MCY Mercury NZ ( MRP Mighty River Power)

[Snoopy]

Financial Year	EBITDAF	less Adjustment	less DA	less I	times 0.72= Normalised NPAT	eps
2013	$391m	-($16.4m + $4.2m)	$150m	$57m	$147.1m	10.5cps
2014	$504m		$161m	$84m	$186.5m	13.3cps
2015	$482m	$17m/0.72	$170m	$99m	$136.4m	9.7cps
2016	$493m	$13m/0.72	$182m	$97m	$141.1m	10.1cps
2017	$523m	$5m	$189m	$95m	$168.5m	12.0cps

Notes:

1/ 'eps' figures based on 1,400m share being on issue
2/ FY2013 earnings modified by adding back IPO costs and loss on sale of German Geothermal Asset.
3/ FY2015 and FY2016 earnings reduced by property/land sale profits (adjusted to reflect that non-core property land sales are not generally taxable.)
4/ FY2017 result adjusted to remove profit on carbon credit sales.

Conclusion: Pass Test

Further Note: I have put up these results in tabular form so that you can see the working, and an interesting point that is evident from it. If you take the best year (FY2014) and the last reported year (FY2017), then the $18m fall in profit should be read in context with the $28m increase in depreciation charge over the two years. IOW leave out the depreciation (which is dubious in these power generating assets anyway) and the FY2017 result was actually the best of the lot ( I guess this is why management like to use EBITDAF when reporting their results?). Quite impressive nevertheless.

SNOOPY

PS Eagle eyed readers will notice that some earnings figures have changed from when I did them two years ago.

1/ I previously made a different adjustment in FY2013 to reflect an impairment charge that was never included in EBITDAF to start with. I also did not adjust for the two factors that I did adjust for in this year's analysis. (my mistake)
2/ In FY2015 I assumed that the profits on the property sale I adjusted for was taxable. I have now changed my mind and decided it was probably not taxable.

Financial Year	EBITDAF	less Adjustment	less DA	less I	times 0.72= Normalised NPAT	eps
2016	$493m	($13m/0.72 - $2m)	$182m	$97m	$142.5m	10.2cps
2017	$523m	($5m-$2m)	$189m	$95m	$169.9m	12.1cps
2018	$561m	$2m	$197m	$91m	$195.1m	13.9cps
2019	$505m	-$1m	$204m	$75m	$163.4m	11.7cps
2020	$494m	-$1m	$214m	$54m	$162.7m	11.6cps

Notes:

1/ 'eps' figures based on 1,400m share being on issue
2/ Underlying FY2016 earnings reduced by property/land sale profits (adjusted to reflect that non-core property land sales are not generally taxable). (AR2016 p10,54) and increased by Property Plant and Equipment sale losses (AR2016 p71).
3/ Underlying FY2017 result adjusted to remove profit on carbon credit sales (p60 AR2017) and increased by Property Plant and Equipment sale losses (AR2017 p31).
4/ Underlying FY2018 result reduced by a $2m Property Plant and Equipment sale gain (AR2018 p29).
5/ Underlying FY2019 result increased by a $1m Property Plant and Equipment sale loss (AR2019 p90).
6/ Underlying FY2020 result increased by a $1m Property Plant and Equipment sale loss (AR2020 p67).

CONCLUSION: There is only one underlying profit drop here, from FY2018 to FY2019 (The 2019 to 2020 profit drop is within the error bounds of a rounding error) => Pass Test

SNOOPY

[Snoopy]

The following is a break down of the equity ratio of what was once 'Mighty River Power' and is now 'Mercury Energy' since float time.

