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<br>Return of the Smelter</h2>
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<p>Rio&nbsp;Tinto's&nbsp;(RIO) decision to extend the life of NZAS to at least&nbsp;31 December 2024 is a significant positive for the sector and all of our medium-term earnings,&nbsp;dividend forecasts and target prices have increased. With Meridian Energy (MEL) providing the bulk of the discounted power, it has the least upside. Genesis Energy (GNE) is the greatest beneficiary, with the largest earnings, dividend&nbsp;and target price (up +15% to NZ$3.90)&nbsp;increases. It is also our preferred electricity sector stock, being the only one with an OUTPERFORM rating as we are&nbsp;downgrading our&nbsp;Contact Energy (CEN) rating to NEUTRAL following its recent strong share price performance.</p>
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<h3>Forecasts, dividends and target prices increase, one rating downgrade</h3>
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<p>All of our medium-term earnings forecast increase as we roll back NZAS closure implications from our forecasts. In the medium-term, the biggest winner is GNE. All of our dividend forecasts are also increasing, with GNE, Mercury (MCY) and&nbsp;Trustpower&nbsp;(TPW) back to pre-July 2020 trajectories.&nbsp;CEN's&nbsp;FY21 dividend forecast of 36cps reflects&nbsp;lower short-term earnings due to the electricity price discount it is providing NZAS.&nbsp; Similarly,&nbsp;MEL's&nbsp;FY21 ordinary dividend forecast of 17.0cps is flat on FY20 and we no long assume a special dividend. It is worth noting that&nbsp;RIO's&nbsp;decision means there is more certainty around electricity sector dividend forecasts than there has been for ~15 months. GNE has the greatest target price increase (+15%). MEL (+3%) and CEN (+6%) have the smallest increases due to the electricity price discount. We are downgrading&nbsp;CEN's&nbsp;rating to NEUTRAL due to its share price surging +NZ$1.55 (+19%) over the past month.</p>
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<h3>Factors driving the forecast changes</h3>
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<p>The main factors driving our forecast changes are:</p>
<ul>
<li>MEL and CEN discounted electricity offer, which impacts FY21 to FY24 earnings (negative)</li>
<li>Generation changes;&nbsp;South Island generation no longer constrained and&nbsp;thermal generation continues at the current level</li>
<li>Retail price increases instead of retail price decreases - current wholesale electricity prices (both spot and futures) remain elevated</li>
<li>Generation development to commence - CEN will build its 150MW geothermal project and MEL its ~170MW wind project</li>
</ul>
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<h3>What may happen after 2024</h3>
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<p>The electricity deal ends on 31 December 2024 (refer to our note Four More Years for the details). However, we expect Rio Tinto (RIO) will try to extend the deal beyond 2024, no doubt on current terms. One of MEL's (and CEN's) key tasks is to find additional, preferably lower South Island electricity demand. This will improve MEL's negotiating position and minimise the downside effects if NZAS does close. It is difficult to make a call now on what will happen after 2024, and as usual with NZAS, there are several different scenarios. We believe there is a good chance NZAS will remain open beyond 2024, with environmentally friendly aluminium becoming increasingly important (and this is our base assumption).</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><strong>Scott Anderson</strong></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>
</div>
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Electricity Sector Return of the Smelter


Rio&nbsp;Tinto's&nbsp;(RIO) decision to extend the life of NZAS to at least&nbsp;31 December 2024 is a significant positive for the sector and all of our medium-term earnings,&nbsp;dividend forecasts and target prices have increased. With Meridian Energy (MEL) providing the bulk of the discounted power, it has the least upside. Genesis Energy (GNE) is the greatest beneficiary, with the largest earnings, dividend&nbsp;and target price (up +15% to NZ$3.90)&nbsp;increases. It is also our preferred electricity sector stock, being the only one with an OUTPERFORM rating as we are&nbsp;downgrading our&nbsp;Contact Energy (CEN) rating to NEUTRAL following its recent strong share price performance.


Forecasts, dividends and target prices increase, one rating downgrade


All of our medium-term earnings forecast increase as we roll back NZAS closure implications from our forecasts. In the medium-term, the biggest winner is GNE. All of our dividend forecasts are also increasing, with GNE, Mercury (MCY) and&nbsp;Trustpower&nbsp;(TPW) back to pre-July 2020 trajectories.&nbsp;CEN's&nbsp;FY21 dividend forecast of 36cps reflects&nbsp;lower short-term earnings due to the electricity price discount it is providing NZAS.&nbsp; Similarly,&nbsp;MEL's&nbsp;FY21 ordinary dividend forecast of 17.0cps is flat on FY20 and we no long assume a special dividend. It is worth noting that&nbsp;RIO's&nbsp;decision means there is more certainty around electricity sector dividend forecasts than there has been for ~15 months. GNE has the greatest target price increase (+15%). MEL (+3%) and CEN (+6%) have the smallest increases due to the electricity price discount. We are downgrading&nbsp;CEN's&nbsp;rating to NEUTRAL due to its share price surging +NZ$1.55 (+19%) over the past month.


Factors driving the forecast changes


The main factors driving our forecast changes are:

MEL and CEN discounted electricity offer, which impacts FY21 to FY24 earnings (negative)
Generation changes;&nbsp;South Island generation no longer constrained and&nbsp;thermal generation continues at the current level
Retail price increases instead of retail price decreases - current wholesale electricity prices (both spot and futures) remain elevated
Generation development to commence - CEN will build its 150MW geothermal project and MEL its ~170MW wind project



What may happen after 2024


The electricity deal ends on 31 December 2024 (refer to our note Four More Years for the details). However, we expect Rio Tinto (RIO) will try to extend the deal beyond 2024, no doubt on current terms. One of MEL's (and CEN's) key tasks is to find additional, preferably lower South Island electricity demand. This will improve MEL's negotiating position and minimise the downside effects if NZAS does close. It is difficult to make a call now on what will happen after 2024, and as usual with NZAS, there are several different scenarios. We believe there is a good chance NZAS will remain open beyond 2024, with environmentally friendly aluminium becoming increasingly important (and this is our base assumption).



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: Return of the Smelter