo coal conversion by FY17. Furthermore, KEL has signed an MoU for an EPC contract with China Datang Corporaon for a 700MW Greenfield coal power plant. Also devised is a US$300mn transmission package spread over 3yrs for rehabilitang and enhancing transmission lines, underground cables, grid and substaons. These planned projects aim to enhance operaons by: 1) increasing low cost generaon (coal generaon at PkR4.1/KwH vs. PkR14.3/KwH for RFO), 2) curbing remaining T&D losses with infrastructure improvements (1% reducon in T&D adds ~PkR0.1/share) and 3) execung new ventures to modernize the ulity. CAPEX extends generaon base: Since FY09 ll date KEL has extendedUS$821.3mnworth ofCAPEXtothegeneraonsegment,wherethis injeconhastoa largeextentflowed intogeneraoncapacityadding1,037MW through fournewpowerplants (including220MWCCPPKorangiand180MWGEJBClosedCycleKorangi&SITEplants).Addionofhighlyecientplantstogetherwith rehabilitaonandenhancementshasenabled thecompanysaveragefleeteciency to increasefrom30.7%inFY08to37.2%in1HFY15(accreonof~1%p.a).Eciencyisslatedto

SalaryexpenseadjustedforVSS

Source:AKDResearch

2,000

4,000

6,000

8,000

10,000

12,000

FY05

FY06

FY07

FY08

FY09

FY10

FY11

FY12

FY13

FY14

(PkRmn) VSS Expense: FY11:PkR1.12bnFY12:PkR1.29bnFY13:PkR0.18bnFY14:Nil

28%

30%

32%

34%

36%

38%

FY08 FY09 FY10 FY11 FY12 FY13 FY148408608809009209409609801,0001,020

Generation(MW) FleetEfficency(LHS)

Fleet efficiency and generation

Source:CompanyReportsandAKDResearch

Features of transmission project:

