Korea Electric Power Corp (KEP) 2008 Q3 法說會逐字稿

Good morning and good evening. First of all, thank you all for joining this conference call. Now, we will begin the conference of the fiscal year 2008 third quarter earnings results by KEPCO. This conference will start with a presentation followed by a divisional Q&A session. (Operator Instructions). Now, we shall commence the presentation on the fiscal year 2008 third quarter earnings results by KEPCO.

Hello, everyone. This is Cecilia Oh, manager in charge of investor relations at KEPCO. On behalf of KEPCO, I would like to thank you for participating in our conference call today to announce our preliminary earnings results for the third quarter of the fiscal year 2008.

Before beginning the announcement, please note that financial data to be disclosed today are preliminary, unaudited and unconsolidated estimates prepared by simply adding the earnings estimates of KEPCO and its six generation subsidiaries, or GenCos, after adjusting for major intercompany transactions among KEPCO and the GenCos. Such financial information have now been prepared in accordance with the generally-accepted accounting principles of any country and are not indicative of the consolidated results of operations of KEPCO and its GenCos. Accordingly, these estimates should not be relied upon or form a basis of any investment decision with respect to the securities of KEPCO, including entering into any contracts for the purpose of trading any securities of KEPCO.

Now, let me briefly run through the estimated financial results and then we'll open up a Q&A session. Any periodic comparison is cumulative year-year basis between 2008 and 2007 for the first nine months.

The operating revenues went up by 6.5% to KRW23.2 trillion in third quarter '08 from KRW21.8 trillion in third quarter '07. This was mainly because the revenues from the sale of electric power increased by 6.8% to KRW23 trillion in third quarter '08. In terms of power sales volume, the overall growth was 6%, which was mainly due to a 3.9% increase in sales volume to the residential sector, 6.2% increase to the commercial sector and 6.7% increase to the industrial sector.

The average unit sales price of electricity rose by 1.1% to KRW79.4 per kilowatt hour from KRW78.5 per kilowatt hour. Residential sector price grew by 2.8% to KRW98.4. Commercial sector fell by 2.7% to KRW95.8. Industrial sector was up by 3.1% to KRW66.8, each -- in each case, per kilowatt hour.

The major reasons of such changes were the increase in demand for power, due to the increased use of heating usage power in winter due to an average temperature decrease and oil price increases. Also, the tariff increase effective as of January 1, 2008, which resulted in a 1% increase in industrial sector tariff, a 3.2% decrease in commercial sector tariff, 17.5% increase in night power usage tariff, which accounted for 25% of residential sales.

Operating expenses increased by 27.5% to KRW23.5 trillion in '08 from KRW18.4 trillion of last year. Looking at the main reasons of such increase, the fuel cost increased by 43.6%, accounting for 47% of the total operating cost in '08. Looking closely at the fuel cost by fuel type, fuel costs for LNG and coal increased by 47.6% and 76.9% respectively. On the other hand, fuel cost for oil decreased by 12.6%, mainly because 2,370 megawatts of coal power plants were newly constructed and the amount of coal consumption decreased by 47.8% due to the rise globally of oil prices.

In terms of unit fuel cost, unit costs for coal increased by 52% and LNG, oil increased by 48.5% and 67.4% respectively. Cost of power purchased from IPPs increased by 63.9% to KRW3 trillion in third quarter '08 from KRW1.8 trillion in third quarter '07. This is mainly due to a 23.8% increase in the volume of power purchased and a 32.4% increase in unit purchase price. Such IPPs include independent power producers participating in the pool market as well as IPPs that have power purchase agreements with KEPCO.

Maintenance costs increased by 3.9% to KRW1.5 trillion in third quarter '08. Parent KEPCO's maintenance cost, accounting for 40% of the total maintenance cost, decreased by 3.2%, mainly as a result of cost-saving measures in response to rising fuel prices. On the other hand, the maintenance costs for its six GenCos increased by 9.3% due to the fact that 11.3% decrease in KHNP's maintenance cost, which mainly resulted from a decrease in planned overhaul period of nuclear facilities, was offset by an increase in power plant maintenance costs for most other GenCos.

Depreciation cost, accounting for 16% of the total operating cost in third quarter '08, decreased by 2.7% to KRW3.8 trillion in third quarter '08 from KRW3.7 trillion in '07. This is primarily because depreciation cost of four GenCos increased due to the recent construction of coal power plants, which were partially offset by a decrease in depreciation costs of the other two GenCos, namely KHNP and (inaudible), which resulted from the accelerated depreciation method for machinery. As a result, net operating income decreased substantially, showing a KRW305b loss in third quarter '08 as compared to KRW3.4 trillion profit in third quarter '07.

