AGL Energy has a mountain to climb, and it is only at base camp. The company’s $20bn decarbonisation plan to build 12GW of fossil fuel replacement capacity will only be half funded by itself. The interim result showed the benefits of higher wholesale electricity prices, but the regulatory landscape is a mess and government intervention will make things worse, not better.
1H23 net profit of $87m was well under consensus of $159m. Multiple stumbles in the generation portfolio although the gas portfolio did well. The 8cps interim dividend was half last year’s amount, although optimists will hang on the payout policy of 75% of underlying earnings that should spit out a full year dividend total of 27cps based on the mid-point of new guidance ($200-280m). Incidentally, AGL explained that the forced outages in July and market volatility had cost the company $135m of net profit – not immaterial.
FY23 guidance was trimmed at the top end for underlying EBITDA ($1,250m-1,375m) and underlying net profit ($200-280m) but AGL remains confident of an improved 2H23f. That confidence extends into FY24-25f given the persistent high levels of wholesale electricity prices. These higher prices will be passed through to its 4.3m customers. AGL probably has its fingers crossed that the ageing thermal fleet can stay on its feet during that time.
A further often overlooked factor is AGL’s remediation bill. AGL noted it had increased its rehabilitation provisions bill by $400m in the period. . In FY22, this amounted to ~$2 billion for the coal assets based on Loy Yang closing in 2045, not 2035. This factor cannot be ignored even as AGL sprints towards its shiny new fleet.
Credit where it is due, AGL did provide a measured criticism of the Government’s intervention into the national energy market. While AGL supports some of the measures such as the customer bills rebates (naturally), the company is “concerned the temporary domestic commodity price caps and Mandatory Code of Conduct for gas producers has increased regulatory instability and uncertainty, impacting business and investment confidence, particularly for gas and coal producers.”
Investment View
The born-again AGL, with its ESG focused Board and transition ambitions to reach the promised land of decarbonised power generation (net zero by 2035 Scope 1 and 2 emissions after all coal-fired power stations closed) is duping its shareholders.
The company has revealed it intends to own and control 5-7GW of its total target 12GW of new generation. Empirically, this suggests AGL will fund approximately half (at the mid-point) of the (up to) $20bn funding needed to turn the dream into a reality (or nightmare?).
This raises two questions. The first concerns AGL’s own balance sheet capacity to fund the roughly $10bn share to build 5-7GW of the assets over the next 12 years. AGL’s current liquidity of about $485m (on top of $1.5bn of drawn debt) suggests a huge amount of capital-raising (debt and equity) is required. A corollary to this point is whether the new assets can offset the lost earnings from the terminated coal-fired fleet.
Secondly, the funding required for the rest of the projects presumably comes at least partly from AGL. It is anyone’s guess at this point as to what proportion it will carry and hence what funding AGL will need to stump up.
A further corollary to all this capital raising will be what happens to AGL’s share count? Determining the future earnings of AGL will be hard enough for investors but working out how many shares will be on issue (at any point in time) will render any sensible valuations quite useless.
Investors might also ask if the $20bn price tag is accurate? The timeline is long enough for many important factors to shift, not least is the much increased regulatory and legislative uncertainty now being baked into the process.
Risks to Investment View
Changes in the wholesale electricity and gas prices present operational earnings risks. Government energy policy at State and Federal level presents a large risk as the pathway and timing to net zero creates challenges for the sustainability of Australia’s power grid.
Recommendation
We have retained our Sell recommendation.
Figure 1: AGL plans to own and control 5-7GW of the planned new capacity
