FRI 15 JAN 2021

Power Industry 2021 Outlook:

To benefit from economic recovery
but risks remain

Oversupply situation to persist in 2021 even with recovery AC Energy Philippines Inc.
HOLD
of demand PHP3.81

As a result of the Covid-19 pandemic and the imposition of lockdowns, overall power Aboitiz Power Corporation
demand in the country declined by ~ 6% in 2020. While the decline in power demand has BUY
PHP40.40
already bottomed in 2Q20 (3Q20 demand down 6.4% y/y after falling by 17.5% in 2Q20),
demand has not yet returned to 2019 levels. First Gen Corporation
HOLD
Power demand will most likely continue to recover in 2021 as the economy slowly reopens. PHP32.28

However, it will most likely still be slightly below 2019 levels.

Manila Electric Company
BUY
In terms of supply, the country’s power capacity will most likely still be in a state of oversupply PHP369.00
in 2021. New capacities added last year (~750MW) and this year (~1,780MW) represent
Semirara Mining Corporation
~ 8.6% of the country’s existing power generation capacity. Moreover, total capacity by
BUY
the end of 2021 is projected to be around 16% higher than the country’s expected peak PHP29.06
demand for 2021 (plus required reserve margin).

The expected recovery in the country’s power demand in 2021 should enable power firms
to enter into new power supply contracts with customers. However, given the oversupply
situation, the new power contracts will most likely have a shorter duration and lower selling
prices.

The oversupply situation in 2021 will also keep spot prices in the Wholesale Electricity Spot
Market (WESM) subdued. However, this could be temporarily disrupted by power plant
outages. The risk of large baseload plants suffering from unplanned outages is significant
given that 65% of the country’s power generation capacity is already 10 years or older.

FGEN and ACEN are the least vulnerable to low selling prices. Note that bulk of FGEN’s
natural gas capacity (95%) is already covered by long term power supply contracts.
Meanwhile, ACEN already secured a long term contract for its SLTEC coal plant, while
majority of its remaining capacity is sold at a fixed level of tariff since they are renewable
energy plants with Feed-in-tariff contracts.
George Ching
Senior Research Manager
george.ching@colfinancial.com

Disclaimer: All content provided in COL Reports are meant to be read in the COL Financial website. Accuracy and completeness of content cannot be guaranteed if reports are viewed outside of
the COL Financial website as these may be subject to tampering or unauthorized alterations.
 POWER SECTOR I TO BENEFIT FROM ECONOMIC RECOVERY BUT RISKS REMAIN

FRI 15 JAN 2021

On the other hand, AP will be somewhat affected by re-pricing risk given that 6% of its
attributable capacity as of 9M20 is not covered by power supply contracts while a third
of its RES contracts (covering 40% of AP’s attributable power generation capacity) is set
to expire this year. Moreover, only 50% of its Dinginin Coal Project, which is scheduled
to begin operating in 2021, is covered by contracts. The company will also be affected to
low WESM prices given that its sells 6% of its capacity to the spot market.

SCC is most vulnerable to low selling prices given that only 40% of its capacity is covered
by power supply contracts and it sells 60% of its total output to the WESM.

We previously expected the state of oversupply to end in 2023. We continue to believe that
the Supreme Court’s May 2019 ruling, that all power supply agreements (PSA) submitted
on or after June 30, 2015 must go through a Competitive Selection Process (CSP) before
obtaining PSAs with power distribution firms, will lead to a potential power shortage
going forward. However, due to the disruption caused by the COVID-19 pandemic, we
now expect the shortage to materialize one year later, at 2024.

Exhibit 1: Philippine supply and demand forecast

Source: DOE and Aboitiz Power

Higher coal prices to erode margins of some power

generation companies

The price of coal (based on the Newcastle Coal Index) increased by 8% in 2020 despite
the pandemic as prices recovered beginning 3Q20 after falling by as much as 30% during
the early part of the year. Should coal prices continue to increase in 2021, companies
which are heavily dependent on coal to fuel their plants will be hurt the most.

COL Financial Group, Inc. 2

 POWER SECTOR I TO BENEFIT FROM ECONOMIC RECOVERY BUT RISKS REMAIN

FRI 15 JAN 2021

AP’s margin could be affected given that some of its power supply contracts through
Retail Electricity Supply (RES) are not protected by fuel pass through provisions. Therefore,
higher coal prices will lead to lower margins.

ACEN’s margin could also be affected given that the power supply contract of its SLTEC
coal plant (accounting for ~ 32% of 2021 earnings) are not protected by fuel pass through
provisions. Higher coal prices will lead to lower margins.

Meanwhile, MER and FGEN will not be affected by lower coal prices. Note that MER is
into power distribution and merely passes on any changes in purchased power cost to
consumers while the entire capacity of FGEN’s gas plants is covered by power supply
contracts where fuel costs are passed through to consumers.

Only SCC will benefit from higher coal prices since around 62% of SCC’s revenues come
from its coal mining business.