3news220/132kVgridstation 5new132kVgridstation 15powertransformersinexistinggrid

stations 6new220kVlines 6new132kVlines 3new250MVAtransformerswithbays

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gradually improve over themediumterm underpinned bymeasures taken by the company toconvertopencycleplantstoclosedcyclewhereweesmateittogrowby~3%llFY17. Planned investments to connue: Projects inthepipelineareaimedat increasingKELsgeneraonbaseand tailored toenhance lowcostgeneraonwithrecent forays intogasandnowcoalbased projects. In addion to being the cheapest source of thermal electricity in the country(PkR4.30/KwH),coalbasedgeneraon istoremainfeasible inthe longrun.Withglobaldemandexpectedtohavepeakedandoversupplycrowdingthemarket,coalpricesareexpectedtoremainnear current levelsover themedium to long term (45 yrs).Addionally, theNEPRA approvedupfront tari for coalbased generaon (forGreenfieldplants) is rewarding;with a 27.2%ROEduringtheconstruconperiod(48months)and15%levelizedIRRfortheduraonoftheproject.RecentlyapprovedBQPS1conversionof2X210MWwouldbeexecutedonanacceleratedbasis(incognizanceofincreasingpeaksupplyshorall).WiththeprojectexpectedtoreachfinancialclosebyyearendFY15followingwhich,24monthsareexpectedtoreachcommissioning.Progressona2x350MW coalfiredprojectwithChinaDatangCorporaon (CDTO) andChinaMachinery Engineering Corporaon (CMEC) is also on the fast track,with ~48months to commissioning aerachievingfinancialclosebyendCY16.Inaddion,KELhas inkedanMOUforoakefrombytheElengyTerminalPrivateLimiteddeveloped225MWRLNGfired,GEsuppliedplantwithexpectedcommissioningbyFY17. External sourcing of generaon: AnemergingschemeatthecoreofrecentacvityonthegeneraonbusinessisthenewstructureadoptedintheconversionofBQPS1units,wheretheconvertedplantwillberunasaseparatelymanagedIPP(Kenergy).Heightenedforays intosecuringpowerpurchaseagreementsforcoal,LNGandalternaveenergyfuelledplants(FFBLs52MWcoalfiredplant,Engros225MWLNGfiredplant,Hanergys10MWandMeecoGroups10MWforsolarpowergeneraon)points toan increasing relianceon IPPsandguaranteedoake/powerpurchaseagreements. Tapering KELs equity disbursements and CAPEX on generaon,while accommodangrecoveryandoakerisks forthesponsorsoftheseprojects,KEL isexpectedtoconnueenacngthesemeasuresasaviablealternavetounitssourcedfromNTDC.Capital Restructuring: Enhancing eciency, aligning for the future Debt restructuring allows KEL to capitalize on prevailing monetary easing by reducing financial charges (~16%YoY reducon in FY16F), improving cash flows and reducing the weighted average cost of debt. Aligning the debt structure to the firms long term project commitments, while leaving room for addional borrowing, the PkR22bn Sukuk issue (with green shoe opon of PkR2bn) connects short term liquidity with long term capital eciency. Remaining sizeable ac-crued tax benefits of PkR395bn, with PkR290bn deducble by FY17, bringing 5yr forward NPAT CAGR to 40.8%. Debt re-profiling to deliver value:Sturdyfreecashflows,reducedcostofdebtandimprovedinterestcoverageforFY16Fat4.6xagainst3.8xexpectedinFY15arekeyposivesemanangfromtherecentSukuk issue.TheFCF+Cash/CurrentMaturity+InterestPaymentrao indicatestheextenttowhichKELsinternalcashflowscanbereliedupontomeetcurrentdebtrelatedpayments.FromaFY14raoof0.2x,theFY15Emetricclocksinat0.74xdoublingto1.5xbyFY17F,showcasingthe longtermvaluedeliveredbyarealigneddebtprofile.Finally,repaymentof IFCandADBloans(amounngtoPkR18bn)allowforanapproximatedecline intheweightedaveragecostofdebtof~16.7%YoYto10.8%inFY15E.ThisendowsKELwithalowerWACCandcementsthecaseforsturdyvaluaons. DuPont Analysis: Postdebt structuring,abifurcaonofROEusing theDuPontmethod revealssignificant reducon in financial leverage connuing for the 5yr duraon of the newly issuedSukuks.Improvementsinoperangmarginandincreasingsensivitytointerestrates(FY15Finterestburdenof64%)combinetodeliverFY15EROEof22.2%vs.16.6%inFY14.UpsidetoROEexpectaonsarisefrom increase inassetturnover,onthebackof increasedunitsbilled(i.e.reduconinT&D,improvedeciencyandrecoveries)andplannedacceleraonindeducngaccumulatedtaxlosses,likelytohikethetaxburden. What comes next?: Pernentriskscanbeclubbedtogetherintothreespheres,1)regulatoryburdenandresulng implementaondelays,2)surge incirculardebtand3)rise in inputcostsandinflaon,sengomonetaryghtening.Migangfactors inthisregardcanberecentprogressinNEPRA regulaonand fast trackapprovalofpowerprojectsalongwith iniaonofanopenconsultaveprocessforresolvingthe650MWsupplydispute.Also,relavelyimprovedliquidityinthewiderpower space (CFO for coverage clusterup129%YoY),accompaniedbydepresseddemandandsystemicoversupplyinthemarketforcommodies(fuel,foodsandmetals)globallytokeep interestratesdepressed,areallposivesfuellingthe investmentcaseforKEL.Enteringthenextphaseof relavelymature cashflowsandorganic incomegeneraon,amove todisbursedividends forminority shareholders cannotbeoverruled. That said,while increased supply extended fromooadingof stakebyAbraaj (66.4%ownershipasof1HFY15) throughKESPower

Plant Project Capacity (MW) Completion

KCCPP OCtoCC* 220+27 1HFY15KGTPS OCtoCC* 90+10 4QFY15SGTPS OCtoCC* 90+10 1QFY16BQPS-1 CoalConv. 420 4QFY17China Datang Greenfield 350x2

Fin.ClosePending

*OpenCycletoCombinedcycleSource:CompanyReports&AKDResearch

Mediumtermprojectpipeline

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holdingsmaykeepneartermpriceperformanceincheck,weremainconvincedonthelongtermprospectsoftheulity.

