Cemig Is Worth Considering At These Levels
Summary The financial results for Q3 2015 are out, and it looks like Cemig will end the year with net income and EBITDA in line with 2014. The ttm EPS is $0.68 USD, which implies a ttm P/E ratio of 2.88 at the closing price of $1.96. The stock has been punished by investors, the main causes of concern being the continued depreciation of the brazilian real and the likelyhood of losing the concessions for 3 plants. Companhia Energética de Minas Gerais (NYSE: CIG ), also known as Cemig, is a state-controlled Brazilian power company, headquartered in Belo Horizonte, the capital state of Minas Gerais. The company operates in all three segments of the electricity market (generation, transmission and distribution), but it also has stakes in other businesses, like telecom and natural gas distribution. Year to date, Cemig’s ADRs have lost a bit over 60% in value. Some of this was of course warranted by the depreciation of the real. Aided by a strong US dollar, we’ve seen the BRL/USD pair drop 30% so far this year. CIG data by YCharts Concessions During this summer, the Superior Court of Justice in Brazil has ruled against Cemig on its hydroelectric power plants Jaguara and São Simão, whose concession contracts expired in 2013 and this year respectively. Cemig has appealed the decision at the Federal Supreme Court, which means Cemig will still be operating them until the dispute is settled. The Federal Supreme Court has recently suggested that Cemig and the Ministry of Mines and Energy come to an agreement and not try to drag this out in court: “In view of the complexity and importance of the debate raised by this case, and the need to encourage voluntary settlement within the Judiciary: Parties to state whether they have interest in holding of a conciliation hearing.” Because these assets are still under dispute, they won’t be available for bidding at the auction scheduled for November 25. However, Cemig has stated its interest to participate in this auction, where they could bid for concessions for new power plants: there will be a total of 29 operating concessions auctioned, with a total capacity surpassing 6000MW. Miranda, another power plant that has investors worried has an operation concession to Cemig which expires at the end of 2016. At the end of Q3, Cemig had an operating generating capacity of 7,759MW, and another 2,457MW under construction. This puts the worst case scenario of losing all three concessions at a 32% loss in current operating capacity, or a 24% loss of total capacity, if we include capacity under construction. Financial results In any case, it looks like Cemig will keep operating these plants until the dispute is settled, so let’s look at their current financial metrics. Note that Cemig reports earnings in Brazilian reals, which is the currency in these graphs. (click to enlarge) Although net revenue has been steady in recent years, EBITDA and net income have not, so I’ve included a moving average for the trailing four quarters, to make the results smoother. (click to enlarge) (click to enlarge) A quick glance at these graphs suggests that Cemig will probably end 2015 with about as much in earnings as it did in 2014. Actually, the net income for the first 9 months of 2015 is 2,134 mil $R, which is 5.6% higher than the 2,019 mil $R in the first 9 months of 2014. The ttm EPS is R$2.58, which, at the current exchange rate, is $0.68 USD. This implies a ttm P/E ratio of 2.88 at the closing price of $1.96. Dividend In May of this year, the company has published a notice to shareholders regarding its dividend policy: the payment of dividends specified in the by-laws, of 50% of the Net profit for the business year, would not be compatible with the present financial situation of the Company, due mainly to the low level of water in the electricity reservoirs, which could lead to a significant reduction in the energy available for sale by the Company’s hydroelectric plants in 2015, affecting the Company’s revenues and cash position. You’ll notice management mentions the current drought as one of the culprits for its financial insecurity. I have dismissed this initially, but it turns out Brazil is facing the worst drought in the last 80 years . As the drought reduces hydropower availability, distributors must supply electricity purchased at much higher rates on the spot market or generated by more expensive power plants. This is significant, as more than half of Cemig’s operational costs during the last quarter was the cost of electricity purchased for resale. I believe Cemig’s bottom line could benefit immensely from a change in Brazil’s weather. If management decides to hold on to the policy of paying only 25% of earnings as dividends, and the exchange rate remains steady, we might see another $0.15 dividend being declared next year, a 7.6% yield at current prices. I consider this a good value, even after factoring in a worst-case scenario of a complete loss of all three power plants discussed above, which is why I’ve recently added to my position in Cemig.