THIS REPORT WAS PREPARED BY ANA RITA MIRANDA, A MASTERS IN FINANCE STUDENT OF THE NOVA SCHOOL OF BUSINESS AND
ECONOMICS, EXCLUSIVELY FOR ACADEMIC PURPOSES. THIS REPORT WAS SUPERVISED BY ROSÁRIO ANDRÉ WHO REVIEWED THE
VALUATION METHODOLOGY AND THE FINANCIAL MODEL. (SEE DISCLOSURES AND DISCLAIMERS AT END OF DOCUMENT)
See more information at WWW.NOVASBE.PT Page 1/33
MASTERS IN FINANCE
EQUITY RESEARCH
As a result of EDP’s privatization process, China Three Gorges
(CTG) acquired a sizable position in EDP’s capital structure with positive
impacts on share prices (+9.53%) and financing requirements. CTG is
identified as an important strategic partner that facilitates access to
alternative markets and potential joint-participations in other
investments.
The Iberian market (MIBEL) is becoming fully integrated with
lower days of market splitting in 2013. This imposes more efficiency to
companies in production and increases the importance of possessing the
“right” source of production. EDP has under construction six hydro
power plants with a total installed capacity of 1,697MW.
Iberian activities have recently suffered due to changes in
regulation, a direct result of the current economic environment in this
region. Major changes include the CMEC remuneration, reduction in
remuneration rates of the regulatory asset bases, and the introduction of
new taxes such as the energy tax of 0.85% of assets. This is a segment
with low future growth perspectives.
EDP is currently pursuing the liberalization of its supply activity
which will require significantly higher efforts from the company side given
increased competition. The company will have to become more
dynamic on several fronts in order to maintain its current market
positioning. As the actual incumbent, EDP is regarded as having a
comparative advantage over its peers. This procedure is expected to
conclude in the end of 2015.
Brazil currently poses as a major source of future opportunities
given the country’s ever growing market. Demand for energy is expected
to increase through the following decades (4.7% per year) in spite of the
regulatory system that is currently in place.
Developing economies have displayed environment concerns
that have recently led to the increase in Renewables. Based on future EU
targets on CO2 reductions and EDPR expansion strategy, EDP has much
to gain from this segment.
Our Target price is €2.86 and the recommendation is to Hold.
Company description
EDP is an electric utility company founded in 1973 operating worldwide. Currently, EDP is a group of companies operating throughout the value chain of electricity. It also operates in the gas segment and in the renewable sector. It is the major electricity company in Portugal.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
“ELECTRIC UTILITIES” 06 JANUARY 2014
ANALYST: ANA RITA MIRANDA [email protected]
Time of Changes
Challenging Liberalized Markets
Recommendation: Hold
Vs Previous Recommendation HOLD
Price Target FY14: 2.86 €
Vs Previous Price Target 2.86 €
Price (as of 3-Jan-14) 2.69 €
Reuters: EDP.LS, Bloomberg: EDP.PL
52-week range (€) 2.22-2.82
Market Cap (€m) 9,704
Outstanding Shares (m) 3,627.3
Source: EDP and Bloomberg
Source: Bloomberg
2012 2013E 2014E
Revenues (€ millions) 16,340 16,992 15,851
EBITDA (€ millions) 3,628 3,614 3,985
Net Profit (€ millions) 1,182 843 1,033
EPS (x) 0.32 0.24 0.28
P/E (x) 8.84 12.40 10.12
Net Debt/EBITDA (x) 5.19 5.09 4.22
Debt/Assets(x) 0.48 0.48 0.45
EV/EBITDA (x) 9.18 9.22 8.36
ROA (x) 2.77 1.98 2.51
Source: EDP and Nova Research Team
50
70
90
110
130
150
Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13
EDP PSI20
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 2/33
Table of Contents
1. COMPANY OVERVIEW .................................................................... 3
COMPANY DESCRIPTION ....................................................................................... 3 SHAREHOLDER STRUCTURE ................................................................................. 4
2. MARKET OVERVIEW ....................................................................... 6
ELECTRICITY IN THE WORLD AND IN EUROPE ...................................................... 6 ENERGY IN THE WORLD ......................................................................................... 7 CO2 EMISSIONS ..................................................................................................... 8
3. VALUATION ..................................................................................... 8
4. GENERATION IN IBERIA ................................................................11
Valuation .................................................................................... 13
5. DISTRIBUTION IN IBERIA ..............................................................15
6. SUPPLY IN IBERIA .........................................................................18
Valuation .................................................................................... 19
7. GAS IN IBERIA ................................................................................22
Valuation .................................................................................... 23
8. BRAZIL ............................................................................................24
Valuation .................................................................................. 236
9. RENEWABLES ................................................................................27
10. MULTIPLES’ VALUATION ..............................................................28
FINANCIALS ...........................................................................................28
APPENDIXES ..........................................................................................28
DISCLOSURE AND DISCLAIMER ..........................................................33
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 3/33
1. Company overview
Company description
Energias de Portugal (EDP) is a vertically integrated electric utility company
that operates across multiple sectors. The company was created in 1976 from
the merger of 13 public enterprises and experienced significant growth over the
next decades. Although the company is smaller than most of its comparables,
EDP has one of the highest return on equity (ROE) which is derived from its high
leverage, much above its comparables. EDP exhibited stable return on assets
(ROA) since 2009 having one of the highest values among the most relevant
European competitors.
Sources: Bloomberg, and NOVA Research Team.
The activities of EDP are split across the following sectors: Iberian electricity,
Iberian natural gas, Brazil, and Renewables. Since many of these activities are
capital intensive (e.g.: electricity production and distribution), EDP is largely
affected by regulation and is under the scrutiny of ERSE1.
The electricity sector is comprised by electricity production, distribution, and
supply (commercialization). Production is carried out in two different regimes:
conventional regime with installed capacity of 13,343 MW, and special regime
with installed capacity of 466 MW. The special regime (PRE) has priority
dispatch in the electricity markets and it was developed due to the finite
character of fossil fuels and the need to diversify energy sources. This regime
currently includes mini-hydroelectric2, cogeneration, and biomass and residuals
production. For the purpose of this report, the production segment is valued by
differentiating the production from regulated and from liberalized production. The
share of hydro and wind’s installed capacity has increased, while thermal and
combined cycle maintained a stable share of installed capacity. Regarding the
1“Entidade Reguladora dos Serviços Energéticos” (ERSE) is the Portuguese supervisor for energy services (electricity
and gas). 2Hydroelectric power plants with an installed capacity below 10MW.
Table 1: Comparables' Data
Inst.
Capacity
(MW)
Net
Debt/
EBITDA
Net
D/E
EV/
EBITDA P/E
P/
Book
Rating
(S&P)
EDP 23.38 5.1 161.7% 8.67 10.00 1.15 BB+
EDF 139.50 2.3 90.4% 5.82 9.59 1.47 A+
RWE 51.98 1.1 77.9% 3.02 179.63 1.53 BBB+
Iberdrola 46.04 4.7 76.7% 9.66 9.89 0.81 BBB
Endesa 39.40 0.1 2.8% 4.23 10.62 0.99 BBB
EDPR 8.15 3.5 57.4% 7.17 24.77 0.58 N.A.
Endesa Iberdrol
a
EDF
EDP
GDF
EDPR E.ON
RWE
0%
3%
6%
9%
12%
15%
100 200 300
RO
E (
Percen
t)
Total Assets (€ billions)
Graph 1 - Comparables1\
Source: Bloomberg. 1\ Size corresponds to market capitalization.
0%
1%
2%
3%
4%
5%
6%
7%
2009 2010 2011 2012
Graph 2: Return on Assets
(Percent)
EDP Iberdrola
Endesa EDPR
EDF RWE
Source: EDP, Endesa, Iberdrola, EDF, RWE, and NOVA Research Team.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 4/33
net production, wind has doubled its weight in total production, while the
combined cycle has decreased exponentially. EDP’s distribution of electricity is
performed in high, medium, and low voltage and it consist in a large network that
covers 223,734 Km in Portugal and 22,986 Km in Spain. Given that these
networks imply large investments in fixed assets, the activity is capital intensive
and is classified as a natural monopoly that requires the intervention of
regulatory institutions in order to establish the remuneration in the segment. The
supply activity consists in the commercialization of electricity and it was
originally fully regulated. With the liberalization of the market, the relative size of
regulated and last resort supply (LRS) activities compared to total EDP’s supply
has steadily decreased and it currently accounts for 67% of commercialization in
Portugal and 4% in Spain. EDP’s commercialized a total of 29,603 GWh3 in
Portugal and 20,252 GWh in Spain, denoting a much larger presence in the
Portuguese market given the differences in each country's size and population.
The natural gas sector includes storage, distribution and supply with operations
in Portugal and Spain. EDP, which is the second largest operator in both
markets, can either sell the gas or use it to produce electricity in its CCGT plants.
In 2012 EDP supplied more than one million consumers, counted with 14,196 km
of distribution grid and commercialized more than 35 TWh.
Similarly to the Iberian activities, the Brazilian sector also incorporates
production, distribution and supply of electricity. Production is mostly focused on
the conventional regime and installed capacity amounted to 1,974 MW in 2012.
Distribution is performed through EDP Bandeirante and EDP Escelsa, and it is
characterized by a network extension of 85,749 Km. Supply of electricity in Brazil
consisted in 24,923 GWh during 2012 where 63% was regulated.
Renewables, operated by EDP Renováveis (EDPR), comprises mainly the wind
generation and amounted to a total of 8,145 MW of installed capacity, being
present in Europe, north and south of the American continent. In 2012, EDPR
produced 18,445 GWh which were entirely sold due to its priority in dispatch
while subject to feed-in-tariffs4.
Shareholder Structure
EDP currently possess a total of €3,656.5 million shares, all of them class A
shares5 with nominal value of one euro and fully paid. Its shareholder structure
has changed over time mainly through its reprivatization process that began in
3One Gigawatt hours (GWh) is equivalent to one million kilowatt hours (KWh). One KWh is the output of a power
station with an installed capacity of 1KW operating during one hour at its full capacity. 4Tariff/price entitled to renewables technologies in order to encourage investment in these types of technology.
5Until recently, there were also class B shares which were the ones to be reprivatized.
13%
9% 0%
10%
20%
30%
40%
50%
2009 2010 2011 2012
Graph 6: Iberian Market Shares
(Percent)
Electricity Supply - Market Leader
Electricity Supply - EDP
Gas Supply - Market Leader
Gas Supply - EDP
Source: EDP.
-20%
0%
20%
40%
60%
80%
100%
2010 2011 2012 2013E 2014E
Graph 4: Turnover
Breakdown (Percent)
Reg. Production Lib. ProductionDistribution SupplyGas BrazilRenewables Other and Adjustments
-20%
0%
20%
40%
60%
80%
100%
2010 2011 2012 2013E 2014E
Graph 5: EBITDA
Breakdown (Percent)
Reg. Production Lib. ProductionDistribution SupplyGas BrazilRenewables Other and Adjustments
Source: EDP.
Source: EDP.
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 5/33
June 1997. This process has been characterized by 8 stages where the most
recent and relevant one occurred in October 2011 in which shares detained by
Parpública6, a public holding that owned golden-shares at EDP
7, were sold in two
phases.
The first phase included a sale of 21.35% of capital which was acquired by China
Three Gorges (CTG), a Chinese government owned company operating in the
energy sector with an installed capacity of 74.8GW. This transaction amounted to
€2.7 billion that represents a price per share of €3.45 and a premium of 53%8,
with a positive impact on market share prices of €0.22 (+9.53%) through the
following two weeks9.CTG’s entry into the company’s capital is perceived
positively given the significant share price appreciation that has been observed
since the transaction. For instance, during the last two years EDP’s stock price
has increased by 23.86%, amounting to 11.29% per year.