Exhibit 2: Newcastle Coal (US$/MT)

Source: Barchart.com

COL Financial Group, Inc. 3

 POWER SECTOR I TO BENEFIT FROM ECONOMIC RECOVERY BUT RISKS REMAIN

FRI 15 JAN 2021

Unplanned outages remain a risk

Aside from the steep decline in selling prices due to the pandemic, profits of both AP
and SCC fell sharply in 2020 due to unplanned outages. Unplanned outages were one of
the primary reasons for AP’s 11% decline in EBITDA from its power generation business
during 9M20, while SCC’s Calaca unit 3 and 4 reported a net loss of Php232Mil during the
same period, also mainly due to unplanned plant outages. Unplanned outages remain a
kay risk for the sector due to the aging of power plants given that 65% of the country’s
power generation capacity is 10 years or older. Unplanned outages could result to
higher WESM prices and benefit companies with capacities that are not contracted (but
detrimental to companies which have to purchase replacement power from the spot
market).

Top picks – AP and MER

Our top picks for 2021 are AP and MER.

We like AP because we expect its profits to recover sharply in 2021, by 74.6% to Php17.6Bil,
as it benefits from higher WESM prices and the start of operations of the 1,200MW
Dinginin Coal Project (unit 1 beginning in 2Q21, unit 2 beginning in 3Q21). Its 2020
profits were also negatively affected by unplanned outages of its coal plants. Moreover,
AP’s share price has declined by 23% in the past 12 months, underperforming the PSEI’s
9.9% decline. This has made AP’s valuation increasingly attractive, with the stock trading
at 11.2X 2021 P/E, below its 10-year historical average of 13.6X. Based on AP’s current
market price of Php26.65/sh, upside to our FV estimate is at 51.6%.

We also like MER. We forecast MER’s profits to grow by only 5.9% in 2021. However, its
profitability is least vulnerable to the risks facing the power industry (lower selling prices,
higher coal costs and unplanned outages) because bulk of its profits come from the
distribution business. MER’s valuation has also become attractive with the stock trading
at 16.1X 2021 P/E, below its 10-year historical average of 17.5X. Based on MER’s current
market price of Php297/sh, upside to our FV estimate is at 24.3%.

Although FGEN and ACEN are less vulnerable to the risks facing the power industry, both
stocks are no longer attractive in terms of valuation. In fact, although ACEN’s earnings are
projected to grow by 63.5% to Php6.7Bil largely due to the injection of Presage (which
holds AC Energy’s international power assets) into ACEN, EPS will drop by 31.4% since
ACEN issued new shares in exchange for shares in Presage.

COL Financial Group, Inc. 4

 POWER SECTOR I TO BENEFIT FROM ECONOMIC RECOVERY BUT RISKS REMAIN

FRI 15 JAN 2021

Exhibit 3: Valuation of peers

2021 P/E ratio

Aboitiz Power 11.2
FGEN 8.9
Meralco 16.1
SCC 7.5
ACEN 43.6
Average 17.5
Source: COL estimates

Exhibit 4: Power companies 2021E EPS growth

Company EPS growth (%)

FGEN 5.1
AP 74.6
SCC 60.4
ACEN -31.4
MER 5.9
Source: COL estimates

COL Financial Group, Inc. 5

 POWER SECTOR I TO BENEFIT FROM ECONOMIC RECOVERY BUT RISKS REMAIN

FRI 15 JAN 2021

I M P O R TA N T R AT ING DEFINITIONS
BUY
Stocks that have a BUY rating have attractive fundamentals and valuations based on our analysis. We expect the share price to outperform the market in the
next six to 12 months.

HOLD
Stocks that have a HOLD rating have either 1) attractive fundamentals but expensive valuations 2) attractive valuations but near-term earnings outlook might
be poor or vulnerable to numerous risks. Given the said factors, the share price of the stock may perform merely in line or underperform in the market in the
next six to twelve months.

SELL
We dislike both the valuations and fundamentals of stocks with a SELL rating. We expect the share price to underperform in the next six to12 months.

I M P O R TA N T DISC L AIM ER
Securities recommended, offered or sold by COL Financial Group, Inc. are subject to investment risks, including the possible loss of the principal amount invested.
Although information has been obtained from and is based upon sources we believe to be reliable, we do not guarantee its accuracy and said information may
be incomplete or condensed. All opinions and estimates constitute the judgment of COL’s Equity Research Department as of the date of the report and are
subject to change without prior notice. This report is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of
a security. COL Financial and/or its employees not involved in the preparation of this report may have investments in securities of derivatives of the companies
mentioned in this report and may trade them in ways different from those discussed in this report.

CO L R E S EAR C H T EAM

APRIL LYNN TAN, CFA

VP & HEAD OF RESEARCH
april.tan@colfinancial.com

CHARLES WILLIAM ANG, CFA GEORGE CHING RICHARD LAÑEDA, CFA

DEPUTY HEAD OF RESEARCH SENIOR RESEARCH MANAGER SENIOR RESEARCH MANAGER
charles.ang@colfinancial.com george.ching@colfinancial.com richard.laneda@colfinancial.com

JOHN MARTIN LUCIANO, CFA FRANCES ROLFA NICOLAS JUSTIN RICHMOND CHENG
SENIOR RESEARCH ANALYST RESEARCH ANALYST RESEARCH ANALYST
john.luciano@colfinancial.com rolfa.nicolas@colfinancial.com justin.cheng@colfinancial.com

ADRIAN ALEXANDER YU KERWIN MALCOLM CHAN

RESEARCH ANALYST RESEARCH ANALYST
adrian.yu@colfinancial.com kerwin.chan@colfinancial.com

CO L F INANC IAL G R O UP, IN C.

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WEBSITE: www.colfinancial.com

COL Financial Group, Inc. 6