Contact Energy - CEN Chart

[dreamcatcher]

Watching SP as still undecided about taking up $7 offer or buy on market.

Morning brief - “It's not a big discount, but I think it’ll be enough to get it across the line. A number of brokers across New Zealand have a $9+ price target on it.”

[calledone]

"Morningstar valuation in ASB was saying reduce, Their valuation was $6.6 yesterday and today it's 6.8". Is this a bait to sell?

[dreamcatcher]

"Morningstar valuation in ASB was saying reduce, Their valuation was $6.6 yesterday and today it's 6.8". Is this a bait to sell?

Morningstar not highly rated among investors who normally do the opposite to their recommendations. Brokers targets differ greatly as do investors opinions but best to use own judgement regarding these valuations.

[calledone]

Morningstar not highly rated among investors who normally do the opposite to their recommendations. Brokers targets differ greatly as do investors opinions but best to use own judgement regarding these valuations.

Good to know. Thanks.

[Lego_Man]

A$6.58 atm down down 55c re 7.7% on no vol though
NZ$7.08 atm on NZX down 1.7% 3.6 mill through . Black Rock etc still dumping?

Blackrock haven't started selling yet. They've just stopped buying (shares owned static since 31 Jan basically).

The runup in SP was them buying into a zero liquidity market, the subsequent massive drop was them stepping back as buyer (but not selling). That should pose some sobering assessments of what's to come.

[FatTed]

Snoopy regarding "I wonder how many shareholders will go for the new DRP?" I thought that if one did not need the income right now from a dividend it was a good idea to take up the DRP. sort of like compound interest, and often offered at a discount and without brokers fees. A little confused

[Snoopy]

Snoopy regarding "I wonder how many shareholders will go for the new DRP?" I thought that if one did not need the income right now from a dividend it was a good idea to take up the DRP. sort of like compound interest, and often offered at a discount and without brokers fees. A little confused

I think it depends on your position FatTed. If a shareholder doesn't need the income and the DRP offers shares at a discount it might be very sensible for that shareholder to enroll. I am not saying there aren't legitimate reasons to join the DRP. I am saying those reasons are overall not as compelling as before for everyone. If you are getting 1% interest for your bank term deposits, for example, when you were budgeting on more, you might be reluctant to forego your Contact dividend income at the present.

Whereas in the old plan the number of shares on issue grew by around 5% per year over two dividend payments, I expect the new DRP will cause the number of shares to grow by less, maybe 2.5% per year.

Personally on a share that is not on a high growth trajectory, I prefer to save my dividends as 'cash' and then use those funds to 'buy on a dip'. Rather than being forced to buy at DRP time, I prefer to chance my own market timing. Those funds may or may not go into more Contact Energy shares, depending on the value in the market that I can see at the time.

SNOOPY

[Snoopy]

Time to look at a ten year scenario analysis. This analysis takes the current dividend policy and looks back to see what level of dividend might have been expected had that policy been in place for all of the last ten years, This involves using actual 'Cashflow from Operational Activity', 'Stay in Business Capital Expenditure' and 'Net Interest Costs'. In my view using as much real data as possible is preferable when investigating these scenarios.

	FY2011	FY2012	FY2013	FY2014	FY2015	FY2016	FY2017	FY2018	FY2019	FY2020
Cashflows from Operating Activities	$379m	$440m	$469m	$446m	$490m	$556m	$508m	$457m	$466m	$390m (1)
less Stay in Business CAPEX	($180m)	($98m)	($116m)	($46m)	($63m)	($87m)	($116m)	($78m)	($60m)	($52m)
less Net Interest Costs	($62m)	($72m)	($66m)	($77m)	($98m)	($101m)	($92m)	($84m)	($70m)	($55m)
equals Operating Free Cashflow	$137m	$270m	$287m	$323m	$329m	$368m	$299m	$295m	$336m	$283m
Operating Free Cashflow (OFC) x 100%	$137m	$270m	$287m	$323m	$329m	$368m	$299m	$295m	$336m	$283m
Modelled Dividend per Share (based on 718m shares on issue)	19cps	38cps	40cps	45cps	46cps	51cps	42cps	41cps	47cps	39cps
Actual Dividend per Share (based on 100% of OFC payout policy)									39cps	39cps
EBITDAF-DA-I-T (Normalised NPAT)	$156m	$177m	$202m	$199m	$161m	$159m	$134m	$131m	$175m	$127m
Normalised eps (based on 718m shares on issue)	21.7cps	24.7cps	28.1cps	27.7cps	22.4cps	22.1cps	18.7cps	18.2cps	24.3cps	17.7cps