The second phase took place in February 2013 where the remaining Parpublica’s
stake of 4.14% was sold as free float given that an agreement with CTG was not
achieved. This stake was sold at a price of €2.35 per share, which represented a
discount of 2.97% compared to the previous day’s closing price. After the sale
EDP’s shares experienced a decline of 8% that took approximately one month to
recover from.
CTG’s strategy lies in renewable energies and aims, with the investment in EDP,
to become a strategic partner in this field. This led to its current agreement that
includes a 4 year lock-up and standstill period by CTG which, in addition to a
granted credit facility of €2 billion for a maturity of 20 years, contributed to
stabilize the shareholder structure and improve EDP’s liquidity position which is
very important due to the recent financing restrictions that Portuguese
corporations have experienced.
In 2011 it was estimated that EDP needed refinancing of about €2.6 billion per
year during three years10
. Furthermore, 2011’s annual accounts also indicated
debt repayments of €3.0 billion in 2012, and €2.7 billion in 2013. This entire
standing improved due to CTG’s entry and current EDP estimates suggest that
no more refinancing will be required until the end of 2014.
EDP is presently pursuing a deleveraging strategy and aims to achieve the target
of three times the debt-to-EBITDA ratio by 2015. The agreement has also settled
the purchase of minority stakes by CTG in the renewable sector. This gives EDP
6 DL 106-A/2011, from October 26
th, in which the disinvestment of Parpublica in EDP has been authorized.
7 Golden shares gave the right of veto regarding some matters.
8 According to recent news, this premium was based on expected standstill regulatory environment.
9 Increase from 22 of December 2011, when the purchasing was agreed, until 2 of January 2012.
10 Financial Times.
1.55%
2.47%
1.74%
0.0%
1.0%
2.0%
3.0%
0
200
400
600
Net
Generation
(TWh)
Net
Consumption
(TWh)
Installed
Capacity
(GW)
Graph 7: EDPB and Brazilian
Market (Percent)
Brazil % EDPB
Sources: EDP, World Bank, and NOVA Research Team.
7.99
0
2
4
6
8
10
12
14
Iber
dro
la
ED
PR
ED
F
RW
E
Fer
sa E
ner
gia
s
Ren
ovab
les
Graph 8: Wind Installed
Capacity (GW)
Sources: EDP, Iberdrola, EDF, RWE, Fersa Energias Renovables, and NOVA Research Team.
Table 2: Shareholders' Structure
SHAREHOLDERS %
Capital
China Three Gorges 21.4%
Oppidum 7.2%
Iberdrola Energia S.A.U. 6.7%
Capital Group Companies, Inc. 5.0%
José de Mello Energia, S.A. 4.6%
SENFORA SARL 4.0%
Grupo BCP; FP do Grupo BCP 3.4%
Sonatrach 2.4%
Qatar Holding LLC 2.3%
Massachusetts Financial
Services Company 2.2%
BlackRock, Inc. 2.0%
Banco Espírito Santo, S.A. 0.3%
EDP (Treasury Stock) 0.8%
Free Float 38.5%
Total 100.0%
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 6/33
the opportunity to become more active in the upside potential of the growing
Chinese market as well as a joint-participation in other investments as are the
ones recently announced in Africa and Brazil11
.
2. Market Overview
Electricity in the World and in Europe
World’s installed capacity is expected to grow at an average rate of 1.6% per
year from 2010 until 2040 but with significantly different growth rates across
regions. OECD countries are expected to grow at an average of 0.9% per year,
while non-OECD countries are expected to grow at 2.3% on average, with Brazil
and China in the leading positions. This denotes a clear discrepancy between
developed and developing or emerging economies. In absolute values OECD
countries remain fairly stable in regards to total installed capacity, whereas non–
OECD greatly increase their share and China alone represents 27.4% of world’s
total installed capacity in 2040.
Regarding the world’s total generation of electricity it is forecasted to increase by
an average of 2.2% per year from 2012 to 2040, which is slower than the
preceding 7 years in which the average rate was 3.1%. This implies a change in
the sources’ shares over time. For instance, coal is forecasted to lose 4
percentage points between 2012 and 2040 whereas renewable sources increase
from 19% to 25% and natural gas from 20% to 24%.
World Demand12
exhibits an expected growth rate of 2.2% from 2010 until 2040
but with differences across regions. OECD countries present an average growth
rate of 1.1%, with US and OECD Europe both under the average with 0.8% and
11
Recent articles on newspapers (e.g.: Jornal de Negócios). 12
We used net generation as a proxy for demand.
17.33
21.41
25.37
39.03
0
5
10
15
20
25
30
35
40
45
2005 2010 2015 2020 2025 2030 2035 2040
Th
ou
san
ds
Chart 10: Electricity Generation by Fuel
('000 TWh)
Oil and other liquids Coal Nuclear Natural gas Hydro Wind Solar Other
2%
5%
39%
16%
40%
36%
4% 3%
14%
20%
38%
13%
15%
6%
17%
11%
23%
17%
21%
17%
24%
075
150225300375450525600675750825
1990 2000 2010 2020 2030 2040
Chart 11: World Energy
Demand
(Quadrillion Btu)
Non-OECD OECD
Source: EIA.
Source: EIA.
0
2
4
6
8
2005 2010 2015 2020 2025 2030 2035 2040
Th
ou
san
ds
Chart 9: Installed Capacity by Region/Country
(Gigawatthour)
US OECD Europe Other OECD China Brazil Africa Other Non-OECD
OECD
Non-OECD
Source: EIA.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 7/33
1.0%, respectively. Non-OECD countries present an expected growth rate of
3.1% with China above average (3.7%) and Brazil and Africa both with 3.0%
growth rates.
Energy in the World
World’s consumption of energy, which encompasses natural gas, coal, oil,
nuclear and others, presents the same trend. Non-OECD countries exhibit
exponential grow while developed countries experience a more moderate growth.
Coal
Coal consumption is expected to increase by an average of 1.3% although the
increase is driven by developing countries, mainly in Central and South America
and Asia. Developing countries are expected to decrease its consumption. Coal
used for electricity generation is expected to decrease its proportion in total
generation while increasing its absolute value which implies a significantly higher
growth for alternative inputs. On a side note, coal prices are expected to grow at
an average rate of 3%, according to the U.S. Energy Information Administration
outlook (EIA).
Natural Gas
Total natural gas consumption is expected to increase by an average rate of
1.3% per year, again driven by developing countries. Some of the natural gas
consumption will be in production of electricity, which is expected to increase
both in total share of generation and absolute value. As a fossil fuel natural gas
reserves are claimed to be finite and we will eventually become unable to extract
it. Nevertheless, technological advancements, new transformation processes,
and even the appearance of new theories suggest that these inputs are not as
finite as it was believed.
Natural gas consumption in electricity production will also depend on its relative
price to other energy sources. Its price has been decreasing remaining at low
levels but it is expected to increase at 3.4% yearly average until 204013
.
Nuclear
Nuclear consumption is expected to experience a high increase (2.5% average
per year) for which the major contributors are China, Europe and America, with a
combined consumption of 62% of total consumption in 2040.
Nuclear plants are on average one of the most efficient forms of production with
low marginal costs of production. Nevertheless, it is a very capital intensive type
13
EIA, Annual Energy Outlook (AEO), 2013.
Source: EIA.
125
150
175
200
225
2009 2010 2015 2020 2025 2030 2035 2040
Chart 13: World Coal
Consumption
(Quadrillion Btu)
0
4
8
12
16
Chart 14: Henry Hub Natural
Gas Spot Prices
(USD/MMbtu)
Source: EIA.
Source: Bloomberg.
0
10
20
30
40
Th
ou
san
ds
Chart 12: Net generation by
Region/Country
(Billion KWh)
US OECD EuropeOther OECD ChinaBrazil Africa
Source: EIA.
100
120
140
160
180
200
20092010201520202025203020352040
Chart 15: World Natural Gas
Consumption
(Trillion cubic feet)
Source: EIA.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 8/33
of production with some environmental concerns, mainly after the incident in
Fukushima, Japan.
CO2 emissions
Concerns about the environment have been growing around the world, which has
implications on the decision of each source of energy to use. The European
Union (EU) has established targets for 2020 currently called “20-20-20”14
, in
which the ambition is to reduce by 20% greenhouse gas emissions (versus
1990), to increase to 20% consumption of renewable sources, and to reduce by
20% the use of primary energy (versus 2007). The EU is also committed to a
“low-carbon economy” and until 2050 aims to reduce greenhouse gas emissions
to 20% of 1990 levels15
.
This might have implications in the CO2 prices and consequently in the decisions
of the companies in regards to energy source selections and investment
valuations.
3. Valuation
The valuation of the company is done through a Sum of the Parts approach
where each business is valued separately. A Discounted Cash flow model is
applied for each segment where the Free Cash Flow (FCF) is discounted at the
Weighted Average Cost of Capital (WACC), a measure that captures each
business’ risk.
To compute the WACC there are three major terms to be considered: the cost of
debt, the cost of equity and the target debt-to-equity ratio.
In regards to the cost of debt, EDP can finance itself as a whole which offers
better conditions than separate financing for each business unit. Therefore, the
cost of debt was computed for the whole company and considered equal across
units. Nevertheless, in order to reduce exchange rate risk the company borrows
in local currencies (e.g.: euros, Brazilian reais and US dollars). This cost was
computed using two different approaches.
The first approach determines the cost of debt by adding the risk free rate to a
spread based on the rating of the company. EDP’s rating is currently BB+ which
corresponds to a spread of 3.00%16
. For the risk free we have considered an
14
European Directive 2012-727/EU. 15
This vision incorporates intermediate milestone goals of 60% by 2030 and 40% by 2040. 16 Data collected by Aswath Damodaran, a Professor of Finance in Stern School of Business at New York University.
2,000
3,000
4,000
5,000
6,000
20092010201520202025203020352040
Chart 16: World Nuclear
Consumption
(Billion KWh)
860 690 670
400
0
200
400
600
800
1000
Coal Gas oil Fuel Oil NaturalGas
Chart 17: Implied GHG emissions from electricity generation
(CO2/KWh)
Source: EIA.
Source: “CO2 emissions from fuel combustion”, 2012 Edition, IEA.
Sum of the Parts approach, valuing each business separately.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 9/33
historical average of the 10 year German bond for the Iberian activities (2.36%).
These computations provide a cost of debt of 5.36%. For the particular case of
Brazil where activities are accounted in Brazilian reais the risk free was
determined using the covered interest rate parity17
, with the 10 year German
bond, the current exchange rate, and the 5 year forward exchange rate. We have
also looked at the inflation rate differential between these two countries. For this
valuation, the risk free rate for Brazil is considered 4.96%.
The second approach takes into account EDP’s current 10 year yield from a zero
coupon bond, along with the historical probability of default and recovery rates of
companies with similar ratings18
. EDP’s 10 year yield currently stands at 4.47%,
and the probability of default and the recovery rates of BB+ rated companies
correspond to 10.51% and 70.70%, respectively. This computation provided a
cost of debt of 4.82%. For the purpose of the valuation we shall rely on the
second approach as it is more detailed.
Even though the risk free rate is considered to be different in Brazil, the cost of
debt will be considered the same as we are using the method based on market
yields and default rates.
Since we utilize a sum of the parts approach, the cost of equity was determined
with the intent of valuing each segment separately. The basis of our approach
lies on CAPM19
. However, since company returns only yield aggregated results,
we rely on comparables to assess the systematic risk of each activity. This is not
a straightforward task as the majority of companies do not operate in one single
business. Therefore, we define comparables as companies that, while still
possessing activities throughout the entire value chain, tend to emphasize a
particular segment, while having a similar size, and rating20
. We can find in the
Appendix 2 more details on this selection.