Reforms; One step at a time is not enough Power Policy 2015:Withthe2013PowerPolicyfallingshortonachievingtargetsofreducingthePeakDemandShortfallby5000MW,reducingT%Dlossestobelow16%andincreasingcollectionsto95%,theGoPissettoreleaseitsPowerPolicy2015.HighlightingtheneedtoexpandgenerationbypromotinginvestmentsinHydelpower,dedicatedgasfieldprojects,publicprivatepartnershipsandextensionsofexistingIPPs,thepowerpolicystipulatesalockinperiodof6yrsforprojectsponsorsandreductioninpenalinterestrateto3MKIBOR+2%.WithoutspecifyingaROEamount,thedraftofthePowerPolicyfailstoaddressthegargantuanproblemofcirculardebtintheabsenceofanyspecificstructuralreforms.IMFs Power Plans:SpecifiedintheLOIincludedintheMemorandumofEconomicandFinancialPoliciesaspartofthefifthandsixthreviewoftheIMF,GoPisinabindandwillhavetoimplementsomeunpopulardecisionstoincreaserevenuecollectionthroughpriceadjustment,clearuparrears,improvegovernance,reformingthecentralizedpowersectormarredbysystemicimpediments.Ratherthanhaphazardincreasesintheconsumertarifftomanagethedemandside,headwayontheEnergyEfficiencyandConservationAct(awaitingavoteintheNA)isrequiredtoimproveloadallocationandenergyefficiencywithupcomingrenewableenergyprojects.Moreimportantlyspecificmechanismstomonitorandenforceinitiativestoreducelosses,implementcomplianceproceduresandimproveenergyefficiencyarerequiredattheDISCOs.Aroadmapforrollingoutthesemechanismsneedstobepresent,consideringtheambitiousprivatizationplantooffloadtheseentitiesbyCY15.Improvementstothenationalgridareofutmost importancewithNEPRAstating in itsStateofthe IndustryReport2014anamountofUS$9bnneededtofundtheseimprovements.

Key Initiatives by GoP in Power Sector for FY15 SlideinglobaloilpricesbeginningJuly14resultedin41%FYTDfallinFOand24%FYTDfallinHSDprices. CirculardebtfiguresurgestoPkR244bn,withtotalreceivablesamountingtoPkR513bnbyAugust14 GoPleviesPkR1.3/KwHlevyonelectricityforthebillingmonthofNovember14andPkR1.5/KwHforthe

monthofDecember14 LateNovember15,14IPPsservenoticetoGoP,threateningtoinvokesovereignguaranteestoclearup

PkR42.3bnindues.MoWPreleasedpaymentofPkR15bn,andPkR35bnreleasedtoPSOwhiletheGoPinksagreementswithIPPspromisingpaymentofPkR270bninthreeinstallmentsbyApril15

WithholdingPkR0.6/KwHinfueladjustmentstoconsumers,GoPeffectivelyleviedanadditionalchargeforthebillingmonthofJanuary15toservicepowersectordebt

GoPaffirmsitscommitmenttotheIMFasapartofnegotiationsforthe4thand5threviews,torationalizeelectricitytariffscappingcirculardebtandcurtailingtariffdifferentialsubsidyto0.7%ofGDPforFY15

CirculardebtatthecommencementofCY15standsatPkR300bn,withtheMoFarrangingaPkR25bnsyndicatedloanfromcommercialbankstoreleasefundsforpaymenttoIPPsthroughCPPA

ECCinJanuary15approvesthreeadditionalleviestotalingPkR2.4/KwHtoaccountfor18%systemlossanddebtservicing,expectedtoraisePkR75bnthroughtheyear.ThemovewasrejectedbyNEPRA,withtheregulatorunderpressuretorecoverthe18.8%insystemlosses,theftandfallingrecoveriesamountingtoPkR145bn