	Equity (A)	Assets (B)	Equity Ratio (A)/(B)
FY2013	$3,182m	$5,802m	0.5484
FY2014	$3,219m	$5,689m	0.5658
FY2015	$3,337m	$6,058m	0.5508
FY2016	$3,315m	$6,085m	0.5448
FY2017	$3,308m	$5,997m	0.5516
FY2018	$3,286m	$6,091m	0.5395
FY2019	$3,537m	$6,484m	0.5455
FY2020	$3,739m	$6,885m	0.5431

In order to work out the capital efficiency of Mercury, it is first necessary to determine the net equity within Mercury, less all the generation asset revaluations. Assets are funded by both equity and debt. This means we must back out the equity funded component of the generation asset revaluations only, by taking it off the quoted 'net asset backing'.

	Generation Assets Book Value {A} (AR Note P,P&E)	Generation Assets At Cost {B} (Calculated)	Generation Assets Revaluation {A}-{B}	Equity Ratio EOFY {C}	Total Net Assets {D} (from Balance Sheet)	Total Net Assets Revaluation Adjusted {D}-{C}x{{A}-{B}}
FY2016	$5,269m	$2,158m	$3,111m	0.5448	$3,315m	$1,620m
FY2017	$5,241m	$2,236m	$3,005m	0.5516	$3,308m	$1,650m
FY2018	$5,215m	$2,313m	$2,902m	0.5395	$3,286m	$1,720m
FY2019	$5,347m	$2,358m	$2,989m	0.5455	$3,537m	$1,907m
FY2020	$5,575m	$2,460m	$3,115m	0.5431	$3,739m	$2,047m

This information is needed for 'Buffett Test 3'.

SNOOPY

[Snoopy]

The information in this post is for the consumption of shareholders only. If anyone in the Green Party found out about the real return that Mercury Energy are earning on their assets they would go bezerk. And, now being part of the government, the Greens could subject this company to punitive windfall taxes once the true picture of how much Mercury is making out of taxpayer assets emerges. Actually I think the departed leader of the greens, Russell Norman, did know all about this, and it caused some ructions leading up to the 2014 elections. But as shareholders will see the issue hasn't gone away.

The following figures you will not find in the annual report. This is because my return on assets (and hence return on equity) is based on 'cost value' not 'book value'. Cost value, or contributed value, is what the shareholders have put in. Book value is what the assets are worth now. Using 'book value' the return on assets is modest. But book value is principally made up from previous years asset revaluations These Asset valuations were effectively 'new capital' that goes onto the balance sheet out of thin air, with no contribution from shareholders! This is a good thing for shareholders, but makes for unrepresentative return on shareholder contributions. You will artificially (in my view) decrease the ROE figures if you calculate ROE at declared asset value. So what are the representative return on equity figures?

Net Profit Margin = Normalised Net profit / Contributed Equity


FY2013: $147.1m/ ($3,181.7m -$2,831.4) = 42.0%
FY2014: $186.5m/ ($3,219m -$2,844m) = 49.7%
FY2015: $136.4m/ ($3,337m -$3,119m) = 62.5%
FY2016: $141.1m/ ($3,315m -$3,110m) = 70.9%
FY2017: $168.5m/ ($3,308m -$3,005m) = 55.6%

Notes:

1/ 'eps' figures based on 1,400m share being on issue
2/ FY2013 earnings modified by adding back IPO costs and loss on sale of German Geothermal Asset.
3/ FY2015 and FY2016 earnings reduced by property/land sale profits (adjusted to reflect that non-core property land sales are not generally taxable.)
4/ FY2017 result adjusted to remove profit on carbon credit sales.

Conclusion: Pass Test (rather magnificently)

The following figures you will not find in the annual report. This is because my return on assets (and hence return on equity) is based on 'cost value' not 'book value'. Cost value, or contributed value, is what the shareholders have put in. Book value is what the assets are worth now. Using 'book value' the return on assets is modest. But book value is significantly made up from previous years asset revaluations The asset revaluations were effectively 'new capital' that went onto the balance sheet out of thin air, with no contribution from shareholders! This is a good thing for shareholders, but makes for unrepresentative return on equity and/or assets. You will artificially (in my view) decrease the ROE figures if you calculate ROE at declared asset value. So what are the representative return on equity figures?

