KAPCO – PPA renewal essential

Kot Addu Power Company Limited (PSX: KAPCO) announced its financial performance for FY20 recently, and the independent power producer’s earnings soared by 80 percent year-on-year. This, however, might be the only good news for the company as no one likes the IPPs right now.

Growth in KAPCO’s bottomline did not start form the top as the revenues of the company slipped by 16 percent year-on-year in FY20. The primary reason for the decline in topline was lower dispatches of electricity in FY20. The electricity sold or dispatched to the company’s only customer – WAPDA was down by 29 percent year-on-year in FY20; and by over 55 percent in 4QFY20 alone. This did however help lift the gross margins.

The IPP’s operating profits and net profits were then supported by other income that surged by 51 percent year-on-year on account of a rise in overdue receivables; and subdued finance cost, respectively. Both the gross and net margins almost doubled in FY20 versus FY19.

However, that is all for the investors who might have little interest left in the IPP for various reasons including the fact that the company did not announce any interim dividend for the 4QFY20 Also, since IPPs have come under scrutiny, it looks like the good days for them are far behind. KAPCO’s power Purchase Agreement with WAPDA is nearing expiration (2021), which means that with how the IPPs have performed in the recent report on the sector as well as their significance on the merit order leaves little juice in the sector. Despite the sizable growth in KAPCO’s earnings, headwinds for IPPs have increased manifolds recently, which also include lower electricity sales amid furnace oil curtailment, and rising receivables.

But KAPCO has a few things that could turn the tide in its favor which would favor the PPA renewal. First KAPCO is a multi-fuel fired power plant, which is better thana single fuel power plant, and the company has shown this by using LNG as a fuel. And second, some experts believe that the IPP still has a useful life of 5-10 years beyond the PPA expiration.