The policy to declare dividends of 100% of operating free cashflow (OFC) was announced in AR2018 in time for the Financial Years of 2019 and beyond. So why was only 82% of OFC paid out for FY2019? As explained in the FY2019 investor briefing from August 11th p8, the plan is to pay out 100% of OFC in a mean hydrological year, further corrected for abnormal plant maintenance requirements and volatile market conditions. So the '100% payout of Operating Free Cashflow' policy is not quite as simple as it sounds. Water inflows over FY2019 were way above average. Water inflows over FY2020 returned nearer to average although not in the way you might expect. From the integrated report for FY2020 p6:

"We also had an unusual hydrology sequence where the Clutha River experienced periods of extremely low inflows and a one in 20 year flood."

So FY2020 is the first year that has produced the dividend payment that the AR2018 announced headline dividend policy promised. If Contact get a year of bad hydrology, will they borrow to make the dividend up to the level previously promised for an average year? That part of the payout 100% of OFC policy is yet to be tested.

I intend to use the above table as 'input information' into my 'capitalised dividend' valuation model, which is one window into what Contact Energy shares might be worth today.

Another point of note is that I am assuming exactly 718m shares were on issue at the end of each year over the last ten years. In fact the number of shares issued varied with share issues and share buybacks. However the purpose of the table is not an historical retrospective. The purpose of the table is to answer the question:

"What would happen if we imposed the weather events and demand from each of the last ten years over the current dividend policy?"

Effectively we are modelling an array of ten possible demand and generation variability events over today's Contact Energy, to see what kind of dividend variability going forwards we might expect. Yet history cannot model future macroeconomic changes, and Chair Robert McDonald delivered this rather ominous warning to shareholders on p5 of Contacts 'Integrated Report' for FY2020.

"It is particularly pleasing to deliver investors the same 39cps annual dividend this year as last year. However as we look forward to a likely period of disruption in the industry, we will need to reconsider the level of future dividends as the status of Tiwai is cemented and mitigations emerge."

The Tiwai Point aluminum smelter, based in Bluff, uses around 13% of New Zealand's generated power. If it were to close, there is not enough Transpower infrastructure reserved to transfer all the surplus power from Contact's Central Otago located Roxburgh and Clyde dams north. So we could see some surplus power go down the dam spillways after August 2021, if Tiwai does indeed close on that date. And that could lead to a permanent rethink on what constitutes an 'average hydrological year', with a consequential negative effect on future Contact Energy dividends.

(1) If all this wasn't complicated enough, it appears the definition of 'Operating Cashflows' has slightly changed between FY2019 and FY2020. If you look in the respective 'Cashflow Statements' for AR2019 and AR2020, you will see that 'Operating Cashflow' for FY2019 is listed as $466m in the former and $401m in the latter. Why the difference? In FY2020 the FY2019 figure has been reduced by a net interest figure of $69m -$4m = $65m. In AR2019 the 'interest paid' is reported in 'Financing cashflows' and the 'interest earned' is reported under 'Investing cashflows'. For consistency I am using the earlier definition of cashflows in the above table, with no interest charges deducted or added. This explains why 'Operating Cashflows' for FY2020 are listed as $390m in my table, but only $341m in the FY2020 Integrated Report.

