Contact planned for bad weather year

Friday 1st February 2002

Energy utilities are supposed to have steady, reliable incomes from a semi-captive customer base.

Last winter's energy shortage put paid to that notion as skyrocketing wholesale prices almost ruined companies that lacked internal generation assets while enriching those with surplus capacity.

Contact Energy is in the latter camp and the results show in its annual report.

A statistics page near the front shows revenue jumped to $1.1 billion from $868 million, a rise of 27%, and net profit rose from $97 million to $131 million, up 35%.

As a result, its return on assets rose by two-thirds to 10.5%, although this is partly a reflection of its asset base shrinking by $100 million to $2.6 billion.

Chairman Phil Pryke and chief executive Stephen Barrett in their joint review put the company's good fortunes down to excellent weather forecasting abilities.

"In autumn 2001, Contact recognised that inflows into the southern hydro lakes had been low for several months, storage levels were starting to reduce and demand was running at historically high levels. Accordingly we moved to ensure that our other facilities were readied for a demanding winter."

Their guess was correct and, by putting off maintenance work and the mothballing of a plant, Contact was able to maximise generation output when prices were high.

This can be seen in detailed revenue figures that show income from wholesale electricity sales leaped from $270 million in 2000 to $716 million, up 165%.

It is always nice when a company explains why its numbers are different from last year, rather than putting it down simply to good management or letting investors work it out for themselves.

Contact does this well, given reasons for differences both on the revenue side (more income from electricity and gas sales plus an enlarged customer base) and spending (up 21%, mainly because of higher purchase and transmission costs related to business growth and recently purchased customers).

One revenue stream of note among a long list is the $6.9 million it earned from selling steam. Many companies and individuals produce hot air but few make money from it.

One item that warranted further explanation was Contact's borrowing costs.

The report says: "Contact's average cost of funds for net debt in the financial year to September 30, 2001, was 7.62% compared with 7.19% in the previous period. While Contact manages its interest rate exposure through hedging, it retains some exposure to interest rate changes. In addition, in the first half of this financial year, the company refinanced some of its debt at higher margins than had applied previously."

The first half of Contact's financial year runs from October 1 to March 31. In late 2000 and early 2001 there were no changes to official interest rates so it is not immediately obvious why Contact's lenders should charge it more for new debt.

Notes to the accounts suggest the rise is related to refinancing short-term debt at a more casual rate, possibly even an overdraft, as interest costs range from 5.63% to 11.42%.

A maturity profile of its debts indicates the company raised $100 million in short-term borrowings to replace that amount which was due for repayment last year.

Despite this, the company managed to repay the other $153 million in debt that was due, reducing its net debt level to $790 million from $943 million.

Generally, this report is marked by a willingness to say what the company wants and why. For example: "Contact has reviewed its Australian strategy during the year. The company has concluded that Australia remains a focus for potential growth given the relative constraint on growth in New Zealand."

This growth strategy is linked to, and possibly even driven by, a dividend policy that states: "In the future, we intend to continue to deliver dividends which show growth over time, subject to the conditions in any particular year. To maintain growth over the longer term, investment in new business and assets will be required."

Confidence is high that Contact will deliver that growth, judging by parent company Edison Mission's desire to buy the rest of the company and the notable lack of enthusiasm by minority shareholders to accept the bid.

David McEwen is an investment adviser and author of weekly share market newsletter McEwen's Investment Report. Internet: www.mcewen.co.nz Email: davidm@mcewen.co.nz

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