In a change from FY2017, when I last did this exercise, I have recognised that all assets on the balance sheet are supported by a combination of equity and debt. This means I must subtract from the declared net equity, only the equity funded component of the generation asset revaluation (see my post 1342).

Net Profit Margin = Normalised Net profit / Contributed Equity

FY2016: $142.5m/ ($3,315m - 0.5448x $3,111m) = 8.8%
FY2017: $169.9m/ ($3,308m - 0.5516x $3,005m) = 10.3%
FY2018: $195.1m/ ($3,286m - 0.5395x $2,902m) = 11.3%
FY2019: $163.4m/ ($3,537m - 0.5455x $2,989m) = 8.7%
FY2020: $162.7m/ ($3,739m - 0.5431x $3,115m) = 7.9%

CONCLUSION: Fail Test

SNOOPY

[Snoopy]

Margin = Normalised Net profit / Normalised Revenue

Note: all revenue figures are exclusive of line charges

FY2013: $147.1m/ $1,382.4m = 10.6%
FY2014: $186.5m/ $1,274m = 14.6%
FY2015: $136.4m/ $1,256m = 10.9%
FY2016: $141.1m/ $1,145m = 12.3%
FY2017: $168.5m/ $1,181m= 14.9%

Notes:

1/ 'eps' figures based on 1,400m share being on issue
2/ FY2013 earnings modified by adding back IPO costs and loss on sale of German Geothermal Asset.
3/ FY2015 and FY2016 earnings reduced by property/land sale profits (adjusted to reflect that non-core property land sales are not generally taxable.)
4/ FY2017 result adjusted to remove profit on carbon credit sales.

There was a hiccup after 2014, but the ability to generate a recovering trend has been demonstrated in the three years afterwards.

Conclusion: Pass Test

Margin = Normalised Net profit / Normalised Revenue

Note: all revenue figures are exclusive of line charges

FY2016: $142.5m/ ($1,564m - $419m) = 12.4%
FY2017: $169.9m/ ($1,597m - $440m - $26m) = 15.0%
FY2018: $195.1m/ ($1,803m - $437m) = 14.3%
FY2019: $163.4m/ ($2,000m - $422m) = 10.4%
FY2020: $162.7m/ ($1,768m - $385m) = 11.8%


Notes:

1/ FY2017 result adjusted to remove profit and $26m revenue of carbon credit sales (p60 AR2017).

As soon as margins rose, they immediately fell back and ended the five year period lower than where they started. There is no evidence here that Mercury has any power to increase margins on a sustainable basis.

CONCLUSION: Fail Test

SNOOPY

[Snoopy]

Everything is 'back on track' after FY2017, with a solid pass in all four tests. A great recovery from the abnormal inflows of FY2105 that upset the five year result pattern. Or is it something to do with the fact that for the first time, all results are in the post listing period, subject to the scrutiny of independent investor gaze? Whatever the reason, we can now proceed to the next level of analysis.

I have to give myself a retrospective 'slap on the wrist' for what I wrote above three years ago. On second thoughts I do not believe my treatment of generator revaluations was satisfactory. I simply took these revaluations off net equity. What I should have done is taken the generation asset revaluations off total assets and apportioned that subtraction to net equity. Anyway, what was done then was done then. And although not definitively wrong, it is not the way I choose to look at things today.

Retrospectively MCY fails the Buffett tests from an FY2017 perspective, but also from a FY2020 view. This is no surprise from what is fundamentally a capital intensive company with a valuable asset base. (Company's with unique IP and a capital light business model tend to do better in the ROE test).

What has changed over the last three years is the pressure on net profit margins. Below average hydrological inflows into the crucial North Island catchment may have something to do with that. But also the government campaigns to get more people to consider switching their power supplier has helped an already competitive power supply market become more competitive. Nevertheless in absolute terms profit margins are still healthy.