TrippingattheJamshorolineontheNTDCgridcausesanetworkwideblackoutonJan26th GoPraisesGSTapplicableonHSDto27%from22%increasingcostforfourIPPsonHSD,aspassthroughfuel

costallowsforonly17%GSTonthefuel.RegulatorydutyonRFOwasalsoimposed,withthemeasuresexpectedtoraisePkR46bn

IMFexpressesconcernoverburgeoningofcirculardebttoPkR350bnwithtotalreceivablescrossingPkR500bnonconcluding6threviewundertheEFF

NEPRAstatesthatthecontinuationofsystemicpowershortfallinthesystemwillcontinuetill201920initsStateoftheIndustryReport,asthecurrentshortfallsurgesto4,500MW

RejectingGoPproposalstoraiseconsumerelectricitytariffs,NEPRAreducedconsumerendtariffforIESCO,FESCOandPESCObyPkR3/KwH

NEPRAreleasesupfronttariffforRLNGfiredplantsatPkR15.516.9/KwHforplantsrangingincapacityfrom800MWto225MWofferinga15%IRRforthelifeoftheproject,onthebackofthefirstLNGshipmentarrivingatElegyTerminalPvt.LtdandreleasedtofourIPPs

MoW&PseparatestheCentralPowerPurchasingAuthority(CPPA)fromNTDC,makingitaseparateentityinchargeofpurchasingunitsfromIPPsandtransferringfunds.

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KEL: Investment Case RFO prices easing o by 41%FY15TD, allows for a reducon, not only in the cost of generaon but also the cost of purchased electricity. Addionally, due to the built in allowance for 15% T&D in the mul-year tari (MYT), the quantum of addional losses (past 15%) born by the com-pany is curtailed. Coupled with improvements in the debt structure unlocking cash flows, in-creased CAPEX delivering value, KEL is posioned for price performance. Value signified by FY16F/FY17F P/BV of 1.6x/1.2x and organic cash flow generaon signaled by a 5yr CFO CAGR of 41.8%, arm our bullish stance on the scrip. The scrip at present trades at FY16F/FY17F P/E of 6.1x/4.5x and provides an upside of 82% against our Dec15 TP of PkR13.5/share, BUY! FY15 result preview: ForFY15 resultsweexpectNPAT to clock inatPkR23.04bn (EPS:PkR0.83),growingby79%YoY.IncorporangthedeclineinFOprice,wehaveassumedtheannualaverageofPkR50,372/ton,whilegaspriceremainsatPkR488/mmbtu.Inlightofquarterlyadjustmentsmade,anddeclineinrevenueperunitbilled(assumedatPkR11.5/KwH),taridierenalisexpectedtolessenby5.25%YoY,pullingthetoplinelowerby1.5%YoYtoPkR191.7bn.BumpinGMisseenasaresultofdeclininginputpricesallowingan8%improvementto22.2%,flowingthroughtoahigherOM of 13.8% despite high other operang expenses. Significant savings from debt reprofilingallowfinancecoststosinkby16%YoY,whilededucbletaxes(assumedat35%ofPBT)yieldNMof12%.Valuaons: UsingaDCFbasedvaluaonmodel,basedona15%costofequityand10%costofdebt,wearriveataJune15TPofPkR13.5/share,oeringupsideof80%.Thisissubstanatedwitharangeofcomparablemulplesfromregionalpeers,whereKELarisesasacheaperalternaveforthevalueonoer.DuetoKELsreturnstructure(thecompanyoperatesunderamulyeartariwithan implicit compensaonbuilt in foreciency improvement/reducon inT&D losses), improvedperformanceover thebenchmark is incrementallyposive forKEL.Wehaveprovidedasensivityanalysis(shownbelow)oftheimpactonvaluaonsfromtwovariables,logrungrowthrateandbeta.