Non-operating income increased by [103%] to KRW1.7 trillion from KRW132b. This was mainly due to a 23.4% increase in investment income from affiliates to KRW211b in '08 from KRW171b in '07, as well as a 136% increase in other non-operating income, mainly consisting of valuation gain on financial derivatives, which was due to the appreciation of won in third quarter '08. Foreign currency valuation gain was down by 24.8% to KRW38b from KRW50b.

Non-operating expenses increased by 191% to KRW2.4 trillion in third quarter '08 from KRW835b, mainly due to a substantial increase in foreign currency valuation loss from KRW45b to KRW1.4 trillion and 29.6% increase in interest expenses to KRW722b. The significant increase in foreign currency valuation loss was mainly due to a 26.6% of won appreciation against the US dollar in third quarter '08 as compared to 1% of won appreciation against the US dollar in '07.

Total interest-bearing debt amounted to KRW23.9 trillion at the end of third quarter '08, which was a 19.6% increase from KRW19.9 trillion at the end of third quarter '07. The average interest rate of our debt increased to 5.8% in '08 from 4.65% in '07, due to the general rise in interest rates. On the other hand, other non-operating expense, mainly consisting of valuation loss on financial derivatives, decreased by 8.3% to KRW244b in third quarter '08 from KRW225b in third quarter '07.

As a result of the aforementioned factors, the unconsolidated combined net loss of KEPCO and the GenCos was KRW789b in the third quarter of '07 -- '08, which was down substantially compared to net income of KRW2.2 trillion in '07. This concludes our earnings presentation for the third quarter of 2008 and now we are open to your questions.

Now Q&A session will begin. (Operator Instructions). Currently one participant is waiting with his question. The first question will be given by (inaudible) by -- from JP Morgan. Please go ahead, sir.

Hello?

Yes, hello.

Hi, Cecilia.

Yes.

You can hear me. It's Edmond Lee here, actually.

Hi, Edmond.

Hi, hi there. Just a couple of questions. One on the tariff side, just wondering whether there's anything new there.

And then, number two, in terms of the coal contracting position right now, again, you don't see -- I asked you about this earlier on, but whether there has been any confirmation in terms of the volume that has been contracted and also the pricing on that.

And also, outlook for LNG cost as well, because I notice that Q3 LNG cost has gone up very, very sharply. And typically, there's a time lag between oil price and LNG price of anything up to six months or so. And given that oil prices only peaked, say, three, four months ago, does it mean that Q4 or -- should we expect LNG prices to stay high in Q4 or should we expect an equally sharp correction in gas prices as we have seen in crude oil prices? So those questions, yes.

Okay, thank you. In terms of the tariff increases, since this is an earnings result conference call, it is difficult for us to talk about the tariffs. But in recent -- in spite of the recent situation, due to the volatile local active market situations, the tariff negotiation -- or the tariff approval by the government has been a little bit delayed. But I believe it is a temporary thing, so we should wait and see, but I think the government will support KEPCO by giving the tariff increases in -- within this year.

As you may have already known, we had tariff increases many times when we had the Asian financial crisis. We had 6%, 6.5% and 5.3% tariff increases in 1997, 1998, 1999 respectively. So I strongly believe the government will support KEPCO.

And you did not ask about this, but the government subsidy, the government cash injection to KEPCO, it's not reflected to KEPCO's third quarter results yet. But we expect that money will come to KEPCO and we will expect it in our income statement as revenue in the fourth quarter of this year. Now, that's the tariff situation.

And in terms of coal, the generation companies have just started the coal negotiations with the coal sellers. But as you know, due to the recent decrease in oil prices, coal price has also come down a little bit recently and the GenCos expect the coal price may decrease a little further. So -- but the coal sellers are expecting the coal prices to rebound again next year so there has been a little bit of delay in negotiation process.

But there has not been any contracts secured over the past month or so?

A little less than 20% of the coal consumption --

Okay.

For next year --

And then the pricing is --

Has been negotiated.

How much in terms of pricing?

It's difficult to disclose that right now, because they are on the negotiation process, but --

Okay, understood.

In terms of the (inaudible) coal, about $110 per ton.

Yes.

Given the spot price was $150 in the first quarter -- in the first half of this year, I think the negotiation price was quite okay. But the GenCos are expecting to finalize the contracts by the first quarter of next year at the latest. And if we spread out the coal price negotiations by the first quarter of next year, maybe there might be some problems in acquiring the amount of coal, so this situation may result in more purchase from spot and less purchase from long-term contract. So normally, the spot versus long-term contracts are 20% to 80%, but next year maybe it could be 30% to 80 -- 70%.