To reiterate what I say in most of these Buffett test summaries: Failure to clear all four hurdles does not make MCY a poor investment. And even if an potential investment does pass all four tests, there is still the thorny topic of 'value' to consider. In this instance, I have already looked at MCY from a different 'Capitalised Dividend Yield' perspective (My posts 1326 & 1327.) Notwithstanding even for the business investment prospects that don't pass the Buffett tests (over 90% of them), sometimes the tests throw up comparative insights that are of interest to investors nevertheless. Mercury has slightly better profit margins and a better profit growth record than Contact, for example. And that might explain why the market generally prices Mercury a little higher on a PE basis and with a lesser yield than Contact, despite both companies being broadly comparable. As a business Mercury is a little smaller than Contact. But sometimes just going for market share is not the way to best reward investors. I will close with a quote from recently departed CEO Fraser Whineray (p6 IR2020) to show you what I mean. Here Fraser talks about not pursuing the 'Farm Source' (farming sector) contract ('Farm Source is the Fonterra owned farm supplies chain).

"Dairy farmers have a refrigeration load correlated through spring and summer linked to grass growth (IOW farmers want to pull water out of the Waikato River) , which is when Mercury was seeking to reduce the risk of the portfolio impacts of drought in the Taupo catchment (Mercury wanted to hold back that Waikato river water for future hydro generation). "

There are reasons not to pursue growth at all costs.

SNOOPY

[Snoopy]

If power can be brought to the home in the future at much reduced price, then the value of existing power stations will decrease. But, as tautological as this sounds, the cost of power is not just determined by the cost of producing power. The factors that Mercury look at when valuing their assets can be found in the footnotes of the property plant and equipment pages, specifically p17 of AR2017 (for example), I have tabulated these for the last few years, where available, so that investors can see how these valuation assumptions have changed over time

Financial Year	Average Operational Expenditure	Wholesale Energy Price	Net Average Production Volumes	Post Tax Discount Rate	Net Revaluation Movement
FY2017	$158m /p.a.	$70 to $104 /MWh	6567 GWh/year	7.5% to 7.9%	$52m - $4m = $49m
FY2016	$174m /p.a.	$66 to $102 /MWh	6556 GWh/year	7.4% to 7.9%	$137m - $1m = $136m
FY2015	$168m /p.a.	$63 to $97 /MWh	7131 GWh/year	7.5% to 7.9%	$497m - $76m = $421m
FY2014	$188m /p.a.	$70 to $95 /MWh	7107 GWh/year	Unknown	$40m - $0m = $40m
FY2013	Unknown.	Unknown	Unknown	Unknown	$80m - $5m = $75m

So what does all the above mean?

1/ The first thing to recognize is that the above table is looking at long run average prices and costs. In FY2017, the actual power produced by Mercury was 7533 GWh. That was 14.7% above long term projections. Mercury are not valuing their assets based on 'one good year'.

2/ The post tax discount rate looks surprisingly stable, and in absolute terms quite high. It is a pity we shareholders are not privy to the discount rate used in earlier years. But I feel that modest interest rises from current near term lows may not affect the value of generation assets on the books much, if at all.

3/ The modelled wholesale energy price is expressed as a range. This suggests to me that a range of possible future scenarios have been used for valuation purposes and probabilities applied to the respective scenarios evaluated. The higher priced scenarios have a rising maximum price over time, yet the minimum price scenarios look flat. I am not surprised by this. In times of plenty, the price of power generated should trend towards the 'backbone price' of hydro and geothermal generation. In times of shortage, the on market price is likely to be not only higher but more volatile, particularly as 'surplus' thermal power generation stations have been closing.

4/ After a difficult three years (low Waikato inflow over FY2013, FY2014 and FY2015) , the long term projected electricity to be generated per year has dropped by around 8%. Yet the value of the power generating assets has not dropped (they are modestly up in value) over this time.