Time to rework my calculations to consider the new FY2021 dividend policy of paying 80-100% of cashflows. For modelling purposes I will 'split things down the middle' and assume 90% of free cashflows are paid out. Contact have also said they will base their level on dividend payments around the last four years of results So for the purpose of this exercise I will change my timeframe to incorporate this.

	FY2017	FY2018	FY2019	FY2020
Cashflows from Operating Activities (1,2)	$508m + $85m	$457m + $85m	$466m + $85m	$390m+$85m
less Stay in Business CAPEX	($116m)	($78m)	($60m)	($52m)
less Net Interest Costs	($92m)	($84m)	($70m)	($55m)
equals Operating Free Cashflow	$384m	$380m	$421m	$368m
Operating Free Cashflow (OFC) x 90%	$346m	$342m	$379m	$331m
Modelled Dividend per Share (based on 805m shares on issue (3))	43cps	42cps	47cps	41cps
EBITDAF-DA-I-T (Normalised NPAT) (4)	$134m + $45m	$131m + $45m	$175m +$45m	$127m + $45m
Normalised eps (based on 805m shares on issue)	22.2cps	21.9cps	27.3cps	21.4cps

(1) From slide 6 of the presentation: "Projected EBITDAF uplift of ~$85m p.a. at wholesale price of $80/MWh" on commissioning of Tauhara.

(2) The definition of 'Operating Cashflows' has slightly changed between FY2019 and FY2020. If you look in the respective 'Cashflow Statements' for AR2019 and AR2020, you will see that 'Operating Cashflow' for FY2019 is listed as $466m in the former and $401m in the latter. Why the difference? In FY2020 the FY2019 figure has been reduced by a net interest figure of $69m -$4m = $65m. In AR2019 the 'interest paid' is reported in 'Financing cashflows' and the 'interest earned' is reported under 'Investing cashflows'. For consistency I am using the earlier definition of cashflows in the above table, with no interest charges deducted or added. This explains why 'Operating Cashflows' for FY2020 are listed as $390m in my table, but only $341m in the FY2020 Integrated Report.

(3) Following the capital raising, I expect the number of shares on issue to jump to 775,709,995 shares. The DRP will further increase the number of shares on issue, I predict at a rate of 2,5% per year (compounding). This will see the total number of shares after four years to increase as folows:

	No.Shares
Year 0	775,708.995
Year 1	795,101,719
Year 2	814,979,263
Year 3	835,353,744
Total/4 = Average	805,285,930

(4) I shall assume with Tauhara commissioned Depreciation will go up by $14m per year (the same jump in depreciation that occurred when Te Mihi was commissioned). There is $180m of new incremental debt funding associated with the building of Tauhara. At a 4.5% borrowing rate, this will increase the annual interest bill by:

$180m x 0.045 = $8m

The projected NPAT increment as a result or Tauhara coming on stream is therefore:

0.72x ($85m -$14m -$8m) = $45m

(This incremental increase in NPAT must ultimately be discounted back because it will not occur for three years time when Tauhara comes on line. I use a 4.5% discount rate, which equates to the long term Gross Yield I am prepared to accept.

1/(1.045)^3 = 0.8763

$45m x 0.8763 = $40m

SNOOPY

[dreamcatcher]

Vanguard Group 12 Feb "Disclosure of beginning to have substantial holding" 36-Million = 5.011%

Wonder if Cen could enter MSCI index

[Snoopy]

Imputation credits are sometimes a hard thing to pin down as companies can keep them on their books for years, and distort the imputation credits attached to future dividends with those imputation credit reserves. Companies can even front load imputation credits by paying a tax bill to the IRD before it is due. Yet over a longer period of time it becomes harder to distort imputation credits paid if shareholders consider a multi year company overview. In the case of Contact Energy, they cleaned out their stash of imputation credits just before Origin Energy gave up their controlling shareholding by paying a special 50c dividend on 23rd June 2015 that was fully imputed. That means that, post that special dividend payment, Contact Energy started with a 'clean imputation credit slate'. There have been ten dividend payments since that time. So what payments, with what percentage of imputation credits attached, have been made since Origin Energy left the share register?