40% to 60%, so 40% spot, 60% contract, yes?

Used to be 20% spot, 80% long-term, but next year 70% long-term, 30% spot.

30%. 30% or 40%? Actually, I didn't catch that.

30%.

30%. Okay.

Yes.

Okay. And then, in terms of the sources, would there be any key changes in terms of where the coal would be sourced from - Australia, Indonesia, South Africa --

Probably China, less than 10% of the total, Indonesia, 40% to 45%, and the rest maybe Australia. It's just transportation.

Thanks.

And the second question was about the LNG.

Yes.

Right? I'm sorry. I don't have the estimated LNG forecast at the moment. But in terms of the LNG contract between KEPCO and the KOGAS, KOGAS will be able to pass on the variable cost to KEPCO right away, every month. There is no, there is hardly no time lag between KEPCO and KOGAS so it really depends on the market price.

Thank you.

Thank you.

Actually, maybe just one more. In terms of the other operating cost, I thought that there would be a lot of emphasis on cost cutting. But then actually during the, even during the third quarter, we haven't seen any reduction yet in absolute terms on operating costs. Should we expect more to be done in terms of cost savings during the fourth quarter or is there actually any room for operating costs to be cut down?

As you know, fuel cost is uncontrollable. And if you see KEPCO's maintenance cost, we have already seen a 3.2% decrease in our maintenance cost and about 11% decrease in KHNP's maintenance cost. In terms of KHNP's case, the main reason was [Kobe 1] overhaul period. Last year, we did the overhaul process for [Kobe 1], but this year it's gone, but for KEPCO, it's because of the cost-saving measures. In the fourth quarter, as well, we'll try to save our costs, but I think the impact will not be material.

Thank you.

Currently, there are no participants with questions. (Operator Instructions). Currently, two participants are waiting with their questions. The first question will be given by Henry Cobbe from Nevsky.

Good evening. Thanks very much for the call. I'm sorry, I missed the earlier part of the call, but perhaps, just to clarify, have you had any discussions with any of your bondholders? Are you complying with all covenants in terms of your interest cover ratio and net debt to EBITDA?

Because it seems like, if these trends continue, even though the oil price is coming down now and the gas price too, but because of the won weakness, next year fuel costs are also going to be very high, even with coal prices at, say, $100 and oil at maybe $70. So the government, it's clear, doesn't want to increase tariffs to protect consumers. Is there talk of increasing the subsidy and how are you going to ensure that you maintain profitability and sufficient interest cover for next year?

Right. KEPCO is having some more financial difficulties in these -- at the moment, but we strongly believe the government will support KEPCO by giving tariff increases. Actually, we're at the very last stage of getting the tariff increase. Just the FX situation was not helpful. But since the government already decided to give us a cash subsidy, that's a strong token for the government's continued support.

And also, besides from the tariff increases and the subsidy, the government and our CEO are well recognized the necessity of introducing the automated fuel cost pass-through system and that will be the best way to encourage the general public in Korea to save energy. So KEPCO's top priority mission will be to introduce the fuel cost automated pass-through system starting from next year.

(Inaudible).

But in terms of the cash subsidy injected to -- to be injected to KEPCO, it's just a one-off government support, we think. And the government, as well as KEPCO, think that it's not eventually good for KEPCO except as a one-off impact and cannot be classed as a sustainable impact for KEPCO.

Okay. So has it been booked in the accounts for subsidy? How will it be treated in the accounts because it's not in the numbers so far is it?

It's not reflected in the third quarter. It's expected to be reflected in the fourth quarter and we'll record as operating revenue. And the amount is predicted to be KRW660b.

KRW660b?

yes.

Okay. And then the tariff hike, remind me, was a planned 5%? Is that right?

Yes. A little less than 5% maybe. There was a negotiation, but the actual rate and the timing should be officially announced by the government. I cannot --

But the original intention was approximately 5%, I think. Is that right?

It was around that level.

Okay. And as regards to any covenants, do you have any covenants on your bonds that require certain interest coverage ratios?

No, no, we don't have any credit rating trick or net debt to equity ratio trick or interest rate coverage -- we don't have any change of control or covenants at all.

Okay. And very lastly, just, I guess what stage are you at talking to the Australian coal producers? What's your feeling in the market about next year's prices? Are they, Tenaga in Malaysia were saying they've had a lot of people coming around offering coal and have you had the same experience? Do you feel there's a lot of coal looking for a home?