5/ Average projected Operational Expenditure has declined by 16% over the four years disclosed. This will have an after tax profit effect (based on a 28% tax rate) of 0,72x the 'Operational Expenditure' on an after tax profit basis (for FY2017 $158m x 0.72 = $114m). Net profit for the year FY2017 was $184m. So cutting projected expenditure looks to be having a large effect on the net profit and hence the underlying value of the generation assets that Mercury owns. I note that the largest increase in 'asset generation value' occurred after projected operational expenditure was cut the largest from $188m p.a. to $168m p.a. (co-incidence or not?)

6/ It is a pity that I can't fill the unknown gaps in my table, as this would provide a much better medium term overview of how the revaluation process works in practice.

Summary

Provided:

1/ the projected operational expenditure cuts are sustainable, AND
2/ interest rates do not rise that much AND
3/ 'maybe' generation increases back towards the average projected up to FY2015

I do not see the slashing in value of generation assets that horus is predicting will come to fruition. I feel comfortable as an MCY shareholder that things will be able to continue 'as normal' for a few years yet. Beyond that I should add that Mercury are quite capable of putting up their own solar panels and compete toe to toe with any new generation start ups (including the horus solar co-operative).

If power can be brought to the home in the future at much reduced price, then the value of existing power stations will decrease. But, as tautological as this sounds, the cost of power is not just determined by the cost of producing power. The factors that Mercury look at when valuing their assets can be found in the footnotes of the property plant and equipment pages, specifically p17 of AR2017 (for example), I have tabulated these for the last few years, where available, so that investors can see how these valuation assumfour yearsptions have changed over time

Financial Year	Forecast Average Operational Expenditure	Forecast Wholesale Energy Price	Forecast Net Average Production Volumes	Post Tax Discount Rate	Resultant Net Revaluation Movement (Thin Air Capital created)
FY2020	$161m /p.a.	$75 to $93 /MWh	6708 GWh/year	6.5% to 6.9%	$296m
FY2019	$158m /p.a.	$75 to $106 /MWh	6703 GWh/year	7.2% to 7.6%	$250m
FY2018	$160m /p.a.	$63 to $105 /MWh	6620 GWh/year	7.5% to 7.9%	$55m
FY2017	$158m /p.a.	$70 to $104 /MWh	6567 GWh/year	7.5% to 7.9%	$52m - $4m = $49m
FY2016	$174m /p.a.	$66 to $102 /MWh	6556 GWh/year	7.4% to 7.9%	$137m - $1m = $136m
FY2015	$168m /p.a.	$63 to $97 /MWh	7131 GWh/year	7.5% to 7.9%	$497m - $76m = $421m
FY2014	$188m /p.a.	$70 to $95 /MWh	7107 GWh/year	Unknown	$40m - $0m = $40m
FY2013	Unknown.	Unknown	Unknown	Unknown	$80m - $5m = $75m

So what does all the above mean?

1/ The first thing to recognize is that the above table is looking at long run average prices and costs. In FY2017, the actual power produced by Mercury was 7533 GWh (AR2017 p2). That was 14.7% above forecast projections. Mercury are not valuing their assets based on 'one good year'.

2/ The post tax discount rate looks surprisingly stable, and in absolute terms quite high. As a rule of thumb I have often associated a suitable discount rate with the yield that investment generates. Consequently, I feel that modest interest rises from current all time lows may not affect the value of generation assets on the books much, if at all.

3/ The modelled wholesale energy price is expressed as a range. This suggests to me that a range of possible future scenarios have been used for valuation purposes and probabilities applied to the respective scenarios evaluated. The higher priced scenarios have a rising maximum price over time, right up until FY2020. At that point the maximum projected price has reverted to below FY2014 levels.
By comparison the minimum price scenarios have held up. This could be a natural result of high fuel cost thermal power stations being less economic to run, so that renewables - with a more easily forecastable low fixed cost- now effectively set the lower bound cost base.
In times of shortage (high wholesale electricity prices), the on market price electricity price is likely to be not only higher but more volatile, particularly as 'surplus' thermal power generation stations have been closing. Is Mercury's lower forecast 'high bound price' an admission that 'hydro-stations as the storage batteries of the power grid' have now replaced gas turbines as the back up power source of the future?

