New Zealand Professional Investment Services Firm

Forsyth Barr

We are proud to be a New Zealand owned firm, with 21 offices throughout the country and over 300 employees. We assist personal, institutional and corporate clients providing a full range of investment services.

Forsyth Barr is a foundation New Zealand Exchange firm (NZX) and accredited market participant. We have been confirmed by the Financial Markets Authority as a Qualifying Financial Entity (QFE).

Research is the cornerstone of our advice. We have one of New Zealand's leading teams of analysts. Our global affiliations ensure comprehensive research coverage of all major investment markets.

New Zealand Professional Investment Services Firm, Forsyth Barr

Equity Bottom-Up

<h2>Electricity Sector</h2>
<p><strong>Smelter's Electric Shock Far From Fatal</strong></p>
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<p>Rio Tinto's (RIO) shock announcement that it is closing NZAS in 13 months has resulted in a high degree of short-term uncertainty, with all of the generator/retailers re-evaluating their strategies, but we remain confident about the long-term prospects for the sector. Electricity demand growth from de-carbonisation of transport and process heat will help wholesale electricity prices and sector earnings to recover. We have retained OUTPERFORM ratings on Contact Energy (CEN) and Meridian Energy (MEL) but have downgraded Genesis Energy (GNE), Mercury (MCY) and Trustpower (TPW) to NEUTRAL.</p>
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<h3>Rating changes see us take a more cautious approach in the near-term</h3>
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<p>The rating changes we have made reflect a more cautious approach to the near-term outlook, but also reflect the share price reactions since&nbsp;RIO's&nbsp;announcements.&nbsp;CEN&nbsp;and&nbsp;MEL's&nbsp;share prices have fallen -14% and -11% respectively&nbsp;compared to less than -5% for the other generator/retailers. In our view&nbsp;CEN&nbsp;is particularly attractive and is trading on an FY21 gross dividend yield of 6.9%.&nbsp;</p>
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<h3>Forecast and dividend changes reflect an initial view on the likely future path</h3>
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<p>The forecast changes we have made to FY22 and FY23 are significant, with FY23 sector earnings forecast to be -22% lower than our old forecast.&nbsp;CEN&nbsp;and MEL have stranded generation volumes in&nbsp;Southland/Otago&nbsp;until&nbsp;Transpower&nbsp;completes grid upgrades and are the most affected. In addition, we expect a fall in retail prices as MEL seeks to increase its retail position. The NZ weighted average future wholesale electricity prices has fallen ~-NZ$18/MWh&nbsp;and we assume most of that is passed through to end users. Our analysis suggests sector earnings will return to current levels in FY25 and then continue its steady growth trajectory.</p>
<p>We expect all of the generator/retailers, except&nbsp;MCY, will trim their dividend as the sector navigates the next few years. MEL has already announced that it is ceasing its 4.88cps "special" dividend. Whilst some of our forecast dividend cuts are ~-20%, we are confident that they will be sustainable, with a particularly severe retail price war the main&nbsp;downside risk.</p>
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<h3>More upside than downside risk from here</h3>
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<p>Our revised sector forecasts assume NZAS goes through with its hard close and that Transpower takes until June 2023 to upgrade the lower South Island transmission. There is a reasonable chance that a longer ramp-down period is negotiated with NZAS and that Transpower can complete transmission work a year earlier. That would provide more time for the market to adjust and minimise some of the effects described in this report.&nbsp;</p>
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<h3>MEL is now long-generation,&nbsp;GNE&nbsp;short</h3>
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<p>MEL is the largest supplier of electricity to NZAS, it is also the lowest cost generator in the market. That places it in a strong position to grow retail market share if it wants to, which we believe is a strategy it will pursue. GNE is most at risk as it is the largest residential retailer and will be curtailing more generation that the other generators. In addition, GNE's Kupe value has taken a hit.</p>
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<div><strong>Andrew Harvey-Green</strong></div>
<div><a href="mailto:andrew.harvey-green@forsythbarr.co.nz" target="_blank" rel="noopener">andrew.harvey-green@<wbr>forsythbarr.co.nz</a></div>
<div>+64 4 495 8185</div>
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<div>Scott Anderson</div>
<div><a href="mailto:scott.anderson@forsythbarr.co.nz" target="_blank" rel="noopener">scott.anderson@forsythbarr.co.<wbr>nz</a></div>
<div>+64 4 914 2219</div>
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Electricity Sector
Smelter's Electric Shock Far From Fatal

Rio Tinto's (RIO) shock announcement that it is closing NZAS in 13 months has resulted in a high degree of short-term uncertainty, with all of the generator/retailers re-evaluating their strategies, but we remain confident about the long-term prospects for the sector. Electricity demand growth from de-carbonisation of transport and process heat will help wholesale electricity prices and sector earnings to recover. We have retained OUTPERFORM ratings on Contact Energy (CEN) and Meridian Energy (MEL) but have downgraded Genesis Energy (GNE), Mercury (MCY) and Trustpower (TPW) to NEUTRAL.


Rating changes see us take a more cautious approach in the near-term


The rating changes we have made reflect a more cautious approach to the near-term outlook, but also reflect the share price reactions since&nbsp;RIO's&nbsp;announcements.&nbsp;CEN&nbsp;and&nbsp;MEL's&nbsp;share prices have fallen -14% and -11% respectively&nbsp;compared to less than -5% for the other generator/retailers. In our view&nbsp;CEN&nbsp;is particularly attractive and is trading on an FY21 gross dividend yield of 6.9%.&nbsp;


Forecast and dividend changes reflect an initial view on the likely future path


The forecast changes we have made to FY22 and FY23 are significant, with FY23 sector earnings forecast to be -22% lower than our old forecast.&nbsp;CEN&nbsp;and MEL have stranded generation volumes in&nbsp;Southland/Otago&nbsp;until&nbsp;Transpower&nbsp;completes grid upgrades and are the most affected. In addition, we expect a fall in retail prices as MEL seeks to increase its retail position. The NZ weighted average future wholesale electricity prices has fallen ~-NZ$18/MWh&nbsp;and we assume most of that is passed through to end users. Our analysis suggests sector earnings will return to current levels in FY25 and then continue its steady growth trajectory.
We expect all of the generator/retailers, except&nbsp;MCY, will trim their dividend as the sector navigates the next few years. MEL has already announced that it is ceasing its 4.88cps "special" dividend. Whilst some of our forecast dividend cuts are ~-20%, we are confident that they will be sustainable, with a particularly severe retail price war the main&nbsp;downside risk.


More upside than downside risk from here


Our revised sector forecasts assume NZAS goes through with its hard close and that Transpower takes until June 2023 to upgrade the lower South Island transmission. There is a reasonable chance that a longer ramp-down period is negotiated with NZAS and that Transpower can complete transmission work a year earlier. That would provide more time for the market to adjust and minimise some of the effects described in this report.&nbsp;


MEL is now long-generation,&nbsp;GNE&nbsp;short


MEL is the largest supplier of electricity to NZAS, it is also the lowest cost generator in the market. That places it in a strong position to grow retail market share if it wants to, which we believe is a strategy it will pursue. GNE is most at risk as it is the largest residential retailer and will be curtailing more generation that the other generators. In addition, GNE's Kupe value has taken a hit.



Andrew Harvey-Green
andrew.harvey-green@forsythbarr.co.nz
+64 4 495 8185





Scott Anderson
scott.anderson@forsythbarr.co.nz
+64 4 914 2219



Electricity Sector Smelter's Electric Shock Far From Fatal