One moment please. Sorry, you're talking about how the situation is going for coal contracts?

Yes.

Okay, let me talk about coal contracts already done with an Australian coal supplier. Some of the GenCos negotiated contracted prices with coal Australian suppliers at around $110 per ton. But that's just the beginning of the whole contract in this year for next year's coal consumption.

And for the whole consumption amount for next year, only a little less than 20% has been contracted so far because KEPCO's generation companies expect that the coal price will be stabilized for a bit, come down a little bit more, but the coal suppliers think that coal prices will pick-up, will rebound again in the next year. So there's a little bit of problems in terms of --

So when do you think the GenCos will --

We will probably finalize the contract by the first quarter of next year.

Okay, okay. Yes it's going to be an interesting year for coal prices I think.

Yes.

And obviously, yes, you're both looking at it from different ends but it will be very interesting to see the outcome. Okay, thank you very much indeed.

Thank you.

The following question is by [Tien Do] from [GLC]. Please go ahead sir.

The first question, new CEO, I know he's only been in his position for a few weeks, but any changes since he came on board, anything that he's instituted?

Second question is, can you give us an update on the overseas possibilities? Turkey nuclear project, Kazakhstan project, are those on hold, are those not being looked at so closely because of falling profitability in Korea? What's happening there?

And third question, any progress on the IPO of Powercomm? Thank you.

First talking about our CEO's plans to -- for KEPCO. He has been with KEPCO for about two months so far and he is considering boosting KEPCO's profitability and cutting KEPCO's cost. And also he is very interested in the overseas investment as well, like previous CEOs.

But actually a lot of KEPCO's businesses should be conformed and decided by the government and the government recently actually, about last year, recently came up with what to do with KEPCO's restructuring or for KEPCO's efficiency improvement. So actually for two months it's been our CEO's study process for KEPCO and he thinks fewer costs, automatic pass-through system is very necessary. And also we should have more revenue streams by having a lot of opportunities in the overseas market.

And in terms of our subsidy sales, recently the plan has been officially announced by the government. If I talk about that a little bit. KPS, which is the maintenance company under KEPCO, is supposed to be sold by 2012, additional 20% of KPS is to be sold by 2012. We already listed 20% of KPS in KRX last year, in December last year.

And there is a generating industry -- there's a heating company called KDHC, Korea District Heating Company. We have 26% stake in that company and the government decided to do the sale through IPO.

And we have a designing and engineering power plant company called KOPEC, Korea Plant Service and Engineering Company. And our stake in that company is around 98% and the government decided to have to 40% sold by 2012.

In terms of LG Powercomm, the total shares of LG Powercomm is 120m. And recently at the general shareholders meeting of LG Powercomm about 13.4m shares were newly issued and they are trying to IPO those new issued shares. And we have about 43% stake in Powercomm, but it really depends on the market situation. Our eventual goal is to maximize our sale profit so looking at the market situation we will decide whether we should sell our 43% stake within this year or next year. It is hardly likely that we may sell 43% one shot within this year because the market situation is not very good.

Okay. And anything happening with the Turkey nuclear project or the project in Kazakhstan?

There was an open bidding a couple of weeks ago, but a lot of potential bidders just dropped because there was some discrepancies between the bidders and the government in terms of the contract covenant. There seems to be quite a high risk in terms of the nuclear project. So KEPCO did not participate eventually and only, as far as I know, only one Russian company participated in the bidding. So if the bidding reopens with more good conditions then we may participate again, but this time we will wait and see.

(Spoken in Korean).

I'm talking about the Turkey project.

The Turkish government, they still wanted the winning bidder to be responsible for any cleanup that they weren't willing to back up at that risk, is that why you dropped out?

There are certain risks that government wants to have the bidders so that's why KEPCO did not participate. It's related to the nuclear risk, how to deal with the nuclear disposal and if nuclear accident occurs then participants should have the burden, something like that.

Right. And any progress on the project in Kazakhstan? There was an MOU signed for something in Kazakhstan, wasn't there?

Currently -- in terms of Kazakhstan I should get back to your more on what's going on in the Kazakhstan project, but as far as I know there has been not much progress.

Okay. Great. Thank you.

Currently one participant is waiting with his question. The following question is by Henry Cobbe from Nevsky. Please go ahead sir.

Hi there. Thanks for the follow-up question. I just wanted to check, have you given any guidance in terms of volume growth for next year, what your expectations are?

