AKD Securities Limited – HUBC: Lucrative potential entices quick draw

Karachi, April 06, 2015 (PPI-OT): HUBC’s detailed results for the 1HFY15 reveal marked improvement in profitability (driven by reduced overhaul expenses and low RFO prices), coupled with healthier cash flows (OCF: PkR11.4mn). Going forward, with O and M savings highly likely (post-2016) and additional synergies to be capitalized upon the completion of various coal based projects, HUBC is poised to differentiate its operations in the IPP space, capitalizing 20 yrs of operational experience. In the face of a plethora of positive triggers, AKD Securities Limited believes the company is positioned for considerable improvements in profitability.

Flagging the financial close of 1320MW coal fired project, which is in the final stages of negotiations as a major contributor to earnings (27.2% ROE for 660MW translates to ~PkR4/share EPS increase), while the expected financial close of SECMC and HUBC’s 20% equity investment in that project would also be value accretive in the long run. Keeping AKD Securities Limited’s TP of PkR86.3/share intact, AKD Securities Limited Accumulates on HUBC at these levels, offering FY15E/FY16F D/Y of 10.0%/10.5%.

Earnings and price performance: Reflecting the absence of major overhauls, repairs maintenance and other costs clocking in at PkR282mn (down 59%YoY) accompanied by a 24%YoY fall in fuel costs dragging operating costs lower by 23.5%YoY.

The resulting improvement in margins (GM at 14.8% vs. 7.2% for 2QFY14, OM at 14.2% vs. 6.9% for 2QFY14 and NM at 9.5% vs. 3.2% last year) are expected to continue through to FY15 (impact of reduced RFO prices and muted overhaul to remain). Improvements in liquidity are of greater importance as CFO clocked in at +ve PkR11.39bn vs. -ve PkR18.38bn in 1HFY14. Despite generation levels remaining lukewarm(65% for 1HFY15 vs. 62% in 1HFY14 for the base plant, 79% in 1HFY15 vs. 84% in the same period last year for Narowal), curtailed overhaul is expected to keep load factors higher in the base plant going forward.

What to expect from here: Three key developments on the horizon will lead us to revise AKD Securities Limited’s investment case for HUBC include: 1) financial close for Greenfield investment in coal fired power plants and attached jetty at a 27.2% ROE for a 660MW plant could add PkR4/share to the bottom-line, 2) investment in 1320MW SECMC, in which the BoD of HUBC has approved a 20% equity investment amounting to US$20mn (~PkR2bn) of which a subscription investment of PkR240mn has already been made and 3) details of the planned O and M synergies, and expected savings as a result of termination of GDF Suez’s EPC contract for the base plant in 2016, with 11 years remaining in its PPA. Although all developments are positive, the need for fresh equity injection before the firm embarks on a green field investment cannot be undermined.

Investment Perspective: With traditional indexation measures largely subdued, recent price performance for the scrip is indicative of expected earnings growth and improved payouts. Barring clarity on prospects for improved earnings from coal investments or O and M savings AKD Securities Limited stands by AKD Securities Limited’s previous DDM based TP of PkR86.3/share, implying an Accumulate at these levels, offering FY15E/FY16F D/Y of 10.0%/10.5%.