Regional Peer comparison: Relavetoemergingmarketregionalpeers,KELpresentsanaracveinvestment.Inthebackdropofthelowestdebttoassetsanddebttoequityraoofallcomparave peers. KEL is set for improved cash flowswith further leveraging to accommodate CAPEXplans.Balancingarelavelylowenterprisevaluewithamiddleoftherankinggeneraonbase,theEV/MWmulplessignifiesroomforpriceperformanceamongstregionalpeers.ImprovedprofitabilityandmarginsareexpectedtoraisethelureofKELforforeigninvestorsintheemergingmarketuliessegment.

Terminal Growth Rate Target Price (PkR/Share) 3% 4% 5% 6% 7%

Beta

1.40 9.5 10.512.013.5 15.6 1.30 10.1 11.212.914.6 17.0 1.24 10.5 11.713.515.3 18.0 1.10 11.4 12.915.017.2 20.7 0.90 13.1 15.017.820.9 25.9

Regional Companies (Emerging - Asia Pacific - Trailing Twelve Months) Generaon MktCap EV EV/MW Net Income Operang Gross Debt Debt Company Country Capacity (USDmn) (USDmn) (USDmn) (USDmn) Margin% Margin% Equity Asset RelianceInfrastructureLtd India 941 1,771 5,014 5.33 317 13.9 n.a 88.66 34.94ShenzhenEnergyGroupCo. China 2,400 6,418 7,287 3.04 330 20.2 25.2 32.79 17.36CESC.Ltd India 1,225 1,123 3,058 2.50 81 11.9 n.a 182.13 47.71FirstPhilippineHoldings Philippines 3,032 1,163 4,451 1.47 83 18.9 31.0 136.12 49.72YtlPowerInternaonalBhd Malaysia 5,532 3,064 7,424 1.34 365 12.8 17.4 244.65 60.10TorrentPowerLtd India 1,648 1,217 2,199 1.33 17 8.6 n.a 151.78 49.48KElectricLtd Pakistan 2,247 2,114 2,821 1.26 212 7.6 16.6 86.45 23.74HarbinHatouInvestmentCo China 1,397 1,629 1,542 1.10 54 5.5 23.1 11.38 7.23TataPowerCo.Ltd India 8,560 3,362 9,139 1.07 (43) 14.0 n.a 295.45 56.27GuangdongElectricPower China 26,747 6,517 12,463 0.47 488 24.2 27.4 125.92 50.64Source:Bloomberg&AKDResearch

Sensivity Analysis of TP

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Risks to Thesis Surge in circular debt: Hampered liquidity posion, rising fiscal constraints and outlays forplannedRLNGpayments,anterroroperaon,whileconnuedpressurefrom IMFtocurtailthefiscaldeficitmayforcetheGoPtorecedethenengofpaymentsmadeandreceived.ThisallowsKELacushioncomparedtotradionalIPPs,wherebypaymentsmadetoNTDCforunitspurchasedandpayments receivedareneedo.Factorsadversely impacng thisarrangement include,1)drascrise inRFOprices,2)recoverieshampered,3)reducon inconsumertaris increasingthetaridierenalsubsidyand4)privazaonofDISCOswithoutadequatemonitoringpromongprofittaking(bypassingolowerrecoveries)atalargercosttothepowerchain.Rise in RFO prices: Althoughataperedriseinglobaloilpricesareforecasted,anyuntoward,starkrise inpricesmaystress the liquidityposionof thesector toanextentwheremelypaymentsbecomehindered.RevenuesandinturnearningswillbeimpactedasthefirmhastobearalargerporonofT&Dlossesandlowrecovery.Rise in interest rates: Inflaon remains themeasuregoverning interest ratepolicy for theSBP,andasinflaonremainsdepressed(largelyduetofallingcostofenergyinputs)themonetarycycleseemsfarfrompeaking.Alsorelevantistheregionaltrendofmonetaryeasingtospureconomicacvityinaglobaleconomymarredbyincreasedunemploymentandconstrainedinflaon.Amended Power Purchase Agreement: With the 650MWpurchase agreement concluding, theformulaonofarenewalagreementmayincludeclausesadversetoprofitability,byeitherincreasingthecostofpurchase,orsenglimitsforinternalgeneraon.Market Risk: Priceperformance inthemediumtermwillbe impactedby increasedsupplyoverhangasmajorsponsorshavestatedtheirintenontoooadasignificantstake.Thatsaid,majorityownershipisboundtoremainwithKESPowerpendingregulatoryapprovals.Curtailment of Gas supply: DespiteKELandSSGCenteringintoanacceleratedpaymentplanfordues,inexchangeforminimalgascurtailment,asupplydeficitinlightofhigherdemandmaysignificantlyhinderindigenousgeneraon.RLNGsupplywillgofarinassuagingtheseconcerns.