17
( ) where stands for the domestic interest rate and for the foreign interest rate.
18 , where corresponds to the market yield of a 10y zero coupon bond,
to the probability of default of BB+ rated companies, and to the recovery rate of BB+ rated companies.
Moody’s Investors Service. February 2009. “Corporate Default and Recovery Rates, 1920-2008.”
Standard&Poors. March 2011. “Default, Transition, and Recovery: 2010 Annual Global Corporate Default Study and
Rating Transitions”. 19
Capital Asset Pricing Model (CAPM), used to compute the expected return of the asset using the following equation:
( ) to estimate the parameters. This methodology only takes into account the systematic
component of risk as investors are capable of diversifying the firm specific risk. We used ( )
where CRP stands for the country risk premium. 20
In “Principles of implementation and best practice for WACC calculation”, Independent regulators Group, 2007
Table 3: Default Spread
Spread
A 1.00%
A- 1.30%
BBB 2.00%
BB+ 3.00%
BB 4.00%
B+ 5.00%
Source: Damodaran.
Cost of Debt using EDP’s 10y yield, probability of default and recovery rates.
Cost of Equity determined using comparables and segment’s unlevered betas
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 10/33
For each segment we have estimated the unlevered beta through the average of
comparables which was later relevered21
through the market debt-to-equity ratio.
Current market debt-to-equity ratio was determined at 2.1. Nevertheless, the
target lies below this number as EDP is pursuing a deleveraging strategy with a
target ratio of 2.0.
Market risk premium is assumed to be 5.7022
in accordance with literature.
Country risk premium (CRP) was computed using Credit default swaps (CDS)
and the relative weight of standard deviation of equities and bonds in the local
market. We have also looked at local and global market variances to have a
better sense of the value for CRP23
.
For the perpetuity we used the NOPLAT of the last year of the explicit period, the
growth rate for each economy, and the perpetuity formula24
.
For the growth rate, we have considered an inflation rate of 2% for Europe,
consistent with European Central Bank’s long-term strategy25
and for Brazil an
inflation rate of 4.5%, which is consistent with the International Monetary Fund’s
(IMF) projections for medium term and also according to Brazilian’s Central Bank
target for inflation26
. For the real growth rate we have looked at the projected real
GDP growth of the IMF, where we identify long-term growth of 1.8% in Portugal,
1.2% in Spain and 3.5% in Brazil.
21
*
+, although the implicit is not equal to zero, we currently face a situation where the risk
free rate is significantly below its historical value. This leads to an exaggeration in computations. 22
“Market Risk Premium and Risk Free Rate used for 51 countries in 2013”, 2013, Pablo Fernandez, Javier
Aguirreamalloa and Pablo Linares.
d as being the most probable value for market risk premium. 23
Systematic Country Risk Modulator in “Practical Approach for Quantifying Country Risk”, Jaime Sabal, ESADE.
24 To compute the perpetuity value we used:
(
)
, “Valuation”, McKinsey
&Company, Tim Koller, Marc Goedhart, Daviv Wessels, p.113. 25
According to the IMF, until 2018 it is expected an average inflation rate of 1.4% for Portugal and 1.5% for Spain, but
we have considered the long term expectations for the euro area. 26
Recent inflation rates in this country have been historically high, registering in 2012 an inflation of 5.84% (according
to the Brazil Central Bank).
Target D/E 2.00
Rd 4.82% Portugal 3.00% Portugal 3.25% Portugal 29.5%
rf (€) 2.36% Spain 3.00% Spain 3.10% Spain 30.0%
rf (br) 4.96% Brazil 5.00% Brazil 4.82% Brazil 34.0%
Regulated
production
Liberalised
Production
Distribution
Portugal
Distribution
SpainSupply Portugal Supply Spain Gas Brazil
0.420 0.505 0.660 0.629
1.012 1.215 1.024 1.020 1.470 1.464 1.586 1.460Re 11.4% 12.5% 11.4% 11.3% 14.0% 13.8% 14.9% 18.1%
WACC 6.06% 6.43% 6.08% 6.01% 6.93% 6.85% 7.21% 8.15%
WACC
Valuation
Table 4: Valuation Inputs
Country Risk Premium (CRP)Nominal growth rate (g) Marginal Tax Rate
0.425 0.610Beta
Unlevered
Country risk premium computed using Credit default swaps
Long term growth rates using IMF projections
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 11/33
4. Generation in Iberia
Portugal and Spain started to build an integrated market and since July 2006 the
Iberian market for electricity (MIBEL) is functioning. MIBEL works based on two
parts: OMIP in Portugal and OMEL in Spain, where OMIP supervises the
forward/future market and OMEL operates the daily and intra-day market (spot
market). The participants are Spanish and Portuguese companies and the price
is equal across the pool. Although MIBEL aimed to be a fully integrated market
there is operational problems in terms or connections between these two
countries. Currently, the capacity of the connection is 1600MW from Spain-
Portugal and 1300MW from Portugal-Spain, with the goal of increasing it to
3000MW in both directions by 2014. A major problem with these connections is
that they often become congested, which causes a market split and two distinct
markets with differentiated prices arise. In 2013 there were 50.3% of days where
the price was not different, 31.9% where the price in Spain was higher than in
Portugal and 17.8% where the price in Portugal was higher than in Spain27
. Over
time the market became more integrated as shown by the diminishing of market
split days and the decrease in market prices across the two countries. In addition,
there are issues related to regulated production that is not included in supply
which distorts the price obtained there. Nevertheless, in what concerns
production, the relevant market is Iberia28
.
The production of electricity can be done in two regimes: ordinary regime of
production (PRO) and PRE, where PRE includes mini-hydro, cogeneration,
biomass and waste and PRO includes all the other forms of production. Aside
from the requisites necessary to be classified as PRE, this production has priority
in selling. In Portugal, the LRS, operated by EDP Universal, S.A. is obliged to buy
all this production29
. In Spain, the system is similar but all the PRE production is
fully absorbed. PRE price is pre-determined by law, and even though PRE
production can be sold to someone other than the LRS, there is a floor and a
maximum to pay to these producers.
In 2012, EDP registered a production in Portugal of 17,017GWh from 9.927MW
of installed capacity. Regarding Spain, the total production was 10,080GWh with
3,882MW of installed capacity. As of December 2012, PRE installed capacity in
Iberia totalled 466 MW which represents 3.4% of total capacity, and 2,247 GWh
of production, representing 8% of total production. In addition to the split of PRO
27
Source: OMIE, data until mid-December. In 2012 the numbers were: 68.5%, 0% and 41.5%, respectively. 28
Regarding supply, the two markets will be considered separately as each country has its own specificities and different
correlations to the key value drivers. 29
According to Decree-Law 172-2006 which establishes the duties of the Last Resort Supplier.
0%
10%
20%
30%
40%
50%
60%
0
1
2
3
4
5
6
2008 2009 2010 2011 2012
Graph 17: Mibel statistics
Market Price Spread (Pt-SP)
% of Market Split
Long term growth rates using IMF projections
Source: Ren.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 12/33
and PRE production, we also have a special situation in Portugal, where some of
the PRO production is remunerated under CMEC compensations (costs with the
maintenance of contractual equilibrium, the old PPA – power purchase
agreement – with a real pre-tax return on assets of 8.5%) and market conditions
production.
CMEC compensation, which has been legally defined by DL 240/2004, is in place
for 26 power plants with a total installed capacity of 5,287MW and will last until
2027. The transition of CMECs to liberalized conditions will have significant
developments in 2013 and 2015 where 27% of the installed capacity will switch,
and 2024 where 42% will also shift. Other years only have residual transitions to
the liberalized status.
The CMEC scheme comprises two periods. The first period will be in place until
2017 in which EDP operates in the free market but its remuneration is
predetermined30
, that is, EDP receives the market price from the Iberian pool but
has to compensate the government if revenues under CMEC are below (has to
pay the government) or above (has to receive from the government) market
revenues. From 2017 on, there will be no more compensation with the
government and the risk is fully absorbed by EDP. The CMEC formula relies on a
fixed amount per year plus a parcel with three components that are often
revised31
. The CMEC base – the difference between NPV of PPA and NPV of
CMEC – is currently at €0.8billion and it has been revised downwards in about
€13 million32
of annual revenues as agreed in the Memorandum of
Understanding (MoU) between the Portuguese authorities and the IMF. This was
achieved through a change in the rate of tariff repercussion for contractual
balance33
. Therefore, although we expect stable FCFs, we need to anticipate
potential changes such as the ones introduced by the financial assistance
program.
The mix of production is 34% hydro, 33% wind, 17% CCGT and 16% from other
sources, where “clean” production is clearly the major source of production,
amounting to 67% of total production. EDP’s strategy is to increase the share of
clean production to 73% by 2015, for which it will contribute the already in
construction six hydro power plants that shall be commissioned in 2014-2016.
These plants imply a total investment of €2 billion.
30
Remuneration is predetermined in order to decrease market imperfections. If the supply is in the free market, even
though the company does not receive the market price, it will be determined as if the company is offering in the market. 31
Availability of power plants, market gross margin adjustment, and power services revenues. 32
The value is an estimation of reduction per year which, according to EDP has a PV of 120 million. The reduction will
be in place until 2027. 33
Portaria 145/2012.
Table 5: Power Plants under PPA/CMEC
Thermal Plants
End of
PPA
Installed
Capacity (MW)
2017 1192 Sines (coal)
Hydro Plants
End of
PPA
Installed
Capacity (MW)
2013 804 3 Plants
2015 627 7 Plants
2020 132 1 Plant
2022 125 1 Plant
2024 2215 13 Plants
2027 192 1 Plant
Source: EDP and Research Analyst
Table 6: Installed Capacity in Construction (MW)
MW Start date
Ribeiradio 81 2H 2014
Foz do Tua 252 2H 2016
Baixo Sabor 173 2H 2014
Venda Nova III (repowering) 746 2H 2015
Salamonde II (repowering) 207 2H 2016
Fridão 238 2018
Source: EDP
Hydro Plants
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 13/33
Valuation
The key value drivers for production activity are evolution of demand,
remuneration of regulated production, PRE output, load factors and price in the
Iberian pool.
Production evolution is very close to demand evolution, which in turn is tied to
GDP variations, population evolution and economy development. For the
purpose of our analysis the demand evolution was forecasted using GDP growth
as the other variables were not statistically significant34
. According to our
estimations total production will increase at a slower pace, from 351,079 GWh in
2012 to 374,861 GWh in 2018, which is equivalent to an average increase of
1.1%.
After the estimation of production the company needs to analyze the technology
with the lowest variable costs to produce so that it can send selling bids to the
market in order to reach the Iberian pool market price. For that, the company
needs to estimate the amount of production from each technology according to
power plants loads factors35
and the marginal cost per each unit of production.
Regarding Load factors we can see that EDP’s implied load factors significantly
vary depending on the source. When compared to its peers, EDP faces higher
load factors on hydro production, similar load factors on nuclear production and
lower load factors on thermal production. Nevertheless, we must be cautious
when evaluating load factors given the sizable amount of clean sources of
production in EDP. These clean sources not only have priority in the grid, but
they also have the lowest marginal costs of production. As a result, they are
intensively used with efficiently determined load factors. Opposite to this thermal
plants will only be used when other sources cannot fully sustain demand and the
resulting load factors will be much lower than what they could potentially be.
