Will NZ’s Broader Utilities Sector Be Able to Overcome Current Economic Conditions – 2 Stocks to Consider

As the country's main electricity generator as well as the significant retailer, Meridian Energy Limited (NZX: MEL) is NZ’s largest electricity company. Genesis Energy Limited (NZX: GNE) is the state-owned enterprise with the diverse electricity generation portfolio. Kalkine’s Sector Report covers the Key Financial Metrics, Risks, Outlook, Technical Analysis along with the Valuation, Target Price, and Recommendation on the stock.

1. Sector Landscape and Outlook 

In the report by Energy Efficiency and Conservation Authority (or EECA), it was mentioned that more than 40% of NZ’s greenhouse gas emissions come from energy use. The priority is to act urgently as well as decisively to reduce the energy-related emissions through the improvement of energy efficiency, conserving energy where possible and, most critically, increasing the use of renewable sources of energy. The desired outcome would be a sustainable energy system which supports the prosperity and wellbeing of current and future generations. EECA is using 3 key levers to initiate change: co-investing, motivating people and regulating.

The focus is towards motivating business decision-makers to accelerate the transition to the low-emissions economy. Notably, ~10.9% of NZ’s emissions come from the energy use in the business sector. The largest portion of the business sector’s emissions from energy use comes from the burning of fossil fuels for the purposes of ‘process heat’ – the steam, hot water or hot gases utilised in industrial processing, manufacturing, and space heating. However, there are low-emissions alternatives which are available for the businesses which not only reduce emissions but could also lower energy costs as well as improve the profitability. Businesses are required to act now in order to help in meeting the emission budgets adopted by government as well as the associated actions required to achieve these as mentioned in the Emissions Reduction Plan. EECA is focused towards motivating and supporting the business sector to be more productive with less emissions.

Electricity in the Energy Transition

NZ’s electricity system is the cornerstone of the government’s strategy when it comes to decarbonising the energy sector. The government targets to promote the electrification of end-use sectors including buildings, transport and industry, leveraging the renewables-based electricity system. The NZ Energy Strategy 2011-2021 placed the target for ~90% renewable electricity by the year 2025. Subsequently, the government placed an aspirational goal of ~100% renewable electricity by the year 2030. Moreover, the first ERP built on the government’s aspirational goal in electricity as well as set the target of 50% of total final energy consumption from renewables by the year 2035. Notably, making the electricity system fit-for-purpose remained the top priority for the government.

NZ has a high proportion of renewable electricity, which is currently more than ~80% of electricity production. However, because of the electricity system's heavy dependency on the hydropower, its critical challenge is coping with the “dry year”, when hydro inflows are low. Touching the aspirational 100% target for the renewables in electricity by 2030 as well as the 50% economy-wide renewables target by 2035 would be requiring the massive buildout of new renewables generation capacity.

Exhibit 1: Trend in Renewable Share (%)-Four-Quarter Moving Average

Data Source: This work is owned by the Ministry of Business, Innovation and Employment on behalf of the Crown which are licensed for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Created by Kalkine Group

Share Of Renewable Energy

As per International Energy Agency, New Zealand has the 10^th highest share of renewable energy in TFEC among the IEA countries. In 2021, ~29% of TFEC came from renewables, while the IEA average in 2020 stood at ~13%. The main renewable energy source in NZ is hydropower, which covers ~55% of electricity generation, the 5^th highest share among IEA member countries.

In 2021, NZ had the largest share of geothermal (~25%) in total energy supply as well as electricity generation (~19%) among the IEA countries. In 2021, the renewables provided ~60% of energy demand (TFEC) in buildings, ~36% in industry as well as ~0.2% in transport. Renewable electricity covered ~55% of the buildings TFEC, ~26% of industry and ~0.14% of transport. Solid biomass provided ~5% of energy in buildings as well as ~9% in industry, and liquid biofuels had the share of ~0.06% of transport energy demand.

Exhibit 2: Trend in Major Energy Contributor to Net Generation in New Zealand Since December 2021 Quarter

Data Source: This work is owned by the Ministry of Business, Innovation and Employment on behalf of the Crown which are licensed for reuse under the Creative Commons Attribution 4.0 International Licence; Chart Created by Kalkine Group

Index Performance:

The S&P/NZX All Energy (Sector) Index generated a 6-month return of ~-1.16% versus ~-6.42% by the S&P/NZX All Index.

Exhibit 3: S&P/NZX All Energy (Sector) vs S&P/NZX All Index

Source: REFINITIV

Key Risks and Challenges:

In the month of August 2020, the government published NZ’s first National Climate Change Risk Assessment. The assessment painted the national picture of the risks NZ faces from climate change as well as helped identify where the government is required to prioritise action.

The risk assessment was able to identify 43 priority risks throughout 5 value domains (natural environment, human, economy, built environment as well as governance) and highlighted the 10 risks which are the most significant.

The significant risks in the built environment are the risk to potable water supplies because of changes in rainfall, temperature, drought, extreme weather events as well as sea-level rise, and the risk to buildings because of extreme weather events, drought, increased fire weather and sea-level rise.

Exhibit 4. Key Risks in Utilities Sector:

Source:- Analysis: Kalkine Group 

Outlook:

In the report “Aotearoa New Zealand’s First Emissions Reduction Plan”, by 2050, NZ’s energy system would be becoming highly renewable, sustainable as well as efficient, and supports the low-emissions and high-wage economy. Energy is accessible and affordable and helps the wellbeing of all the people of NZ. Energy supply is secure, reliable and resilient, including in the face of global uncertainties.

