New long-term agreements benefit shareholders

Improved revenue, reduced expenses

SPN has announced a number of new operational arrangements with the Singapore Power Group. The arrangements are expected to strengthen SPN’s operational model, enhance its focus on niche asset services and provide immediate benefits to security holders through reduced management-performance fees.

Revenue enhancements for non-regulated services. SPN will provide end-to-end network metering services, technical services and vegetation management services to electricity and gas networks owned and managed by Jemena (formerly a part of the Alinta Group and now a member of the SP Group). SPN will also deliver contestable metering services to Jemena’s existing customers. These services are expected to contribute annual revenue of A$75m-85m to SPN. To ensure continued capital investment and deliver network growth, Jemena has been appointed an SPN preferred supplier, for the delivery of A$35m-40m of annual capex to SPN, or an estimated 10% of its annual capex. Each arrangement is for an initial 5-year term and
is on arms-length terms.

Expanded scope of work for SPN. Agreement has also been reached with a whollyowned subsidiary of SPI Management Services (SPIMS), SPN’s management company, for it to be the exclusive provider of IT services to SPN and Jemena. These services include applications management, and infrastructure and service delivery, at agreed allocations of costs with no profit margin accruing to SPIMS’ subsidiary. The agreement is for an initial term of seven years. SPN will retain its core asset-owner functions of IT strategy and policy, information security and real-time systems. The shared IT services will provide SPN with best-practice IT solutions and access to a wider pool of skilled IT resources.

Reduced expenses. With an expanded scope of work and opportunity for Jemena to participate in synergies, SPIMS has agreed to reduce performance fees payable under the Management Services Agreement. The reductions, effective 1 Oct 08 and for the duration of the IT service agreement, involve the waiver of base incentive fees, being 0.1% of market capitalisation, and the reduction of the performance-fee cap from 0.75% to 0.50% of market capitalisation. The fee reductions will be an immediate benefit for SPN security holders.

Valuation and recommendation

Positive impact on forecasts. As a result of the arrangements and expense reductions, we have raised our net profit forecasts by 9-20% for FY09-11. Our revenue forecasts have also been raised by 2.7-6.0% to account for increased revenue in the non-regulated services segment. While there are reduced expenses from management-fee reductions, we expect other expenses to rise, from providing a greater scope of services to Jemena. As such, EBITDA margins are forecast to remain at 61-62% in FY09-10.

Maintain Outperform; higher target price. We continue to like SPN’s excellent earnings visibility and predictability as well as attractive yields per stapled security. With our forecast upgrade, our DCF target price (WACC 10%, terminal growth 3%) rises to A$1.44 or S$1.71, from A$1.34 or S$1.59, supported by distribution yields of over 11%.

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