Given the neutral results of 2016 and strong production figures for 1Q2017 we have revised the target price for KEGOC shares. Long-term tariffs approved by the CRNMPC remain unchanged and ensure predictability of revenues, while forecasts of operating indicators for 2017 were revised upwards (+ 1p.p) taking into account the data of 1Q 2017, and forecasts of the Ministry of Energy of the Republic of Kazakhstan, which presume an increase in the volume of electricity production in the country by 2%. We raise our 12M target price to T 1257/share. However, considering overly valued shares, along with the debt load in the foreign currency, we maintain the "Hold" recommendation.
Revenue of KEGOC for 2016 justified expectations. KEGOC`s last year revenues exceeded T 130bn, showing an increase of 18%, which was due to both the increase in tariffs (approved by CRNMPC) and the growth in the volume of services (Figure 4.). The volume of regulated services grew due to the general increase in the production and consumption of electricity in the wholesale market and the increase in interstate transit. As a result, the volumes of electricity generated from the regulated services justified our expectations, showing only a slight deviation. However, due to the increase in the number of electricity suppliers for renewable energy sources, the company could cope to double the sales of purchased electricity. In addition, during 2016 the company reflected sales of power regulation services to a non-resident of Uzbekenergo and increased the volume of other services. As a result, the total income of KEGOC for 2016 came within our expectations (though, higher by 2%).
Incurred expenses of KEGOC for 2016. With revenue growth of 18%, the cost of sales increased by only 5% to T 79bn, mainly due to high depreciation costs (28% of total cost). Excluding the cost of depreciation, the cost of production was T 57bn, increasing by 7% and coinciding with our forecast. At the same time, operating expenses doubled due to an increase in tax payments, wages and accrual of provision for doubtful debts. We expected a less rapid growth in operating costs - the operating margin was 25% instead of the expected 27%.
Volume of electricity. Our previous forecast assumed an increase in the volume of transmission services by 4%, dispatching by 1% and electricity balancing by 1.5% in 2017. At the same time, production data for 1Q 2017 exceeded our expectations, in connection with which we updated the forecast for the volume of services in the model, setting a higher growth rate for them (+ 1p.p).
Debt load. As of the end of 2016, 45% of KEGOC's liabilities were loaned to IBRD and EBRD (T 122bn), denominated in foreign currency. In January of this year, KEGOC paid ahead of schedule the EBRD loan, attracted in 2011, in the amount of $ 151.9 million for the implementation of the investment project "Reconstruction of VL 220kV CCPR - Osakarovka." Nevertheless, despite the sufficient liquidity reserve for timely repayment of debts, we believe that the debt load in the currency is a significant risk for the share price, as it will restrain the company's profitability.
Increase of 12M target price to T1 257, the "Hold" recommendation. We have revised the target price for KEGOC shares taking into account the results of 2016 and the results of 1Q 2017. Based on the production indicators 1Q of 2017 and the expected energy ministry of the Republic of Kazakhstan for a positive trend in electricity generation in 2017, we have changed the forecast of the volumes of regulated services. The marginal tariffs ensuring the predictability of revenues remained unchanged (there is no information on a possible revision of tariffs by CRNMPC). As a result, our 12M target price was T1 257/share. Since our last report, KEGOC shares have increased by 34% and reached the level of T1 399/share. Given the overvaluation of shares and the debt burden in foreign currency, we maintain the HOLD recommendation for KEGOC shares.