Ukrainian Electricity Distribution: RAB reform ahead

Publication Date	August 2007
Publisher	Concorde Capital
Product Type	Report
Pages	41
ISBN Number	not applicable
Product Code	CNC00040

Buy this product or for assistance call +44 20 7060 7474

PDF £210.00$349 | €235

FAX Order above formats by FAX

Summary

Electricity sector regulator NERC is going to introduce a tariff methodology that will relate a electricity distribution company's (Oblenergo) profits to a regulatory asset base (RAB). The main component of RAB is the net value of Oblenergos' assets, thus a precise estimate of net assets is necessary to guess what the RAB will be. Since Oblenergos have different approaches toward accounting their assets, balance sheets are not directly comparable. We obtained more information on real assets value of Oblenergos and we believe the companies' RAB will be calculated using this information.

According to the updated schedule for the new tariff policy for Oblenergos, international advisors KEMA and ECA are working on development of new rules. They are scheduled to propose an approach by mid-2008 and it will take at least half a year to work out the legal basis for its implementation. Thus, if no radical (political) changes occur within the NERC, we expect implementation of a new tariff policy in 2009, which is one year later than we previously expected.

Over the last two years cutting excess electricity losses has been a major driver of Oblenergos profits: the aggregate profit of the sector grew to USD 52 mln in 2006 from -112 mln in 2003, and most of the addition was due to the USD 113 mln saved by minimizing electricity losses. Most Oblenergos now keep losses at or even below technically feasible levels, meaning this price driver is exhausted.

The timing of the next jump in profit growth depends mainly on the implementation of a RAB-based tariff policy for Obelenrgos, which we expect in 2009 (a one-year delay compared to our previous report)

The NERC's publication of their replacement cost methodology a month ago provided us better understanding of what RAB could be. With this in mind, we estimate that implementation of the new tariff policy could lead to a fivefold increase in profits for Oblenergos.

We recommend using transformer capacity as a measuring stick to value Oblenergos, as it strongly correlates both with current profitability and RAB which will determine future profits.

Content

1. Investment Case
2. STOCK MARKET
- 1.7x yoy increase in trading volumes
- Spreads for most stocks decreased
- Performance: Private companies are outsiders
3. PRIVATIZATION
- Postponed to 2008
- Insiders most likely to privatize
- Methods of privatization
4. CORPORATE ISSUES
- Dividend policy: State tightens its purse strings
- Corporate conflicts: Court battles persist
5. DEBT ISSUES
- Debt offsetting: No progress
- How will outstanding debt be repaid?
- Net debt adjustments
- Debt differences: Breakthroughs at Energorynok
6. PROFITABILITY STUDIES
- Key profit drivers
- Reduction in excessive electricity losses: Driver of past performance
- Tariff revision: Income driver for the mid-term
- Network connection: A new profitable business direction?
- Profitability convergence of Oblenergos
7. NEW TARIFF POLICY
- Still in the works
- A new vision of the RAB
- An aggressive approach to estimating net asset value
- More realistic approach to estimating net asset value
8. VALUATION
- Rule of thumb for valuation: Beware of applying EV/Sales and EV/Electricity directly
- Investment program: Determining current margins
- We advise to value by capacity
- Russian peers: Sum-of-the-parts
- Developed market peers
- Applying discounts
- Peer valuation summary
- RAB as a benchmark
- Valuation summary
- A guide to Oblenergo valuation
- Recommendations summary
Appendix 1:
- Valuation summary for de-listed Oblenergos
Appendix 2: Peer summaries
Appendix 3
Appendix 4: Financial summary
CHARTS
- Monthly trading volumes, USD mln
- Trading volumes, Aug. 06-July 07, USD mln
- Performance (mid-market), 52 weeks
- Year-to-date
- Sectors excessive electricity losses and earnings, USD mln
- Portion of Oblenergos that raised their tariffs
- EBITDA margins of different groups of Oblenergos
- Fixed assets of Oblenergos, USD mln
- Accumulated depreciation in Oblenergos balance sheets:
- Adjusted accumulated depreciation
- Negative scale effect in Oblenergos, 2006 data
- Investment program vs. EBITDA, USD mln
- Oblenergo multiples variation coefficients
- Correlation matrix: Key EBITDA determinants, 2006 data
- Correlation with replacement value
- Valuation of Russian energy companies:
- RAB-based valuation: Implied upsides
TABLES
- Bid/Ask spread
- Parameters of privatization via additional share issues: TGK-5 vs. DNEN
- Dividend payment summary, USD mln
- Accounts payable for Oblenergos with the highest debt, USD mln*
- Net debt adjustment arithmetic, USD mln (as of Mar 31, 2007)
- Oblenergos that are allowed to obtain 100% of cash flow by NERC algorithm*
- Aggregated et income difference, current and new policy
- Selected Oblenergos implied net income vs. peers (USD per MWh)
- Aggregated net income difference, current and new policy
- Oblenergos' possible allowed profit vs. developed market peers, USD/MWh
- Distribution business multiples:
- Sum-of the parts valuation
- Peer multiples
- Oblenergos: 2007 multiples and premiums/discounts to peers
- Oblenergos scoring
- Implied upsides by international peers
- Explanatory power of multiples
- Valuation summary: Implied upsides
- Implied prices, USD
- Russian distribution and supply companies
- Russian CHPPs
- Developed market peers, USD mln
- Key operating data and forecasts
- Chernivtsioblenergo (CHEN)
- Chernihivoblenergo (CHEON)
- Cherkasyoblenergo (CHON)
- Dnipooblenergo (DNON)
- Donetskoblenergo (DOON)
- Kharkivoblenergo (HAON)
- Khmelnitskoblenergo (HMON)
- Khersonoblenergo (HOEN)
- Kirovogradoblenergo (KION)
- Krymenergo (KREN)
- Lvivoblenergo (LVON)
- Mykolaivoblenergo (MYON)
- Odesaoblenergo (ODEN)
- Poltavaoblenergo (POON)
- Prykarpatoblenergo (PREN)
- Sumyoblenergo (SOEN)
- Sevastopolenergo (SMEN)
- Ternopiloblenergo (TOEN)
- Vinnitsaoblenergo (VIEN)
- Volynoblenergo (VOEN)
- Zaporizhiaoblenergo (ZAON)
- Zhytomiroblenergo (ZHEN)
- Zakarpatoblenergo (ZOEN)