4/ After a difficult three years (low Waikato inflow over FY2013, FY2014 and FY2015) , the long term projected electricity to be generated per year has dropped by around 8%. HY2016 saw a continuation of low catchment inflows followed by a recovery in the second half. Nevertheless hydro-generation of electricity was still below the long term average. FY2017 saw a 96% percentile water flow into the Waikato catchment and this increased again to record levels over FY2018. This was very favourable for Mercury because it co-incided with a shortage in the South Island catchments of competitors, Yet FY2019 ended with a five month period of extremely low (second percentile) water inflows into Mercury's North Island catchment. Drought returned to the catchment over FY2020. Of the seven years from FY2013 to FY2020 inclusive, five were noticeably below the long term average.

Yet despite the lower amount of energy forecast to be generated,, the value of the power generating assets has not dropped. They are up in value by ($955m /($3,435m+$1,189m)=) 21% over this time (EOFY2013 to EOFY2020). (see post 1308 to derive the $955m figure, AR2013 p28 for period generation asset valuations)

5/ Average projected Operational Expenditure has declined by nearly $30m over the seven years disclosed. FY2017 was the first year this lower rate of operational expenditure was bedded in. This will have an after tax profit effect (based on a 28% tax rate) of 0,72x the 'Operational Expenditure' on an after tax profit basis (for FY2017 $158m x 0.72 = $114m). Net profit for the year FY2017 was $184m. So cutting projected expenditure looks to be having a large effect on the net profit and hence the underlying value of the generation assets that Mercury owns. I note that the largest increase in 'asset generation value' (over FY2015) occurred after projected operational expenditure was cut the largest from $188m p.a. to $168m p.a. Co-incidence or not?


Summary

Provided:

1/ the projected operational expenditure cuts are sustainable, (this appears to be having lasted for four years so far) AND
2/ interest rates do not rise that much (no sign of any rise happening) AND
3/ 'maybe' generation increases back towards the average projected up to FY2015 (the new Turitea wind farm should ensure that)

I do not see the slashing in value of generation assets in the future. I feel comfortable as an MCY shareholder that things will be able to continue 'as normal', without disruption from new industry players and trends, for a few years yet.

SNOOPY

[Snoopy]

The following table will be useful in apportioning power station revaluations based on expected future cashflows.

------------------------

Mercury Energy Hydro	Station Generation Capacity	Notes	Mercury Energy Geothermal	Station Generation Capacity	Notes
Aratiatia	78MW	Upgrade by FY2020	Rotokawa	34MW	Refurbished FY2015
Atiamuri	74MW		Ngatimariki	82MW	Completed FY2014
Waipapa	51MW		Kawerau	100MW
Ohakuri	112MW		Mokai (25% owned)	112MW
Whakamaru	124MW	Upgraded 24MW in FY2020	Nga Awa Purua (65% owned)	138MW	Completed FY2010
Arapuni	196MW	Upgraded 12MW in FY2011
Maraetai 1 & 2	352MW
Karapiro	96MW
Total	1059MW		Total	466MW
Effective Capacity Factor	0.514		Effective Capacity Factor	0.940
Total Operationally Adjusted	544MW		Total Operationally Adjusted	438MW

-----------------------------

One might expect the increase in asset values in any particular power station, might be proportional to operational use. We can test this theory by looking at the power station revaluations declared in FY2020. These amounted to $253m for the Hydro stations and $43m for the geothermal stations. That is approximately a ratio of 5:1 in favour of the hydro stations, whereas based on an operationally adjusted capacity, we might expect the ratio to be closer to 1:1. So how to explain this difference?