The analysis is different when the decision concerns the type of technology to
build. For this case we must look at the levelized cost of energy (LCoE) which
gives us the “average unit cost per MWh of a payment stream that has the same
present value as the total cost of building and operating a generating plant over
its life”36
. This measure gives us the possibility to rank technologies according to
cost, which has implications in the decisions for investment37
.
34
For more detailed information see Supply valuation. 35
Load factor is the percentage of use of a plant, or in other words, what is the real production compared to the maximum
potential. Load factors are calculated as:
.
36“Levelized Cost of Energy Calculation – Methodology and Sensitivity”, Black & Veatch report
37 “Electricity Generation Costs”, from Department of Energy & Climate Change from October 2012.
-
100
200
300
400
Tho
usa
nd
s
Graph 18 - Gross Production Evolution - Forecast
(GWh)
PT demand SP demand
Total Demand
0%
10%
20%
30%
40%
2009 2010 2011 2012
Graph 20: Hydro - Implied
Load factors
EDP Iberdrola Endesa
0%
20%
40%
60%
2009 2010 2011 2012
Graph 19: Thermal - Implied
Load factors
EDP Iberdrola Endesa
Source: NOVA Research Analyst
Sources: EDP, Iberdrola, Endesa, and NOVA Research Analyst
Sources: EDP, Iberdrola, Endesa, and NOVA Research Analyst
0%
20%
40%
60%
80%
100%
2009 2010 2011 2012
Graph 21: Nuclear - Implied
Load factors
EDP Iberdrola Endesa
Sources: EDP, Iberdrola, Endesa, and NOVA Research Analyst
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 14/33
However, it is important to note that these estimations are highly sensitive to its
parameters and the evolution of prices (fuel inputs). As such, it is not surprising
that gas production in the USA has increased as natural gas prices have
decreased. Alternatively, coal is the input that is most sensitive to changes in
CO2 costs, followed by gas and coal technology with carbon capture and storage.
Therefore the decision of what technology to put at work changes over times as
parameters changes.
According to ERSE from 2008 until July 2012, the electricity placed in the grid
comprised a large share from PRE followed by nuclear and then hydro38
.
Some plants are entitled to receive capacity payments that are payments to
compensate the cost of building the plants that work as a backup. As an
example, CCGT capacity payment has been revised downwards to €6,000/MW
from 2014 onwards.
We also believe that CO2 prices will increase as the legislation will become more
restrictive and as European directives and objectives of 20-20-20 are put in
place. CAPEX is expected to be at €1.6 billion per year from 2013 to 2015 with
marginal increases afterwards. EDP might have a competitive advantage since it
has the largest part of hydro production and is thus not affected by CO2 prices.
CAPEX will mostly comprise maintenance and investments in power plants in
order to respond to the small increases in demand. According to “Resolução de
Ministros” 20/2013 from April 2013 we expect to increase hydro power to
8536MW until 2020.
Regarding nuclear plants, after the Fukushima disaster in 2011, Spain
announced the closing of a nuclear plant. However, recent events show more
indecision about the closing which might indicate that nuclear will not be
extinguished. Perhaps, the cost will increase by increasing safety obligations in
the plants.
Recently a new tax on production and distribution of electricity and gas has been
created, amounting to a total of 0.85% of fixed assets. This was created in the
context of the financial assistance program.
38
“Tarifas e preços para a energa eléctrica e outros serviços em 2013”, from ERSE december 2012.
25 37 21 35 40
150
25
50 60
31
95 80
150
65
0
40
80
120
160
Co
al-f
ired
gas
-fir
ed
nu
clea
r
win
d
min
i-hyd
ro
sola
r
com
bin
ed h
eat
and p
ow
er…
Graph 22: LCoE at 5%
Discount rate
minimum maximum
35 30 30 45 65
200
30
60 63 50
140
100
70
0
40
80
120
160
Co
al-f
ired
gas
-fir
ed
nu
clea
r
win
d
min
i-hyd
ro
sola
r
com
bin
ed h
eat
and p
ow
er…
Graph 23: LCoE at 10%
Discount rate
Minimum Maximum
€ 0.7
€ 0.6
€ 0.4
€ 0.2
Graph 24: EDP's Capex 2013
(billion €)
Maintenance Wind Hydro Brazil
0%
20%
40%
60%
80%
100%
20
09
20
10
20
11
20
12
20
09
20
10
20
11
20
12
20
09
20
10
20
11
20
12
EDP Iberdrola Endesa
Graph 25: Electricity
Production
(Percent)
Hydro Thermal Nuclear Other
Source: EIA.
Source: EIA.
Source: EDP.
Sources: EDP, Iberdrola, and Endesa.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 15/33
5. Distribution in Iberia
The next units in the value chain are Transmission and Distribution, which
correspond to activities of transportation of the electricity from the production
sites to consumers. Transmission is related to higher voltage networks and
distribution to lower voltage ones. These two activities are considered natural
monopolies, therefore they are regulated and concessions are given to
companies. As a regulated activity, tariffs are determined by the supervisor -
ERSE in Portugal and CNE39
in Spain – and “regulatory periods” are determined.
Distribution in Portugal is characterized by a network of 223,734 km, which has
grown at an average of 1.02% since 2009 that disseminated, in gross terms,
48,559 GWh during the year of 2012. The distribution losses registered an
average of 7.2% from 2008 to 2012, which is in line with EIA statistics that have
estimated for the USA an average of losses of about 7%. EDP operates in high,
39
“Comisión Nacional de Energía” (CNE) is the Spanish supervisor for energy services.
Table 6: Regulated Production Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 452 435 418 312 319 289 277 55
Depreciation and Amortization (1)
212 204 232 210 214 198 203 168
Other Adjustments (2)
(1) 163 (2) (2) (2) (2) (2) (2)
Cash Flow from Operations 663 802 648 520 530 486 478 221
CAPEX (81) (95) (190) 890 (165) 623 (158) 1,367
∆ Operating NWC 101 (61) 69 67 (5) 13 (15) 137
Other LT Operating Assets and Liabilities (214) (90) 61 78 65 42 (12) 110
Cash Flow from Investing Activities (195) (247) (60) 1,036 (105) 678 (185) 1,614
FCF 468 556 588 1,556 425 1,163 293 1,835
PV FCF 4,687 t 29.50%
Terminal value (PV)* 2,253 g 3.00%
Value Regulated Production 6,940 0.59 per share WACC 6.06%
(1),(2): See Appendix 1 *until 2027
Table 7: Liberalized Production in Iberia Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 98 14 117 152 187 227 303 358
Depreciation and Amortization 234 234 274 302 323 340 344 361
Other Adjustments (3) 7 (8) (10) (11) (11) (12) (12)
Cash Flow from Operations 328 254 383 444 499 556 635 706
CAPEX (602) (291) (396) (800) (786) (614) (639) (649)
∆ Operating NWC (8) (3) (49) (7) 41 14 (7) (3)
Other LT Operating Assets and Liabilities (108) (8) (12) (24) (3) 11 53 (16)
Cash Flow from Investing Activities (717) (301) (457) (831) (748) (588) (593) (668)
FCF (717) (301) (457) (831) (748) (588) (593) (668)
PV FCF (584)
Terminal value (PV) 4,468 g 3.00%
Value Liberalized Production 3,884 0.33 per share WACC 6.43%
Portuguese Regulator: ERSE.
Spanish Regulator: CNE.
Regulatory periods.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 16/33
medium and low voltage networks40
. The first two types of network concessions
are attributed by government while low voltage concessions are agreed between
the company and municipalities.
As a regulated activity, this segment is characterized by stable revenues and
costs. The Iberian economy has faced a turbulent period during the last five
years. Nevertheless, this segment’s EBITDA remained steady, amounting to
17.5% of total EBITDA. Still, the activity is subject to the interference of
regulatory actions which may take several forms. We currently stand in the
middle of a regulatory period41
and parameters and formulas were established in
order to determine the Regulatory Asset Base (RAB), constituting the value base
by which companies are remunerated. The Return on RAB (RRAB) is determined
by the regulator and uses the WACC methodology, reporting nominal pre-tax
remuneration rate. The WACC methodology is used by several regulators, with
slight changes in the reporting values. In hopes of comparing regulatory
approaches, ERSE compared WACC methodologies across 21 and confirmed
that differences are minimal42
.
Allowed revenues for 2014 are €3.49 billion and the RRAB is indexed to the
Portuguese 5y CDS43
from October in year t-1 to September year t, subject to a
floor of 8% and cap of 11%44
. The average until September 2013 was 370 basis
points which have been decreasing since the beginning of the regulatory period
leading to a RRAB of 8.56% (comparable to 10.05% in 2012). ERSE has defined
an efficient factor for operational costs and incremental grid costs of 3.5%.
Additionally, there is an incentive to reduce losses in distribution.
The Spanish market amounted to a total of 230.278 GWh in 2012, which has
varied significantly since 2008 with an annual average decrease of 2% where
EDP, through HC Distribución, operated 22.986 km and managed in gross terms
9.337 GWh in 2012. This implies that EDP’s market share was 3.9% in 2012,
having remained stable since 2008 where it was closer to 4%. EBITDA also
remained stable during these years, amounting to 5% of total EBITDA. Note that
losses in the system averaged 3.7% in the latest years which is lower than the
Spanish average of 8%45
.
Real Decreto 222/2008, 15th of February established the remuneration
methodology of the distribution activity in Spain, after RDL 2819/1998, 23rd
of
40
These concessions are attributed according to several Decree-Laws, namely DL29/2006 and DL 344-B/82, among
others. 41
Regulatory periods last three years. The current one ranges from 2012 to 2014. 42
“Parâmetros de Regulação para o período 2012 a 2014”, from ERSE, December 2011. 43
In the previous regulatory period it was indexed to 10y bonds. 44
Which corresponds to 0.8% and 14.8% CDS average for floor and cap, respectively. 45
World Bank statistics for 2009, 2010 and 2011.
370
390
410
430
450
470
Chart 26: EDP's Operational
Costs in Distribution1\
Allowed Costs EDP Real Costs
Source: ERSE. 1\ 2011 Constant prices.
.
Stable revenues is a characteristic.
Remuneration based on Regulatory Asset Base (RAB). In Portugal is indexed to Portuguese 5y CDS.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 17/33
Table 8: Distribution in Portugal Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 300 311 (127) 201 184 189 188 185
Depreciation and Amortization 245 231 288 302 317 334 354 376
Other Adjustments 7 88 (20) (20) (20) (20) (20) (20)
Cash Flow from Operations 551 629 141 483 481 504 522 541
CAPEX (187) (542) (259) (301) (315) (331) (350) (371)
∆ Operating NWC 107 (415) (10) 32 94 (16) 37 63
Other LT Operating Assets and Liabilities (324) (324) (27) 14 38 27 43 (8)
Cash Flow from Investing Activities (404) (1,281) (296) (256) (183) (320) (271) (315)
FCF 147 (651) (155) 227 298 184 251 226
PV FCF 1,061 t 29.50%
Terminal value (PV) 4,897 g 3.00%
Value Distribution Portugal 5,958 0.51 per share WACC 6.08%
December, which regulates the activity through the net RAB. According to RD
9/2013, the remuneration is linked to the 10y government bond plus a spread of
200 basis points and a lag of two years. The remuneration for each company is
published every year in Boletín Oficial del Estado (BOE). For 2013 the
remuneration of HC Distribución is of €150 million (IET/221/2013, 14th of
February).
Spain has tried through a serial of laws to contain the problem of the tariff
deficit46
, which has reached €26 billion. For instance, the RDL 2/2013 attempted
to adopt measures to correct the deviation from revenues and costs to regulated
prices, while also changing the rule to update allowed costs. In addition, RDL
9/2013 established new taxes to energy production. Based in all of these
changes future regulatory actions are expected.