Dividend Payment Date	Amount	Dividend Imputed to... {A}	Imputed to Maximum (B)	Dividend Imputation Rate (A)/(B)
25-09-2015	15cps	0%	28%	0%
23-06-2016	11cps	19.84%	28%	70.9%
23-09-2016	15cps	15.36%	28%	54.9%
17-03-2017	11cps	22.04%	28%	78.7%
19-09-2017	15cps	28.00%	28%	100.0%
06-04-2018	13cps	28.00%	28%	100.0%
18-09-2018	19cps	28.00%	28%	100.0%
09-04-2019	16cps	19.55%	28%	69.8%
17-09-2019	23cps	20.23%	28%	72.3%
07-04-2020	16cps	19.55%	28%	69.8%
Average				71.64%

I thought about what would be the best way to calculate the average imputation rate. Each dividend would have been individually considered by the board, and a decision made on what the appropriate imputation rate should be at each dividend payment time. So I have decided to just average the raw figures, exactly as they were presented to shareholders at the time.

By contrast, the dividend imputation rate that I used in my own capitalised dividend model (my post 1795) was somewhat lower.

Scenario Basis Financial Year	eps (A)	Scenario dps (B)
Total	225.6c(E)	369.0c (F)
Business Cycle Imputation Rate (E)/(F)		61.1%

So there we have it, three perspectives on what the imputation credit rate should be: 61.1%, 65%, 71.6%

Which to choose?

I want to update Contact Energy's 'Imputation rate' record, based on the statement that dividend payments will now be based on operating cashflows from the previous four years (NZX Release 15/02/2021).

I thought about what would be the best way to calculate the average imputation rate. Each dividend would have been individually considered by the board, and a decision made on what the appropriate imputation rate should be at each dividend payment time. So I have decided to just average the raw figures, exactly as they were presented to shareholders at the time. An alternative method, that I have chosen not to use, would be to take a weighted average imputation rate attached to each dividend in proportion to the size of that dividend.

Dividend Payment Date	Amount	Dividend Imputed to... {A}	Imputed to Maximum (B)	Dividend Imputation Rate (A)/(B)
09-04-2019	16cps	19.55%	28%	69.8%
17-09-2019	23cps	20.23%	28%	72.3%
07-04-2020	16cps	19.55%	28%	69.8%
15-09-2020	23cps	20.23%	28%	72.3%
Average				71.05%
Proposed 31-03-2021	14cps	22.95%	28%	82.0%

If we think of the above average already paid dividends as 'predictive', how does such an averaged prediction line up against what is proposed for the dividend to be paid on 30-03-2021? From the half year announcement:

"The Board has approved an interim cash dividend of 14 cents per share which will be imputed up to 9 cents per share for qualifying shareholders, and paid on 30 March 2021."

100% 'Full imputation' means tax is being paid at 28% on the full 14c proposed payout. In fact only 9cps will be fully imputed, with no imputation credits attached to the remaining 5c portion of the proposed dividend. So the gross dividend being paid is:

9/0.72 + 5 = 17.5c

This means the tax paid before shareholders get their dividend is mapped out to be: 17.5c - 14c = 3.5cps

Under an alternative full imputation scenario, the gross dividend would look like: 14c/0.72 = 19.44c. Under this scenario, the tax paid equates to: 19.44c - 14c = 5.44cps

This comparison gives us an imputation rate paid of: 3.5c/5.44c= 64.3%

For a quicker way of doing the same calculation: The imputation rate of the proposed dividend in proportion to full imputation can be calculated straight from the proportion of dividend declared as imputed: 9/14 = 64.3%. That is a little higher than the historical precedent (82% vs 71.05%). This is not surprising, given the next forecast is no longer the 100% 'Operating Free Cashflow' payout that had previously applied to all four dividends since April 2019.

SNOOPY