The energy and industry sectors account for just over the quarter of the total gross greenhouse gas emissions. Aotearoa New Zealand is well-placed to tackle the emissions in the energy and industry sectors as a result of high levels of renewable electricity. Decarbonising the energy sector possesses a range of benefits such as creating opportunities in order to reduce emissions in several other sectors, reducing reliance on the global fossil fuel markets, reducing costs via energy efficiency and clean technology, and establishing high-wage job opportunities.

The Government’s 2050 vision for the energy and industry is for Aotearoa NZ to have the highly renewable, sustainable and efficient energy system supporting the low-emissions economy. In order to achieve this, Aotearoa is required to move away from the fossil fuels as well as shift towards increased renewable electricity generation, and the development and use of several other low-emissions fuels.

Apart from the sector-specific factors, an analysis on two NZX-listed companies is provided. This report covers their insights, outlook, performance and potential as expected to be delivered in the near to medium term.

1 )  Meridian Energy Limited (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD13.45 billion, Annual Dividend Yield (TTM)¹: 4.51%)

Business Description:

As the country's main electricity generator as well as the significant retailer, Meridian Energy Limited (NZX: MEL) is NZ’s largest electricity company.

Outlook:

MEL continued to deploy strongly towards its pipeline of new renewable development. The company doubled its pipeline of potential projects to 4.7GW (11.1 TWh), with 1.5GW of that capacity secured as well as 3.2GW in advanced prospects. The sector is witnessing growth phase greater than at any other time in NZ’s history. Notably, the competition is robust and MEL is confident that the sector would drive the best outcomes at the least cost for New Zealanders.

Technical Overview:

Technical Commentary:

On the daily chart, MEL prices are trading above the falling trendline support zone and taking support from the trendline. Moreover, the momentum oscillator RSI (14-period) is showing a reading of ~48.1917 level. However, the prices are trading below trend-following indicator 21-period SMA, which may act as a resistance level. An important support level for the stock is placed at NZD 4.50 while the key resistance level is placed at NZD 6.2.

Fundamental Valuation:

EV/Sales Based Relative Valuation

Stock Recommendation

Considering the facts above, a ‘Buy’ recommendation on the stock has been provided at the closing market price of NZD 5.20 per share as on 12^th October 2023.

2)  Genesis Energy Limited (Recommendation: Buy, Potential Upside: Low Double-Digit) (M-Cap: NZD2.66 billion, Annual Dividend Yield (TTM)¹: 10.10% )

Business Description:

Genesis Energy Limited (NZX: GNE) is the state-owned enterprise with the diverse electricity generation portfolio.

Outlook:

FY 2024 EBITDAF is expected to be ~$430 Mn subject to the hydrological conditions, gas availability as well as any material adverse events or unforeseeable circumstances. The operating expenditure is expected to be ~$375 Mn, which includes the additional technology spend of ~$25 Mn and increased spend on strategic growth initiatives. Notably, the capital expenditure in FY 2024 is expected to be ~$165 Mn.

Fundamental Valuation:

Price/EPS Based Relative Valuation

Technical Overview:

Technical Commentary

On the daily chart, GNE prices are trading above the horizontal trendline support zone. Moreover, the momentum oscillator RSI (14-period) is showing a reading of ~51.9688 level. Further, the prices are trading above trend-following indicator 21-period SMA, which may act as a support level. An important support level for the stock is placed at NZD 2.25 while the key resistance level is placed at NZD 2.80.

Stock Recommendation

Considering the aforementioned factors, a “Buy” rating is given on the stock at the closing market price of NZD 2.48 per share, up by 2.48% as on 12^th October 2023.

Markets are trading in a highly volatile zone currently due to certain macro-economic issues and geopolitical tensions prevailing. Therefore, it is prudent to follow a cautious approach while investing.

Note 1: Past performance is neither an indicator nor a guarantee of future performance.

Note 2: The reference date for all price data, currency, technical indicators, support, and resistance levels is 12 October 2023. The reference data in this report has been partly sourced from REFINITIV.

Note 3: Investment decisions should be made depending on an individual's appetite for upside potential, risks, holding duration, and any previous holdings. An 'Exit' from the stock can be considered if the Target Price mentioned as per the Valuation and or the technical levels provided has been achieved and is subject to the factors discussed above.

Technical Indicators Defined: -

Support: A level at which the stock prices tend to find support if they are falling, and a downtrend may take a pause backed by demand or buying interest. Support 1 refers to the nearby support level for the stock and if the price breaches the level, then Support 2 may act as the crucial support level for the stock. 

Resistance: A level at which the stock prices tend to find resistance when they are rising, and an uptrend may take a pause due to profit booking or selling interest. Resistance 1 refers to the nearby resistance level for the stock and if the price surpasses the level, then Resistance 2 may act as the crucial resistance level for the stock. 

Stop-loss: It is a level to protect further losses in case of unfavourable movement in the stock prices.

Disclaimer

Kalkine New Zealand Limited is a Financial Advice Provider (“FAP”) and is authorised by a Class 1 Financial Advice Provider Licence issued by Financial Markets Authority (“FMA”) to provide financial advice. Kalkine provides only general financial advice through its research reports following a person becoming a member. The reports contain buy/sell/hold and other recommendations in relation to equity financial products. The recommendations and opinions [on this website] / [in this report] do not take into account any of your investment objectives, financial situation or needs. Before you make a decision about whether to acquire a financial product, you should obtain the Product Disclosure Statement from the product issuer. You should consider the appropriateness of advice taking into account your own objectives, financial situation and needs and seek independent financial advice before making any financial decisions. If you act on the advice in the research reports, you may have to pay fees, expenses or other amounts (but not to Kalkine).  Further information about the complaints and dispute resolution process, as well as information about Kalkine’s duties are available on Kalkine’s website.  Please read our Financial Advice Provider (FAP) disclosure statement and Complaints Handling Guide, which are available on the website.