9


KEL: Annual Databank

Valuaon Mulples Year End June FY13A FY14A FY15E FY16F FY17F EPS(PkR) 0.24 0.47 0.83 1.21 1.63EPSgrowth 157% 92% 79% 46% 34%PE(x) 30.4215.888.886.104.54ROE 13% 18% 25% 26% 26%ROA 2% 4% 8% 9% 11%BVS(PkR) 1.9 2.6 3.44.66.3P/BVS(x) 3.82.92.21.61.2CFS(PkR) 0.1 0.6 1.31.52.0P/CFS(x) 144.9 13.3 5.75.0 3.8SalesGrowth 16% 3% 2% 20% 12%GrossMargin 15% 17% 22% 22% 22%OperangMargin 9% 11% 14% 15% 17%NetMargin 4% 7% 12% 15% 18% Profit & Loss Accounts

(In PkRmn) FY13A FY14F FY15F FY16F FY17F NetSales 188,999 194,708 191,774 229,829 257,360COGS 160,179 162,290 149,292 179,673 199,884GrossProfit 28,820 32,418 42,482 50,157 57,476OperangExp&Otherexp. 16,047 17,731 21,089 21,857 20,803OtherIncome 5,090 6,163 5,142 6,162 6,900OperangProfit 17,863 20,850 26,534 34,461 43,573EBITDA 26,804 30,159 36,173 44,295 53,877FinancialCharges 13,960 11,275 9,469 9,609 10,150NPBT 3,903 9,575 17,065 24,852 33,423Taxaon 2,824 3,312 5,973 8,698 11,698NPAT 6,727 12,887 23,038 33,550 45,121 Balance Sheet (In PkRmn) FY13A FY14F FY15F FY16F FY17F LongTermAssets 165,332 173,144 172,903 203,493 229,310CurrentAssets 113,547 133,171 128,762 158,275 187,453TotalAssets 278,879 306,316 301,666 361,768 416,763LongTermLiabilies 64,50460,11455,473 69,046 56,699CurrentLiabilies 160,660 175,234 159,045 172,023 194,245TotalLiabilies 225,165 235,348 214,518 241,070 250,944ShareHolders'Equity 53,71470,96794,005 127,555 172,677TotalLiabilies&Equity 278,879 306,316 308,523 368,625 423,620 Cash flow Statement (In PkRmn) FY13A FY14F FY15F FY16F FY17F CFfromoperaons 1,41215,40235,698 41,269 54,150CFfrominvesngacvies (3,133) (14,339) (11,744) (40,423) (36,121)CFfromfinancingacvies (3,034)(6,029)(5,444) 7,334(4,285)Netchg.Incash&equiv. (4,755)(4,966) 18,5118,179 13,745Cash&Equiv.Atbeg.oftheyear (2,173)790(4,176) 14,335 22,514Cash&Equiv.Atendoftheperiod (6,927)(4,176) 14,335 22,514 36,259