I would expect any revaluation to be proportional to the difference between the cost of generation and the price the energy is sold at on the wholesale market. I would expect the cost of generation to be lower at the hydro plants, because most of the capital spending was done much earlier (decades earlier). That generation cost difference is unlikely to be the case if both forms of generation were built 'today'. But we are comparing an asset built in the middle of last century with one built 60 years later. The other issue is that I would doubt a high temperature geothermal turbine has a 100 year life (as a dam structure might). Quite apart from the material technology involved, extra bores may need to be drilled to keep the hot geothermal gases flowing (higher running expenses). With geothermal power there is also a small carbon cost that needs to be paid. The whole power plant may even need to be relocated to somewhere else on the geothermal field some decades down the track. That means any such extended profitability benefits may have to be amortised over a shorter time-frame. And that in effect reduces the quantum of any revaluation of geothermal assets.

If we now move back to FY2019 the respective gains from hydro assets were $151m and $99m for geothermal assets. That is a ratio of 3:2, which does not tie in with the 5:1 revaluation relativity balance from a year later. The main difference I can see in the input data for the forecast future scenarios (post 1346) is the post tax discount factor dropping by about three quarters of a percentage point. Could this be a defining point of difference?

A smaller discount factor increases the present day value of any future financial benefit. That is why a drop in discount rate can increase asset values where the value of those assets depend on future cashflows. Suppose we compare 'example 1', a hydro dam being depreciated over one hundred years, verses 'example 2' a geothermal station that is depreciated over twenty years. A three quarter basis point change in a discount factor, from 7.2% to 6.5%, may not sound much. But IF such a discount factor is applied over 100 years of future benefits.....

Example 1

$151m / (1.065)^100 = $151m /543 = $0.278m

$151m / (1.072)^100 = $151m/1046 = $0.144m

.....THEN comparing both the:

a/ higher and
b/ lower

interest rate case of the respective 'discounted present day value of the revaluation of those '100 year life hydro assets', this means the present day value of those benefits nearly doubles ( 0.278/0.144 = +93%). Furthermore if the present day value of those benefits increases by 93%, that means the underlying value of the asset also increases by 93%. This is how valuation of assets based on projected discounted cashflow income works.

By contrast, look at what happens with the same discount rate change over 20 years

Example 2

$99m / (1.065)^20 = $99m /3.52 = $28.1m

$99m / (1.072)^20 = $99m /4.02 = $24.6m

In this case, the increase in present day benefits of a more modest ( 28.1/24.6= ) +14%.

Could this be the explanation for the rather startling difference in the relative hydro verses geothermal power station valuation changes between FY2019 and FY2020 (Refer my post 1308)?

SNOOPY

[Waltzing]

Thank you Mr S. Very interesting reading as im on those lakes and rivers often. Production figures and comments on valuation are interesting to read. NZ being very volcanic one wonders if there is yet more un tapped geo thermal potential ? Engineering for power generation is im sure a specialist area of investment but recent carbon emissions target might mean these assets are ones we are under invested in.

[Snoopy]

The main difference I can see in the input data for the forecast future scenarios (post 1346) is the post tax discount factor dropping by about three quarters of a percentage point. Could this be a defining point of difference?

A larger discount factor reduces the present value of any future benefit. Suppose the geothermal station is depreciated over twenty years, verses one hundred years for a hydro dam. A three quarter point change in a discount factor may not sound much. But when such a factor is is applied to 100 years of future benefits, then the respective revaluation of those 100 year life hydro assets doubles (+100%). By contrast the same discount rate change over 20 years means an increase in present day benefits of a more modest 14%.

Could this be the explanation for the rather startling difference in the relative hydro verses geothermal power station valuation changes between FY2019 and FY2020 (Refer my post 1308)?

