KenGen Plc (NSE: KEGN) 1H19 Earnings Note

KenGen Ltd (NSE: KEGN) announced flat bottom-line growth (+1.6% y/y) for its 1H19 period (June – December). Electricity revenue grew steadily by 3.2% y/y while steam revenue declined by 6.8% y/y due to a maintenance shutdown of some wellhead plants. Operating earnings declined by 4.5% y/y driven by a 7.1% y/y uptick in operating expenses and muted growth in total revenue (-0.7% y/y). The marginal growth in EPS (1.6% y/y to KES 0.63) was boosted by a 17.4% y/y cut in finance costs.

We maintain our BUY recommendation at a target price of KES 8.92, an upside potential of 37.7% from the current market price.

Positives:

  1. Steady electricity revenue growth, +3.2% y/y. Electricity unit sales rose by 16.4% y/y to 4,451GWh. Generation from hydro accelerated by 52.8% y/y on account of favourable hydrology levels. However, hydro contribution to revenue remained stable at 29.0% despite the increase in unit sales, underlining its lower plant yield (at a cost of c. KES 2.00/unit compared to geothermal c. KES 7.00/unit). Geothermal generation fell slightly (-0.3% y/y) due to maintenance works on some wellhead plants. Geothermal maintains the bulk of revenue contribution at 57.0%. From our estimates pegged on the planned geothermal plants (631MW), geothermal contribution is expected to increase to 77.8%, implying an average growth rate in revenue from geothermal of 16.4% by FY22F.
  2. Strong cash from operations, KES 24.57Bn (+1,735.6% y/y)In June – Dec period, KPLC accelerated payments to power producers resulting to the large cash boost in KenGen. Given the penalties on late payment of receivables (KPLC paid a penalty of KES 1.0Bn to KenGen in FY18), we expect cash from operations to continue being strong, to cover for capital expenditure (KES 18.89Bn in 1H19) and maintain the target dividend pay-out ratio of 33.3%.

Negatives:

  1. Faster rise in operating expenses (+7.1% y/y) vis-à-vis total revenue (-0.7% y/y). Over the last 3 years, operating expenses have been growing faster (+5.6%) compared to electricity revenue (-0.4%). This has effectively eroded margins, with EBITDA and EBIT margin settling at 64.8% and 37.7% respectively. With the ongoing investments in capacity and the steady growth in electricity revenue, we expect EBITDA margin to range between 65% – 70% on average in the long term. 

Our View:  

We are bullish on KenGen’s capacity expansion plans (2016–2022 geothermal ‘Good to Great plan’) which we expect to bolster total company revenue by 8.6% in FY22F. Management exudes confidence that Olkaria V (158MW) is within schedule of commissioning in June 2019. Other geothermal and wind power plants with an installed capacity of 563MW are expected to be connected to the grid from FY20F. This capacity generation plan anchors our outlook of the business which hinges it as a solid long term stock pick at the current market price.

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