Valuation
For 2013 the RRAB was established in 8.56% but we expect a decrease since
CDS have been decreasing and exhibited an average in the last quarter of 2013
of 360 basis points with a tendency towards 8%. This remuneration currently
exceeds our computed WACC since we differentiated in our approach and many
of the inputs that the regulators utilized surpassed our figures. Since the
remuneration rate exceeds the discount rate, the fair value of the regulated
assets exceeds the RAB.
According to ERSE the costs with grid connections range from €7.2 to €23.01 for
aerial connections and from €19.55 to €49.15 for underground connections. As
we are in a mature market, new connections opportunities are diminishing47
. The
expenditures are mainly in maintenance CAPEX.
46
The accumulated amount of costs are not reflected in the price paid by consumers which has to be repaid to companies
at some point. 47
According to ERSE and EDP Distribuição the number of new connections have been decreasing since 2008.
0
200
400
600
800
1000
1200
Chart 27: CDS 5y
(Basis points)
Portugal Ireland
Greece Spain
USA
Source: Bloomberg.
Remuneration in Spain is linked to 10y government bond plus a 200 basis points spread
Measures to reduce the Tariff Deficit in Spain
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 18/33
6. Supply in Iberia
The supply activity consists in the service of providing energy to consumers from
the moment the electricity goes out of the grid to the moment it reaches houses
and other facilities. This activity is not capital intensive as its major investments
include electricity measuring devices, marketing and physical facilities to inform
consumers. EDP supplies electricity in Portugal and Spain through two regimes:
liberalized supply and regulated or last resort supply (LRS), where the latter is
operated by “EDP – Serviço Universal” in Portugal and “HC Energía” in Spain.
Currently, EDP is the major liberalized supplier in Portugal with a market share of
44% which increased from 40.1% last year48
. Other companies in Portugal
include Endesa and Iberdrola. In regards to the Spanish market, Endesa,
Iberdrola and GNF hold the leading positions and EDP ranks in fourth place49
.
Overall, this implies that EDP is number three in the entire Iberian market, behind
Endesa and Iberdrola50
.
Concerning Portugal, as of December 2012 EDP had 6.6 million consumers
(87% LRS) and supplied a total of 29,602 GWh (67% LRS). Those large
percentages are explained by the process of liberalization which is reaching its
final stage. The liberalization has two different paths to differentiate “large”
consumers (the ones with contracted power capacity equal or above 10.35KvA51
)
from “small” consumers. The transitory period for the large consumers started in
July 2012, and it will last until the end of 2014, demarking the termination of the
transitory tariffs established by ERSE. The small consumers only began the
48
ERSE, “Resumo Informativo Mercado Liberalizado – Eletricidade”, August 2013. 49
CNE, “Informe de Supervisión del mercado minorista de electricidad”, junio 2012. 50
EDP’s share regarding regulated supply was 31% and regarding liberalized supply 13%, as of December 2012. 51
KvA= 1,000 volt amperes, which is a unit of apparent power, where an ampere measures electrical current and volt
measures the electrical potential.
Table 9: Distribution in Spain Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 111 72 66 64 61 60 59 56
Depreciation and Amortization 35 32 38 40 45 47 51 55
Other Adjustments (7) 24 0 0 0 0 0 0
Cash Flow from Operations 138 128 104 104 105 107 110 111
CAPEX (95) (35) (38) (39) (44) (47) (49) (54)
∆ Operating NWC 12 (3) 2 1 0 (1) 1 1
Other LT Operating Assets and Liabilities (8) (6) (3) (0) (1) 1 (1) 1
Cash Flow from Investing Activities (91) (44) (39) (39) (45) (47) (49) (51)
FCF 47 84 65 65 61 60 61 60
PV FCF 274 t 30.00%
Terminal value (PV) 765 g 3.00%
Value Distribution Spain 1,039 0.09 per share WACC 6.01%
46.24 43.16 39.38
33.71 29.60
0
10
20
30
40
50
2008 2009 2010 2011 2012
Th
ou
san
ds
Chart 29: EDP's Supplied
Electricity in Portugal
(GWh)
LRS Liberalised
6.09 6.10 6.11 6.05 6.63
0
2
4
6
2008 2009 2010 2011 2012
Mil
lio
ns
Graph 28: EDP's number of
consumers in Portugal
LRS LiberalisedSource: EDP.
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 19/33
transitory period in January 2013 which will have effect until 2015. By 2016 all
consumers have to be supplied by a liberalized provider. During the transitory
period ERSE updates tariffs every three months and applies a penalty to
encourage the change to a liberalized supplier. In December 2012, there were a
lot of consumers that had not yet changed, but this penalty initiated the transition
and in the first ten months of 2013 2.66 billion consumers contracted a liberalized
supplier, which weighted 70.7% of total market and represented one-third of
consumers in the LRS as of December 201252
. This denotes the rapid change in
the market.
Regarding the Spanish market, by December 2012 EDP had 1.05 million
consumers (74% in the liberalized market) and supplied 20,252GWh (96.50% in
the liberalized market). Contrary to Portugal, Spain started the liberalization
process much earlier and has fewer consumers in the regulated regime. In
addition, the Spanish regulated regime is not similar to the Portuguese since
consumers can only choose to be supplied in the regulated market if they are
considered lower voltage consumers53
, with no anticipated change to this regime.
LRS are determined by the Spanish government law. Overall, EDP’s market
share remained stable at around 9% in the liberalized market from 2009 to 2012.
Valuation
The key value drivers of this segment are estimated demand, evolution of market
share, consumers’ preferences, evolution of margins, and prices.
Consumption of electricity is strongly connected to economic growth, the Human
Development index (HDI), and energy prices. Since the variables are not
stationary and co-integrated, we relied on first differences and/or growth rates in
order to project consumption54
.
Since Portugal recently underwent an increase in the value added tax, from 6%
to 23%, we do not have sufficient observations to quantify its impact through
dummy variables. As such, this adjustment will be reflected in our underlying
price trajectory going forward. Regarding prices’ growth we estimate an average
increase per year of 2%55
in the long run. Given the historical high energy prices
in Portugal, initial price growth rates will be above this long run threshold but they
will slowly converge towards this equilibrium.
52
ERSE 53
Contracted power voltage lower that 10KW Consumers with contracted power voltage above this value have to buy
from a liberalized supplier since July 2009. 54 ; R
2=0.79
; R2=0.49
Data source: IMF, Eursotat, Pordata and INE. 55
“World Energy Outlook 2013”, Table A8, page 139, Energy Information Administration.
80.3%
64.9%
51.0% 41.6% 39.5%
11.3% 11.1% 11.4% 10.5%
0%
25%
50%
75%
2008 2009 2010 2011 2012
Graph 30: EDP's Market
Share
(Percent)
Portugal Spain
0
250
500
750
1,000
2008 2009 2010 2011 2012
Th
ou
san
ds
Graph 31: EDP's number of
consumers in Spain
LRS Liberalised
19.75 19.37 21.44 21.36 20.25
0
10
20
2008 2009 2010 2011 2012
Th
ou
san
ds
Graph 32: EDP's Supplied
Electricity in Spain
(GWh)
LRS Liberalised
29
.60
25
.88
20
.74
19
.32
17
.72
18
.22
18
.76
0
10
20
30
40
50
2012 2014 2016 2018
Th
ou
san
ds
Graph 33: EDP's expected
sales in Portugal
(GWh)
LRS Liberalised
Source: EDP.
Source: EDP.
Source: EDP.
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 20/33
When limited to 4 times per year, changes in supplier will not impose costs on
consumers which implies a higher propensity for changes in providers and
stronger market competitiveness. Nowadays companies offer integrated packs of
electricity and gas, and even if a particular company has a worse option for an
individual service it can offer a better option for packages of services. This impact
will be included in the estimations of margins and sales.
Due to ERSE’s penalty in transition tariffs we believe that only a residual part of
consumers will remain in the regulated market and by 2016 all consumers are
supplied in the liberalized regime. Note that in Portugal a marginal part of
population (estimated in less than one percent) will remain in the regulated
supply.
In Portugal prices charged to small consumers are very stable with changes in
invoices of about 1.5%. However, the change for large consumers is wider and
EDP is not able to offer competitive prices56
. Regarding Spain, according to CNE
EDP has offered the lowest prices in the first six months of 2012. This is also true
for smaller companies and EDP has managed to detain between the third and
fourth position for large consumers57
.
Changes in consumer’s preferences will take into account the change in
propensity to use electric cars and electronic devices. We believe consumers will
be more demanding when choosing electronic devices and choose the ones with
lower electricity consumptions. However, there is the opposite tendency to use
more and more electronic devices (electric intensity of the economy58
). The net
effect is an increase in demand but at a slower pace. According to a recent study
about forecasts of evolutions of electric vehicles in 202059
, during 2012 Portugal
counted with 1.862 electric vehicles and Spain with 787 which represented 1%
and 0.4%, respectively, from all electric vehicles in the world. By 2020 it is
estimated that 307,692 electric vehicles will be available in Portugal and 692.307
in Spain which represent 5.3% and 12% from total cars estimated in 2020. Even
if electronic vehicles correspond to a market with high potential, large
developments are not expected in the near term. Still some companies have
launched much more appealing prototypes, with better technology60
and lower
production costs, effectively reaching a higher portion of the population.
56
NOVA Research Team simulation through ERSE’s resources. 57
«Informe de Supervisión de las ofertas del Mercado minorista de gas y electricidad recogidas en el comparador de
ofertas de la CNE» primer semester de 2012, CNE. 58
According to “Electricity consumption forecasting in Italy using linear regression models” by Vicenzo Bianco,
Oronzio Manca, Sergio Nardini, energy 34 (2009) p.1423-1421. 59
“Global EV Outlook- Understanding the Electric Vehicle Landscape to 2020”. International Energy Agency. April
2013, page 10. 60
EIA.
20
.25
20
.08
20
.16
19
.38
20
.40
20
.70
23
.45
0
10
20
30
40
50
2012 2014 2016 2018
Th
ou
san
ds
Graph 34: EDP's expected
sales in Spain
(GWh)
LRS Liberalised
Source: EDP.
Changes in consumer’s preferences: more demanding consumers and increasing use of electric vehicles
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 21/33
Table 11: Supply in Spain Valuation
(millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 1 10 15 8 4 2 1 0
Depreciation and Amortization 6 9 7 8 10 12 15 17
Other Adjustments 0 1 0 0 0 0 0 0
Cash Flow from Operations 8 20 22 16 14 14 16 18
CAPEX (8) (9) (7) (8) (10) (13) (15) (18)
∆ Operating NWC 14 (175) 65 30 20 26 28 10
Other LT Operating Assets and Liabilities (130) (131) (5) 42 49 14 12 (1)
Cash Flow from Investing Activities (124) (316) 53 64 58 27 25 (8)
FCF (116) (296) 75 79 73 42 41 9
PV FCF 225 t 30.00%
Terminal value (PV) 1 g 3.00%
Value Supply Spain 226 0.02 per share WACC 6.85%
There is an increasing competition that led to a decrease in margins and as a
response companies are trying to increase market shares. For instance, EDP
has launched campaigns targeted at consumers who prefer electronic means of
communication. In addition, EDP has the advantage of being the incumbent as a
large proportion of people, who are often adverse to change, were supplied by
the EDP group61
. EDP has to position itself as a dynamic corporation who is
willing to adjust to consumer requirements in order to face the increased threat of
new entrants. A particular example lies in the DECO auction won by Endesa
which has united around 600 thousand consumers and offered a 5% discount
over the consumption of electricity. As a result EDP offered lower prices through
discounts for both consumption and contracted power capacity, with reductions
ranging from 5.8% to 7% depending on consumptions. Furthermore, as the
market becomes more liberalized, further efforts will be required. Lower
investment is expected since consumers will be keener to use electronic support
in detriment of physical stores. As competitiveness increases, we expect lower
margins.