10

AKDSECURITIESLIMITEDMember:KarachiStockExchange

Buy > 20% upside potential

Accumulate > 5% to < 20% upside potential

Neutral < 5% to > -5% potential

Reduce < -5% to > -20% downside potent ial

Sell < -20% downside potential

Rating Definitions

Thispublicaon/communicaonoranyporonhereofmaynotbereprinted,soldorredistributedwithoutthewrienconsentofAKDSecuriesLimited.AKDSecuriesLimitedhasproducedthisreportforprivatecirculaontoprofessionalandinstuonalclientsonly.Theinformaon,opinionsandesmateshereinarenotdirectedat,orintendedfordistribuontooruseby,anypersonorentyinanyjurisdiconwheredoingsowouldbecontrarytolaworregulaonorwhichwouldsubjectAKDSecuriesLimitedtoanyaddionalregistraonorlicensingrequirementwithinsuchjurisdicon.Theinformaonandstascaldatahereinhavebeenobtainedfromsourceswebelievetobereliableandcompliedbyourresearchdepartment ingoodfaith.Such informaonhasnotbeenindependentlyverifiedandwemakenorepresentaonorwarrantyastoitsaccuracy,completenessorcorrectness.AnyopinionsoresmateshereinreflectthejudgmentofAKDSecuriesLimitedatthedateofthispublicaon/communicaonandaresubjecttochangeatanymewithoutnoce.Thisreport isnotasolicitaonoranyoertobuyorsellanyofthesecuriesmenonedherein. It isfor informaonpurposesonlyand isnot intendedtoprovideprofessional,investmentoranyothertypeofadviceorrecommendaonanddoesnottakeintoaccounttheparcularinvestmentobjecves,financialsituaonorneedsofindividualrecipients.Beforeacngonanyinformaoninthispublicaon/communicaon,youshouldconsiderwhetheritissuitableforyourparcularcircumstancesand,ifappropriate,seekprofessionaladvice.NeitherAKDSecuriesLimitednoranyofitsaliatesoranyotherpersonconnectedwiththecompanyacceptsany liabilitywhatsoever foranydirectorconsequenal lossarising fromanyuseofthisreportorthe informaoncontainedtherein.Subjecttoanyapplicablelawsandregulaons,AKDSecuriesLimited,itsaliatesorgroupcompaniesorindividualsconnectedwithAKDSecuriesLimitedmayhaveusedthe informaoncontainedhereinbeforepublicaonandmayhaveposions in,mayfrommetomepurchaseorsellorhaveamaterialinterest inanyofthesecuriesmenonedorrelatedsecuriesormaycurrentlyor infuturehaveorhavehadarelaonshipwith,ormayprovideorhaveprovidedinvestmentbanking,capitalmarketsand/orotherservicesto,theenesreferredtoherein,theiradvisorsand/oranyotherconnectedpares.AKDSecuriesLimited(thecompany)orpersonsconnectedwithitmayfrommetomehaveaninvestmentbankingorotherrelaonship,includingbutnotlimitedto,theparcipaonor investment incommercialbankingtransacon(including loans)withsomeorallofthe issuersmenonedtherein,eitherfortheirownaccountortheaccountoftheircustomers.Personsconnectedwiththecompanymayprovidecorporatefinanceandotherservicestotheissuerofthesecuriesmenonedherein,includingtheissuanceofoponsonsecuriesmenonedhereinoranyrelatedinvestmentandmaymakeapurchaseand/orsaleofthesecuriesoranyrelatedinvestmentfrommetomeintheopenmarketorotherwise,ineachcaseeitherasprincipaloragent.ThisdocumentisbeingdistributedintheUnitedStatesolelyto"majorinstuonalinvestors"asdefinedinRule15a6undertheU.S.SecuriesExchangeActof1934,andmaynotbefurnishedtoanyotherpersonintheUnitedStates.EachU.S.personthatreceivesthisdocumentbyitsacceptancehereofrepresentsandagreesthatit:isa"majorinstuonalinvestor",assodefined;andunderstandsthewholedocument.AnysuchpersonwishingtofollowupanyoftheinformaonshoulddosobycontacngaregisteredrepresentaveofAKDSecuriesLimited.ThesecuriesdiscussedinthisreportmaynotbeeligibleforsaleinsomestatesintheU.S.orinsomecountries.Anyrecipient,otherthanaU.S.recipientthatwishesfurtherinformaonshouldcontactthecompany.Thisreportmaynotbereproduced,distributedorpublished,inwholeorinpart,byanyrecipienthereofforanypurpose.

Disclosures&Disclaimers


Documents

KEL - Re-intiation Report (AKD Research Apr'30 2015).pdf