Okay. Last year, this isn't an updated number but our official forecast is 3% to 4% next year. And this year, 5.3% year-on-year. But I think 3% to 4% increase for next year is forecasted too conservatively. I think it would be more than that.

Okay. And did you give any other guidance on the call that I missed in terms of oil or coal or gas prices?

Actually there were two participants asking about the coal prices. We have already answered the questions. But other than that, there are no answers I can talk about more at the moment.

Okay.

It really depends on the generation company's coal contract and it's under progress so we shall wait and see what's going to happen.

Okay. Thank you very much. Thank you.

Currently one participant is waiting with his question. The following question is by Edmond Lee from JP Morgan. Please go ahead sir.

Hi, thanks very much. Just a couple of minor follow up questions. One on the new supply contracts, I just wanted to confirm that those will be effective from, again, from the third quarter of next year or actually would it be effective earlier than that? That's number one.

Number two, in terms of dividend payout policy, any change to that? And in the event that there would be net loss for the full year as we expect, no dividend to be paid out? That's number two.

And then number three in term of the automatic pass-through mechanism, I actually remember that this is probably the second time or third time that this has been proposed to the government over the past nine or 10 years or so since I've been following the stock. But what makes you think that actually this time round that perhaps the chance of an approval on that one would be better than before?

Okay, talking about the coal contracts, usually, normally, 80% of the coal consumption for the whole year is around last year's coal contracted price, and out of the 80% -- sorry. 80% is for the long-term contract and 20% if for -- is from spot market. And out of the 80% long-term contract amount 80% is contracted in the previous year.

So I think this year's recent coal contract prices will be impacted to next year's coal prices starting from early, or starting earlier than the third quarter. At least first half -- second quarter, starting from second quarter because our GenCos are expected to finalize the contracts by the first quarter of next year.

Okay.

And talking about the dividend payment, we are expecting net loss in this year, in terms of our financials. But the dividend declaration should be decided at the general shareholders meeting in late February or early March next year. And it should be negotiated with the government so I cannot confirm whether or not we will give a dividend, but we should wait and see. But it's not an easy situation we give the dividend, as you can guess.

Thank you.

And talking about the automatic fuel cost pass-through system, the reason why we strongly believe that it's going to be introduced anyway is because the situation is a lot different compared to back in 10 years ago. Because at that time fuel costs accounted for around 20% of our total operating cost, but now it accounts for 45%, almost 50% of the total operating cost. And because of the huge impact for 10 years we have reduced our oil consumption and increased the coal consumption. So we changed our fuel mix to minimize the fuel cost impact. And even after that, even with those efforts, still the fuel cost in uncontrollable and we can actually see losses in our financial data and the government feels it.

And also the eco problem now. We have to think about eco things such like building warnings for your power plant and developing more renewable energies. And we don't have any natural resources. We have to import everything from the overseas markets.

And talking about the Korean economy, the energy is a big issue and the government is well recognizes it. The government recognizes it really well. So KEPCO and the government, we think that energy is a problem and we should pass on that cost to the consumers so that they can conserve energy. That policy is to increase energy prices to make people save energy.

Okay.

So the situation is quite different actually.

Okay. Thank you.

Currently two participants are waiting with their questions. The first question will be given by Henry Cobbe from Nevsky. Please go ahead sir.

Hi there, final question I promise. Just the $110 per ton coal that you mentioned, is that including freight costs? Is that comparable with the free-on-board Newcastle price or is that CIF?

It's just FOB basis.

That's FOB. And out of interest, where are your freight costs booked? I know you have your own boats, but are they booked in the fuel cost expense or is it other expenses?

Fuel cost.

Fuel cost. Okay. Many thanks indeed.

The following question is by Eddie Lau from Citigroup.

Hi Cecilia. I just wanted to check for your natural gas price in 2009. Do you have any new contracts with the price much different from existing price? Thank you.

One second. Hello?

Hello.

We have a long term contract with Korea Gas Corporation and that contract expires in 2026. And every month we get coal and we pay the coal prices to KOGAS and KOGAS can pass on its variable cost to KEPCO every month. So I'm not sure exactly what you're asking.

Okay. The question is, do you know whether KOGAS has any new contracts to start supplying natural gas to South Korea in 2009?

You are talking about KOGAS, what KOGAS purchase from their suppliers?

Yes.

Sorry, I don't have the information.

Okay. Thank you.

Currently there are no participants with questions. (Operator Instructions).

I think there are no further questions at the moment so if you have further questions, please contact our IR staff. Once again, thank you for your interest in KEPCO and thank you for joining our conference call today. Thank you.