61
“Power to choose: An Analysis of Consumer Bahavior in the Texas Retail Electricity Market”, Ali Hotaçsu, Seyed Ali
Madanizadeh and Steven L. Puller, September 2011. The main conclusions are that consumers continue to be supplied
by the incumbent even though they might obtain great advantages from other suppliers and that this market share
advantage diminished over time.
Table 10: Supply in Portugal Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT (24) (20) 3 (7) (10) (8) 0 1
Depreciation and Amortization 15 24 15 17 20 23 26 30
Other Adjustments (8) (9) 0 0 0 0 0 0
Cash Flow from Operations (17) (5) 18 11 10 15 27 31
CAPEX (12) (25) (16) (17) (20) (22) (25) (28)
∆ Operating NWC 17 (94) 32 30 24 14 3 0
Other LT Operating Assets and Liabilities (72) (69) 15 41 17 12 13 12
Cash Flow from Investing Activities (67) (188) 32 53 21 4 (10) (15)
FCF (84) (193) 50 64 31 19 17 16
PV FCF 136 t 29.50%
Terminal value (PV) 12 g 3.00%
Value Supply Portugal 148 0.01 per share WACC 6.93%
As competitiveness increases, we expected lower margins.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 22/33
7. Gas in Iberia
Portugal and Spain do not possess natural gas wells and therefore their activity
consists in storage, distribution and supply, being the second player in the Iberian
market. Similarly to electricity, the gas activities are regulated in what concerns
storage and distribution, and are liberalized in supplying. Additionally, this
segment is also evolving in terms of integration of the Iberian market to create
the MIBGAS62
, in which ERSE and CNE are working in.
In Portugal, EDP operates through EDP Gás Distribuição, EDP Gás Universal,
and EDP Gás Propano, having supplied 7.46TWh to 318,552 consumers in 2012,
which corresponds to a market share of 16.2% in commercialization. ERSE is
responsible for regulating the distribution and the last resort supply of gas. In the
current regulatory period, which ranges from 2013 to 2016, the remuneration of
these activities will be indexed to the 10Y Portuguese bond yield with a floor and
a cap of 7.83% and 11.00%, respectively63
. During its first year the pre-tax rate
was fixed at 9.00% and we expect a downward revision in the following years
due to a decrease in the 10Y bond yield.
The sector has passed through a liberalizing process64
and since mid-2012 there
has been a transitory period similar to the electricity case, where the schedule for
the removal of the regulated tariffs was established in DL 74/2012, March 2012.
This transition began in June 2012 for consumptions between 500 m3 and 10.000
m3, and December 2012 for consumptions below 500 m
3. There is also a
transition period until 2014 for the first consumers and until 2015 for all others.
Regarding the Spanish market it is organized in LRS, established by government
and liberalized suppliers65
. EDP operates under Naturgas Energía (NGE), and
during 2012 it supplied 55,79TWh with 1,008 thousand distribution points and
10,320 km of network which is used for both transportation and distribution.
Recently, EDP finished the disposal of the transmission assets detained to
Enagás for an EV of €258 million, which represent an average of €26.5 million of
regulated revenues per year in 2011 and 2012. On the other hand, EDP acquired
62
The Iberian Market for Natural Gas. 63
“Parâmetros de Regulação para o Período dos anos gás de 2013-2014 a 2015-2016”, June 2013, ERSE, page 183. The
minimum corresponds to an average yield of 2.5% and the maximum to an average of 21.5%. 64
There is a Directive from the European Counsel and Parliament – 2009/73/CE July 2009 – that establishes the need to
increase the competition and the liberalization of the segment. The directive was later transposed to a law in DL
77/2011, June 2011. 65
Regulated through Hydrocarbons Act 34/1998 from October 1998; RDL 949/2001 from August 2001; and RDL
1434/2002 from December 2002. More recently, the Act 12/2007 from July 2007 modified Hydrocarbons Act and
adopted the ED 2003/55/EC, later repealed by Directive 2009/73/CE.
201.0 221.4 245.3
271.6 318.6
0
100
200
300
2008 2009 2010 2011 2012
Th
ou
san
ds
Graph 35: EDP's Consumers
in Portugal
Regulated Liberalized
Source: EDP.
Source: EDP.
Source: EDP.
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 23/33
another 5% in NGE with an implicit multiple EV/EBITDA of 9.4, which amounted
to 95% of NGE’s capital66
.
Valuation
To value this segment it is crucial to analyze the evolution of demand, market
share and prices.
Total Iberian demand has evolved according to chart 40 in which we can see
that the biggest part of demand came from conventional demand (households
and industrial clients) and that demand for electricity generation has been
decreasing exponentially since 2006. According to REN the conventional
demand is expected to growth at an average rate of 2.2% from 2013 to 2023 and
the total demand is expected to grow at an average of 4% per year in the same
period67
. However, according to EIA 2013, the consumption of natural gas is
expected to be much lower, at just a 1.3% per year until 2040.
Regarding prices, we can see that they remain historically low, although we
expect an increase of 3.4% per year on average until 204068
. In what concerns
market shares, as we have seen in graph 02, they have been relatively stable
since 2009 for EDP despite losing its third position to Galp in 2012. We do not
expect great changes in the market share of EDP, despite a slight decrease in
the short term.
For the sake of the valuation, CAPEX will be considered equal to depreciation
and the new tax of 0.85% of assets will be taken in consideration.
66
EDP currently detains 99.87% of HC Energía (and consequently 95% of NGE) because Liberbank S.A. had a put
option of its 3.13% capital in HC which exercised the selling of 3%, for which EDP has to pay €106 million – the price
is indexed to EDP’s share price. Liberbank still possess the option to sell the remaining 0.13% until December 2017. 67
“Cenários de Evolução da Procura de Gás Natural, Período 2013-2023”, from REN Page 15. 68
EIA 2013, table A1, page 122.
Table 12: Gas Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 254 191 202 224 210 237 303 237
Depreciation and Amortization 71 111 65 62 64 66 69 72
Other Adjustments (58) (2) (63) (69) (65) (72) (92) (72)
Cash Flow from Operations 268 300 204 217 209 231 280 237
CAPEX 73 (110) (63) (64) (66) (63) (73) (74)
∆ Operating NWC 9 (181) 56 20 (6) 23 46 (24)
Other LT Operating Assets and Liabilities (157) (140) 4 27 25 7 14 42
Cash Flow from Investing Activities (75) (431) (3) (17) (47) (32) (13) (56)
FCF 193 (130) 201 200 162 199 267 181
PV FCF 1,129 t g WACC
Terminal value (PV) 1,803 Portugal 29.5% 3.0% 7.2%
Value Gas 2,932 0.25 per share Spain 30.0% 3.0% 7.2%
4%
12%
20%
28%
36%
44%
2009 2010 2011 2012
Chart 41: Iberian Market
share in gas
(Percent)
Gas Natural Fenosa
EDP
Iberdrola
Endesa
Galp
Source: EDP.
Source: REN.
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 24/33
8. Brazil
EDP operates in Brazil through a 51% equity share on Energias do Brazil, S.A., a
company with activities throughout the entire value chain: production, distribution
and supply. Brazil has a highly regulated environment where the electricity
segment is regulated by ANEEL69
and Ministério de Minas e Energia (MME).
EDP is present in five states of Brazil: São Paulo, Mato Grosso do Sul, Espírito
Santo, Tocatins e Ceará.
In what concerns production, the Brazilian market is marked by a strong
presence of hydro installed capacity, although its share of installed capacity in
the country has decreased from 76% to 66% between 2006 and 2012. On the
other hand, thermal installed capacity has increased its proportion which more
than doubled from 2006 to 2012. Production follows the same pattern with hydro
losing its share in total production but still representing more than ¾ of the total.
This indicates high dependency of hydro production which has led to a few
problems during dry seasons (e.g.: 2001-2002). However, we can already see a
few strategies towards diversification such as the one in DL 3371/2000, identified
as the Priority Thermal Power Program.
EDP exhibits the same trend with an installed capacity of 2,058 MW in 2012, of
which 87.2% is in hydro power plants, 4.0% is in wind power plants70
and 8.8% is
in thermal power plants. However, 2012’s production was almost all from hydro
because Pecém, the new thermal power plant, only began operations in
December which is almost one year later than predicted with negative impacts for
EDP.
PPAs awarded to plants assume an average level of availability of plants and
when these are not fulfilled, the owning company is subject to penalties.
Furthermore, the company is still required to provide that amount of electricity
and given its own inability to produce it, this energy has to be acquired at market
prices from other parties. Given the problems in Pecém, where the first turbine
only began in December 2012, EDP had a negative impact of R$ 86.6 million in
gross revenues and additional negative impacts in fees71
for not complying with
June’s deadline. Additional negative impacts were experienced as the second
turbine only began operations in May 2013.
69
“Agência Nacional de Energia Elétrica” (ANEEL) is the brazilian regulator for the sector of electricity, equivalent to
ERSE in Portugal. 70
For the purpose of valuing the segment, the wind production will not be taken into account. 71
ANEEL postponed the deadline from January 2012 to June 2012; however, the company was penalized by not
fulfilling the deadlines of June.
96
.6
10
0.4
10
4.1
10
6.2
11
3.7
11
6.5
12
1.1
0
30
60
90
120
2006 2007 2008 2009 2010 2011 2012
Chart 42: Total Installed
Capacity in Brazil by Source
(GW)
Nuclear Wind Biomass and Waste Other f
412.7
437.8 455.2 458.7
506.9
530.7
360
400
440
480
520
560
0%
20%
40%
60%
80%
100%
2006 2007 2008 2009 2010 2011
Tho
usa
nd
s
Chart XX: Production in GWh by sorce. Source: EIA
Hydro Thermal
Nuclear Wind
Biomass and Waste Total Generation
Sources: EIA and ANEEL.
412.7
437.8 455.2
458.7
506.9
530.7
360
400
440
480
520
560
0%
20%
40%
60%
80%
100%
Tho
usa
nd
s
Chart 43: Brazil Production of electricity by source
(GWh)
Biomass and Waste Wind
Nuclear Thermal
Hydro Total Generation
Source: EIA.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 25/33
In what concerns distribution, EDP operates in two states under the distributors
Escelsa (state of Espírito Santo) and Bandeirante (state of S. Paulo), having
distributed 24.9 TWh in 2012 which represents a marginal increase of 2.1% in
four years. As a highly regulated activity, ANEEL is responsible for determining
the RAB and RRAB for each regulatory period. At the end of each period
parameters are often adjusted through inflation updates. For example, the current
formula includes a parcel A with non-controllable costs and a parcel B with
controllable costs, where both are updated by inflation72
.
For Bandeirante, ANEEL recently approved a 10.36% tariff increase73
, which is
inflation plus a factor X established at 1.08% (productive component of 1.08%
and zero for efficiency component and for quality of service component)74
.
Regarding the RAB it is currently at R$3 billion in gross values and R$1.5 billion
in net values. The new regulatory period will start on October 2015 and will last 4
years. Bandeirante owns a concession until 2028.
For Escelsa, ANEEL approved a tariff update of 4.12%75
. This distributor has
started a new regulatory period of 3 years starting on August 2013 with a defined
gross RAB of R$2.8 billion, a net RAB of R$1.6 billion and a RRAB of 7.5%
(revised downward from 10%), where the concession will last until 2025.
Regarding supply, EDP operated through Enertrade having supplied 11.1 TWh
in 2012, corresponding to a market share of 8.2% which has continuously
decreased since 2009.
