Dealing with Caps?
Energy infrastructure large cap, APA Group (ASX:APA) has seen its shares trend lower following the capping of gas prices among other headwinds. Today, we take a look at the latest developments in the space as well as cover the latest earnings results.
What’s new?
The biggest development of concern to the gas sector is the price cap which, as of the latest count limits rates to a maximum of $12 per gigajoule. Yesterday, the government began the last round of consultation to finalise the code for gas suppliers which is expected to be implement after the end of the financial year.
First off, a brief recap on the price cap, this was first enforced following the surge in gas and energy prices when Russia invaded Ukraine last year. The price caps were a measure to manage inflationary pressures, though there were complaints that the cap might be too high.
In any case, the current proposal on the cap has Labor wanting to extend the end date from the end of 2023 to as late as 01 July 2025 though there would be some measures for “exemptions” such as “small producers” would be exempted from the cap “if they supply only the domestic market”. At this point, it is still unclear what are the definitions as well as other potential exemptions.
Despite the potential for an extension, government intervention has shown signs of being weakened – a positive for the sector – while there are calls for input from the gas industry. One key argument which should be favourable for gas players is the fact that price ceilings won’t alleviate supply issues especially when coal power would see outages or when renewable energy is unavailable.
At this point, however, it’s too early to tell how the ‘new gas code’ would shape up and that the results could be anywhere between a hard price cap for most players (this means large cap like APA) to a complete lifting of price regulation – in other words, a complete toss-up. Though, large gas players like APA have until 08 May to submit the “supply and price commitments” they’d be willing to provide under the proposed exemptions. We’ll continue to monitor developments here and will provide Members more updates as they come along.
1H Results Review
Starting from the top, 1H23 revenues for APA moved up 10.2% to $1.232 billion with steady revenue growth in the Energy Infrastructure (+5.7%) and Asset Management (+5.8%) segments.
The Energy Infrastructure segment had solid growth in most operations with only the East Coast Gas business being the laggard and only reporting 2.4% revenue growth – likely reflecting the impact of the cap on gas prices. The other laggard was Energy Investments which saw a 29.2% year-on-year dip in revenues to $11.46 million due to lacklustre performance in the SEAGas Investment. To be fair, the Energy Investments segment accounts for the smallest chunk of the business as this is still a fledgling division.
In terms of profitability, however, APA wasn’t as impacted by cost pressures as revenues are “inflation-linked for the most part” (think the legacy gas business). Underlying EBITDA only inched up 2.5% year-on-year to $878.9 million was that the Asset Management and Energy Investment businesses saw Underlying EBITDA decline 19.9% and 29.2% to $32.93 million and $11.46 million, respectively. The dip in EBITDA growth reflected the change in margins as well as lower profitability in SEAGas.
Source: APA 1H23 Presentation
The more important metric, however, is the fact that Underlying EBITDA margins have remained fairly robust at 75% – though this was lower than last year’s 77% and reflects the higher corporate costs which have ramped up (+29.6% yoy) due to investment in other non-operational teams as well as other business improvements (cyber security, sustainability units, etc.).
Overall, Net Profit After Tax surged by 23.8% to $484.3 million, benefiting from an acceleration in inflation as almost all of its revenue is linked to movements in consumer prices.
Going forward, management has reaffirmed guidance that distributions for FY23 will remain at 55c per share, an increase of 3.8% year-on-year – and that includes the latest 26c interim distribution announced for the 1H23 period. As of this writing, this gives an indicative yield of 5.2% per annum.
Turning to the charts, APA (ASX:APA) shares continue to trend lower since peaking in July last year and, more recently, has also shown to be in a downward channel since hitting the resistance level of ~11.40 in November 2022. The 50-day (red) and 200-day (green) moving averages also confirm the downtrend. At this point, APA may struggle to breakout of this channel and a resistance level of 10.80 has to be reclaimed before a trend reversal can be confirmed.
APA (ASX:APA) has strong business fundamentals, and management has a clear strategic pipeline and growth vision. We are comfortable to believe APA will continue to execute its capability and deliver value for its investors.
We are also pleased to see that management’s “net-zero emissions” target by 2050 is well on track. It may increase its operational costs, but we think this will be offset by the top-line revenues benefiting from the general favourable inflationary condition in the coming years.
We maintain our HOLD rating on APA Group (ASX:APA) for Members without exposure. It will remain firmly held in the Fat Prophets portfolio.
Disclosure: Interests associated with Fat Prophets hold shares in APA Group (ASX:APA).