At this point anyone still following this thread (maybe only the waltzingman?) may be wondering what sort of techno-mumbo-jumbo hole I have fallen into. Especially as I have have already published my valuation of MCY which I am quite happy with. My end goal is actually an updated valuation on Contact Energy. To complete that I need to work out the thin air capital on the books at Contact, which is something that Contact management do not do. However, in order to do this I have to do the parallel exercise at Mercury. That way I can use the same methodology to value both shares, which is my goal. The interim step is to find the thin air capital attached to Mercury's hydro stations only. So let's carry on with that.

There are two gaps in the Mercury record where the division between revaluation gains of hydro stations and geothermal stations is not broken down: FY2015 and FY2016. If you look at the underlying valuation assumptions for those years (my post 1346).

FY2016 shows only a small adjustment to the discount factor from FY2015, with a higher forecast power price offsetting lower production volumes. I am tempted to call those circumstances similar to what happened in FY2019. So I am going to split the power station generation asset revaluation of $137m to same way 3:2: or $82m (hydro) $55m (geothermal) for FY2015.

Unfortunately we can't do the same prior year comparison for FY2015, as Mercury did not publish the modelling inputs for FY2014. According to my notes of the time indicative interest rates dropped about 0.3 percentage point over the year verses no drop in the subsequent year. If I rerun that kind of interest rate drop on my FY2020 sample year

$151m / (1.065)^100 = $151m /543 = $0,278m (0.7% interest rate drop)

$151m / (1.069)^100 = $151m /790 = $0,191m (0.3% interest rate drop)

$151m / (1.072)^100 = $151m/1046 = $0.144m (base case)

then we are looking at a 0.191/0.144= a 35% revaluation of hydro assets. Compare that with what happens to the geothermal assets with a similar interest rate drop.

$99m / (1.065)^20 = $99m /3.52 = $28.1m (0.7% interest rate drop)

$99m / (1.069)^20 = $99m /3.80 = $26.1m (0.3% interest rate drop)

$99m / (1.072)^20 = $99m /4.02 = $24.6m (base case)

This shows geothermal assets revaluing by 10% and hydro assets revaluing by 50%. Given roughly equal installed operational generational capacity, I am going to split the $497m increase in station value by 2.5:1 (or half the 5:1 from FY2020). That gives the increase an hydro station value of $355m and an increase in geothermal station value of $142m for FY2015.

SNOOPY

[Waltzing]

Perhaps the lack of interest in the thread is simply that hydro and geo thermal are considered a GIVEN. I cant comment on these valuations as they are perhaps the most complex of any business operation in New Zealand. Emissions targets for NZ are the elephant in the room as i believe the average NZ council and business simply arnt ready for the change coming over the horizon at speed.

The planning for NZ towns and communities that started in some european countries 5 decades ago is only just starting here.

Anyone who has lived in the bike friendly towns and cities in some parts of europe will understand that street planning is critical. NZ towns were run by farmers in the 50's and they dont ride bikes. Today many towns are going to face a problem and many have even recently failed to create the environment for lower targets, Greta even took a swipe at this place this week.

You can see it in town planning and street development. NZ has a problem in that its dispersion means the EV is the only solution which means a complete fleet replacement.

Power generation is there fore undervalued or rather WAS until recently.

Local power generation through solar and wind for the individual business and property could be the only solution for NZ.

Recent case in the UK listed air pollution contributing to a death by respiratory failure. It going to become a big big drum being banged and its only just starting..

Back to normal ? I dont think that is going to work.

Local site solutions to power are the only options going forward?

Estimated valuation models for power are a big job and anyone attempting this makes for interesting reading. Perhaps there is some work being done on this by economists somewhere?

This from the UK this week.

"A UK government spokesperson said: "Our thoughts remain with Ella's family and friends."The spokesperson said the government was delivering a £3.8 billion plan to clean up transport, tackle NO2 (nitrogen dioxide) pollution and go further in protecting communities from air pollution, as well as setting "ambitious new air quality targets."