72
The update is performed through the IGP-M index. 73
The approval was given on October 2013 and will be in place for a year. 74
EDP and ANEEL 75
The revision was in august 2013 and the updating is in place for a year.
0%
10%
20%
30%
40%
50%
60%
70%
EU27 EDP
Iberia
Brazil EDP
Brazil
Cemig CESP EU27 EDP
Iberia
Brazil Cemig
Hydro Termal
Chart 44: Load Factors Comparison
2009 2010 2011 2012
Source: NOVA Research Team.
Brazil's PPA PlantsInstalled
Capacity (MW)End of PPA
In-use Plants 2,514
Peixe Angical 499 2016
Mascarenhas e Suiça 227 2016
Pecém(*) 720 2026
Lajeado 903 2030
Mihi-hydro 165
New Intalled Capacity 592
Jari (2015) 373 2044
Cachoeira-Caldeirão (2017) 219 2047
Total 3,106
* in 2012 only 50% of its capacity was working.
Note: Mascarenhas was repowered, adding 4.5MW of capacity
Source: EDP
Table 13: EDPB's Installed Capacity
13.40% 15.49%
12.83%
8.34% 8.28%
0%
5%
10%
15%
20%
2008 2009 2010 2011 2012
Graph 45: EDPB (Enertrade)
market share
(Percent)
Brazil (Enertrade)
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 26/33
Valuation
The key value drivers are inflation expectations, demand, prices, economic
developments, exchange rates and CAPEX.
Regarding Demand, we relied on estimates from Empresa de Pesquisa
Energética (EPE)76
which assume an average increase in total consumption of
electricity of 4.7% until 2022.
The major portion of investment relates to expansion strategies given Brazil’s
growing market. During 2012 the Brazilian activities displayed that only 7% of
CAPEX was related to maintenance, with similar developments in 2013. For the
new installed capacity of the company, Cachoeira-Caldeirão implies an
investment of R$1.1 billion, and S. António do Jari an investment of R$1.4 billion.
In regards to the Brazilian total investment, PED 2022 predicts R$200 billion in
generation until 2022 in order to comply with the increasing demand. Another
R$60 billion will be needed for transmission.
According to the evolution of installed capacity the hydro will still represent the
major source of production but its share decreases from 71% in 2012 to 65% in
2022. Renewable sources increase from 12.8% in 2012 to 20.8% in 2022, while
non-renewable sources decrease its share.
Regarding Exchange rates, we have used current spot rates for the appropriate
term of cash flows. For inflation we have used the long term rate of 4.5% as
higher levels of inflation are characteristic of emerging economies. Finally, in
regards to economic growth the IMF identifies an average real GDP growth rate
of 3%. For the future we can expect high potential in Brazil as it possesses a
growing market with foreseeable energy demand increases in the following
years. This is the main reason why our valuation for the segment is higher than
what many investors claim to be the fair value.
76
Brazilian entity that performs researches in the energy sector.
Table 16: Brazil Valuation
(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 344 294 498 459 492 484 474 488
Depreciation and Amortization 139 82 119 105 106 102 98 90
Other Adjustments 66 77 11 9 8 7 7 6
Cash Flow from Operations 550 453 628 573 606 594 578 584
CAPEX (205) (56) 603 (58) 19 65 37 34
∆ Operating NWC (11) (36) (113) (1) (2) 4 16 1
Other LT Operating Assets and Liabilities (7) (7) (15) (2) (7) (4) 11 (5)
Cash Flow from Investing Activities (223) (99) 475 (60) 10 65 64 30
FCF 327 353 1,103 513 616 659 642 614
PV FCF 1,635 t 34.00%
Terminal value (PV) 4,597 g 5.00%
Value Brazil 6,232 0.53 per share WACC 8.15%
2012 2022 ∆ (%)
Hydro 84.8 119.0 40%
Wind 1.8 17.5 867%
Other Renewables 13.5 20.7 53%
Non-Renewables 19.4 25.9 34%
Total 119.5 183.1 53%
Installed Capacity (GW)
Table 14: Installed Capacity in Brazil Forecast
Source: Plano Decenal de Expansão de Energia (PDE) 2022, in
Empresa de Pesquisa Energética(EPE)
2013 2017 2022 CAGR
Consumption (TWh) 520.0 625.8 785.1 4.7%
Installed Capacity (GW) 129.5 152.6 183.1 3.9%
Hydro 88.7 102.2 119.0 3.3%
Thermal 20.0 21.0 22.5 1.3%
Wind 3.9 12.1 17.5 18.1%
Nuclear 2.0 2.0 3.4 6.1%
Other 14.8 15.4 20.7 3.8%
Investment (R$ billion)
Hydro
Thermal
Nuclear
Other Renewables
200.0
Source: Plano Decenal de Expansão de Energia (PDE) 2022, in Empresa
de Pesquisa Energética(EPE), (2013)- page 38, 99, 125
108.7
6.7
3.5
81.1
Table 15: Electricity Forecasts
Installed Capacity (GW)
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 27/33
9. Renewables
EDP holds 77.53% of EDP Renováveis (EDPR), which is focused in the
renewable sources of production such as wind and solar generation. EDPR went
public in 2008 and currently operates in eleven countries including: USA, Iberia,
Canada, Brazil, UK, Poland and Romania. EDPR’s installed capacity amounts to
8,145 MW from which 7,558 MW are wind capacity.
From 2008 to 2012 total generation has increased at an average per year of
23.93%, and installed capacity has increased at an average rate per year of
16.07%.
The initial strategy of CTG included acquiring minority stakes in the renewable
sector for a total of €2 billion. By the end of 2012, EDPR received €170 million for
selling a 49% stake on 599MW of installed capacity on wind power plants to
Borealis. More recently, EDPR has reached agreements related to two other
transactions. The first one is related to the selling of a 49% stake in EDP
Renováveis Portugal, S.A., for €359 million, and the second one is related to the
sale of a 40% stake on ENEOP, a company focused on the wind generation
which is expected to be completed in 2015. According to some analysts (BESI
and BP) the second transaction is expected to have a positive impact on EDPR’s
share price.
EDPR recently began pursuing solar generation of electricity in Romania with an
installed capacity of 39M. Additionally, in December 2013 it announced a
guaranteed financing for EDPR for a wind project of 80 MW installed capacity in
Poland77
, which reinforces the strategy to invest in this type of countries.
According to EIA renewable capacity is expected to increase by 49.5% until
2040. This implies an increase of 3 percentage points in the share of renewables
that shall represent 6% of total capacity in 2040. Therefore, EDPR still has
potential as the market environment will tend towards the EU target for 2020 and
the economy shifts towards “low-carbon”. This segment is valued at market
values at the business day before the date of the report.
77
Source: Diário Económico newspaper.
Table 17: EDPR’s Installed
Capacity (MW)1\
By Geography
USA 3637
Spain 2310
Portugal 1005
Romania 378
Poland 320
France 314
Brazil 84
Belgium 57
Italy 40
Total 8145
Source: EDP.
1\2012 data
7.8
10.9
14.4
16.8 18.4
4.4 5.6
6.7 7.5 8.0
0
250
500
750
1,000
1,250
0
5
10
15
20
2008 2009 2010 2011 2012
Graph 46 - EDPR Key data
Production (TWh)
Installed Capacity (GW)
Revenues (m€)
Net Income (m€)
Source: EDP.
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 28/33
10. Multiples’ Valuation
We have decided to rely on multiples in order to compare how the market is
currently valuing EDP with our how fair value estimates. For this purpose we
have used three major multiples that are highly regarded in literature:
EV/EBITDA, P/E, and EV/Revenues.
.
Table 18: Multiples' Valuation Summary
EDP
Current
Multiple
Market
Average
Price/
Share
EV/EBITDA 8.69 7.91 2.36
P/E 9.93 14.81 3.11
Value /Revenues 1.86 3.00 2.41
Target Price 2.86
Sources: Bloomberg and Nova Research Team
2.86
2.36
3.11
1.7
1.9
2.1
2.3
2.5
2.7
2.9
3.1
3.3
3.5
Jan
-13
Feb
-13
Mar
-13
Ap
r-1
3
May
-13
Jun
-13
Jul-
13
Au
g-1
3
Sep
-13
Oct
-13
No
v-1
3
Dec
-13
Jan
-14
Feb
-14
Mar
-14
Ap
r-1
4
May
-14
Jun
-14
Jul-
14
Au
g-1
4
Sep
-14
Oct
-14
No
v-1
4
Dec
-14
Chart 47: Target Price 2014YE
SoTP EV/EBITDA P/E Value/Revenues EDP
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 29/33
Appendix 1 – Financial Statements
Table 19: Consolidated Balance Sheet
(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
Assets
Property, plant and equipment 20,324 20,708 20,905 20,487 19,823 20,097 19,336 19,313 17,785
Intangible Assets and Goodwill 9,963 10,128 9,860 9,544 9,444 9,315 9,179 9,065 8,938
Trade Receivables and Assets from commercial act. 1,556 2,217 2,834 3,164 2,952 2,838 2,772 2,774 2,576
Other Non-Current Assets 1,365 1,258 1,649 1,753 1,831 1,851 1,877 1,901 1,924
Total Non-Current Assets 33,207 34,311 35,249 34,949 34,051 34,101 33,164 33,052 31,223
Inventories 357 346 378 342 396 409 424 468 469
Trade Receivables and Assets from commercial act. 4,115 3,539 4,332 4,523 4,057 4,192 3,950 3,925 3,694
Cash and cash equivalents 1,588 1,732 1,695 2,058 1,745 1,766 1,786 1,833 1,796
Other Current Assets 1,222 1,353 975 785 922 920 936 944 920
Total Current Assets 7,282 6,970 7,379 7,709 7,121 7,288 7,096 7,170 6,879
Total Assets 40,489 41,281 42,628 42,658 41,171 41,388 40,260 40,223 38,102
Equity
Share capital 3,657 3,657 3,657 3,657 3,657 3,657 3,657 3,657 3,657
Treasury stock (116) (111) (104) (92) (92) (92) (92) (92) (92)
Share premium 504 504 504 504 504 504 504 504 504
Reserves and retained earnings 2,731 2,936 3,123 3,256 3,570 3,902 4,214 4,735 5,038
Consolidated net profit attributable to equity holders of EDP1,079 1,125 1,012 742 888 924 920 1,130 930
Total Equity attributable to equity holders of EDP 7,855 8,110 8,192 8,066 8,526 8,894 9,203 9,934 10,037
Non-controlling Interests 2,930 3,277 3,239 3,250 3,302 3,356 3,407 3,490 3,537
Total Equity 10,785 11,387 11,432 11,316 11,828 12,251 12,610 13,423 13,574
Liabilities
Financial debt 14,887 15,786 16,716 15,033 15,246 15,708 12,921 12,432 10,320
Trade and other payables from commercial activities (NCL)1,416 1,289 1,263 1,466 1,453 1,529 1,583 1,690 1,622
Other Non-Current Liabilities 5,671 5,419 5,314 5,466 5,533 5,595 5,650 5,738 5,831
Total Non-Current Liabilities 21,974 22,495 23,293 21,965 22,232 22,831 20,154 19,860 17,773
Financial debt 3,004 2,999 3,808 5,433 3,307 3,354 3,456 2,714 2,611
Trade and other payables from commercial activities (CL)3,489 3,297 3,221 3,067 2,974 2,127 3,222 3,406 3,333
Other Current Liabilities 1,236 1,103 875 877 830 825 818 820 813
Total Current Liabilities 7,730 7,399 7,903 9,377 7,111 6,307 7,496 6,939 6,756
Total Liabilities 29,704 29,894 31,196 31,342 29,343 29,138 27,650 26,799 24,529
Total Equity and Liabilities 40,489 41,281 42,628 42,658 41,171 41,388 40,260 40,223 38,102
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 30/33
Table 20: Consolidated Income Statement
(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
Gross Profit 5,405 5,436 5,428 5,504 5,796 5,970 6,079 6,261 6,140
Other operating income / (expenses) (1,792) (1,681) (1,800) (1,890) (1,812) (1,831) (1,835) (1,780) (1,881)
EBITDA 3,613 3,756 3,628 3,614 3,985 4,140 4,244 4,481 4,258
Provisions,Dep.&Amort&Impairments&Others (net) (1,550) (1,488) (1,485) (1,636) (1,672) (1,754) (1,808) (1,870) (1,907)
EBIT 2,063 2,267 2,143 1,978 2,313 2,385 2,436 2,611 2,351
Gains / (losses) on the sale of financial assets 61 21 3 0 0 0 0 0 0
Financial Income net of financial expenses (485) (715) (705) (743) (762) (787) (839) (755) (734)
Share of profit in associates 23 19 24 26 27 28 29 29 30
Profit before income tax 1,662 1,592 1,464 1,261 1,578 1,626 1,626 1,886 1,647
Income tax expense (427) (260) (283) (417) (545) (551) (555) (579) (572)
Gains / (losses) sale of discontinued op., net of tax 0 0 0 0 0 0 0 0 0
Net profit for the year 1,235 1,332 1,182 843 1,033 1,075 1,070 1,307 1,075
Attributable to:
Equity holders of EDP 1,079 1,125 1,012 742 888 924 920 1,130 930
Non-controlling Interests 156 207 170 101 145 150 150 176 145
Net profit for the year 1,235 1,332 1,182 843 1,033 1,075 1,070 1,307 1,075
Table 21: Consolidated Cash Flow Statement
(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E
NOPLAT 1,516 1,666 1,575 1,323 1,514 1,577 1,604 1,809 1,535
Depreciation and Amortization (1)1,447 1,452 1,469 1,615 1,652 1,734 1,788 1,850 1,887
Other Adjustments (2)94 187 115 13 10 11 11 11 10
Cash Flow from Operations 3,057 3,306 3,159 2,951 3,176 3,321 3,402 3,670 3,432
CAPEX (1,673) (2,037) (1,399) (881) (888) (1,878) (890) (1,713) (232)
∆ Operating NWC (2,268) 313 (798) (196) 167 (981) 1,315 174 172
Other LT Operating Assets and Liabilities (1,196) (794) (656) (133) 197 188 119 105 129
Cash Flow from Investing Activities (5,138) (2,517) (2,853) (1,210) (525) (2,671) 543 (1,434) 69
Cash Flow from Non-Operating Activities (110) (1,214) (949) 126 (16) 57 52 55 74
Free Cash Flow to the Firm (2,191) (425) (644) 1,867 2,635 708 3,998 2,291 3,575
Net Financial Debt 2,589 903 1,657 (438) (1,616) 471 (2,721) (1,295) (2,193)
Net financial Income (485) (715) (705) (743) (762) (787) (839) (755) (734)
Interests * Corporate Tax (Tax Shield) 129 190 187 246 263 267 287 232 255
Capital Increases (cash) (535) (349) (896) (959) (520) (653) (711) (493) (925)
Other 493 397 401 27 (1) (7) (14) 20 23
Cash Flow from Financing Activities 2,191 425 644 (1,867) (2,635) (708) (3,998) (2,291) (3,575)
Free Cash Flow (2,191) (425) (644) 1,867 2,635 708 3,998 2,291 3,575
(1) Includes Compensation of Depreciation and Amortization
(2) Includes Impairment of Goodwill, Provistions and Adjustments in taxes
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 31/33
Appendix 2 – Comparables
Name Ticker
Market
Capitalization
(billion EUR)
P/E P/B ROE ROA D/E Net D/EEV/ EBITDA
(12M)
AES TIETE SA-PREF GETI4 BZ 2.23 9.85 4.08 44.8% 20.5% 62.9% 38.77 5.42
CENTRAIS ELETRICAS BRAS- ELET6 BZ 2.89 N.A. 0.12 -15.6% -7.3% 49.5% 33.22 N.A.
CIA ENERGETICA DE SP-PRE CESP6 BZ 2.24 11.73 0.63 4.8% 3.0% 18.9% 8.63 3.86
CIA ENERGETICA MINAS GER CMIG4 BZ 5.65 4.16 1.36 32.3% 12.5% 72.3% 36.88 5.74
DUKE ENERGY INTL GERACA GEPA4 BZ 1.84 N.A. 2.13 12.9% 8.1% 39.1% 17.11 7.86
ELECTRICIDADE E SERVICOS EKTR4 BZ 1.03 N.A. 1.00 10.2% 4.8% 69.6% 47.65 N.A.
ENERSIS SA ENERSIS CI 10.80 12.48 1.26 11.7% 4.3% 42.1% 18.83 5.64
RENOVA ENERGIA SA-UNITS RNEW11 BZ 1.17 N.A. 3.79 -2.3% -0.9% 200.3% 176.32 38.13
TRANSENER S.A.-B TRAN AR 0.07 N.A. 1.25 -15.1% -4.4% 183.9% 165.69 N.A.
E.CL SA ECL CI 0.97 40.92 0.79 2.1% 1.2% 43.0% 31.95 8.12
EDF EDF FP 49.14 9.59 1.47 11.0% 1.4% 157.2% 90.41 5.82
IBERDROLA SA IBE SM 27.83 9.89 0.81 8.0% 2.9% 90.6% 76.73 9.66
PAMPA ENERGIA SA PAMP AR 0.33 8.19 1.24 5.5% 1.0% 116.3% 86.47 4.08
VERBUND AG VER AV 5.38 9.96 1.10 12.6% 4.7% 71.3% 70.46 4.74
TERNA SPA TRN IM 6.96 12.90 1.00 N.A. N.A. N.A. N.A. N.A.
ENBW ENERGIE BADEN-WUER EBK GR 7.61 49.06 1.47 2.5% 0.4% 104.7% 43.02 6.18
ENDESA SA ELE SM 21.93 10.62 0.99 9.0% 3.3% 33.2% 2.83 4.23
GDF SUEZ GSZ FP 39.76 38.32 0.67 1.6% 0.5% 75.0% 59.21 5.18
NATIONAL GRID PLC NG/ LN 33.40 10.89 2.50 24.5% 5.0% 236.2% 197.41 10
RWE AG RWE GR 16.45 179.63 1.53 0.7% 0.3% 128.6% 77.87 3.02
ENAGAS SA ENG SM 4.55 10.76 2.12 19.4% 4.9% 235.6% 164.02 7.99
FLUXYS BELGIUM FLUX BB 1.90 29.17 2.54 9.5% 2.5% 214.0% 178.44 10.37
GAS PLUS GSP IM 0.21 12.97 1.00 7.3% 2.6% 50.4% 47 4.86
SNAM SPA SRG IM 12.78 13.44 2.22 16.5% 4.1% 224.3% 224.22 8.96
REPOWER AG-BR REPI SW 0.38 15.42 0.54 4.2% 1.6% 59.2% 30.34 5.81
DRAX GROUP PLC DRX LN 3.67 11.27 1.77 14.0% 9.1% 13.6% -15.56 10.7
SECHILIENNE-SIDEC SECH FP 0.00 10.93 1.63 15.4% 3.9% 146.6% 124.66 7.98
EDP RENOVAVEIS SA EDPR PL 3.27 24.77 0.58 2.5% 1.0% 62.8% 57.37 7.17
FERSA ENERGIAS RENOVABL FRS SM 0.05 N.A. 0.41 -42.1% -14.7% 154.1% 136.18 8.57
GOOD ENERGY GROUP PLC GOOD LN 43.23 11.57 2.62 15.6% 5.1% 81.2% 66.83 N.A.
ELIA SYSTEM OPERATOR SA ELI BB 1.99 12.19 0.94 7.7% 2.6% 148.3% 131.75 10.65
FEDERAL GRID CO UNIFIED FEES RM 2.39 N.A. 0.12 -0.8% -0.6% 25.1% 20.85 3.66
LECHWERKE AG LEC GR 2.25 17.31 2.68 14.6% 7.0% 2.3% -55.76 12.5
RED ELECTRICA CORPORACIO REE SM 6.10 10.47 2.81 26.5% 5.9% N.A. N.A. N.A.
REDES ENERGETICAS NACIO RENE PL 1.19 10.41 1.12 11.0% 2.4% 282.9% 245.18 7.36
UNITED UTILITIES GROUP P UU/ LN 5.25 6.98 2.10 35.1% 6.7% 285.5% 282.96 10.59
Enea Sa ENA PW 1.67 8.48 0.61 6.6% 5.0% 7.4% -9.21 3.57
E.ON SE EOAN GR 27.13 10.29 0.74 6.7% 1.7% 62.2% 46.62 4.83
EDP-ENERGIAS DE PORTUGA EDP PL 9.75 10.00 1.15 12.3% 2.4% 177.9% 161.69 8.67
ENEL SPA ENEL IM 29.23 60.67 0.82 1.0% 0.2% 121.7% 106.36 6.11
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 32/33
Appendix 3 – Sensitivity Analysis
-15% -10% -5% 0% 5% 10% 15%
Reg. Prod.
Lib. Prod
Dist. PT
Dist. SP
Supply PT
Supply SP
Gas
Brazil
Reg. Prod.
Lib. Prod
Dist. PT
Dist. SP
Supply PT
Supply SP
Gas
Brazil
WA
CC
EB
ITD
A
Sensitivity Analysis: Tornado Chart
EDP – ENERGIAS DE PORTUGAL COMPANY REPORT
PAGE 33/33
Disclosures and Disclaimer
Research Recommendations
Buy Expected total return (including dividends) of more than 15% over a 12-month period.
Hold Expected total return (including dividends) between 0% and 15% over a 12-month period.
Sell Expected negative total return (including dividends) over a 12-month period.
This report was prepared by Ana Rita Miranda, a student of the NOVA School of Business and Economics, following the Masters in Finance Equity Research – Field Lab Work Project, exclusively for academic purposes. Thus, the author, which is a Masters in Finance student, is the sole responsible for the information and estimates contained herein and for the opinions expressed, which reflect exclusively his/her own personal judgement. This report was supervised by professor Rosário André (registered with Comissão do Mercado de Valores Mobiliários as financial analyst) who revised the valuation methodology and the financial model. All opinions and estimates are subject to change without notice. NOVA SBE or its faculty accepts no responsibility whatsoever for the content of this report nor for any consequences of its use. The information contained herein has been compiled by students from public sources believed to be reliable, but NOVA SBE or the students make no representation that it is accurate or complete, and accept no liability whatsoever for any direct or indirect loss resulting from the use of this report or its content. The author hereby certifies that the views expressed in this report accurately reflect his/her personal opinion about the subject company and its securities. He/she has not received or been promised any direct or indirect compensation for expressing the opinions or recommendation included in this report. The author of this report may have a position, or otherwise be interested, in transactions in securities which are directly or indirectly the subject of this report. NOVA SBE may have received compensation from the subject company during the last 12 months related to its fund raising program. Nevertheless, no compensation eventually received by NOVA SBE is in any way related to or dependent on the opinions expressed in this report. The Nova School of Business and Economics, though registered with Comissão do Mercado de Valores Mobiliários, does not deal for or otherwise offers any investment or intermediation services to market counterparties, private or intermediate customers. This report may not be reproduced, distributed or published without the explicit previous consent of its author, unless when used by NOVA SBE for academic purposes only. At any time, NOVA SBE may decide to suspend this report reproduction or distribution without further notice.
Top Related