WEDNESDAY, 25 SEPTEMBER 2013

Manila Water Company: Arbitration brings uncertainty

Arbitration ruling can make or break MWC. Our discussion with Manila Water Corporation revealed that the international arbitration would be like a pendulum case. This means that the arbitration panel will only choose one between MWSS and MWCs proposal, and there will be no middle ground. Therefore if the arbitration results in favor of MWC, the water concessionaire will obtain their desired appropriate discount rate (ADR), opening cash position (OCP), capital and operating expense budget, and income tax assumption altogether. Under this scenario, we expect MWCs FV value would be Php36.40/sh, our previous estimate. But if the pendulum swings the other way, the arbitration panel rules in favor of MWSS, this could spell disaster for the water concessionaire. A lower opening cash position would mean that MWC will not be allowed to recover the money they have already invested in the concession, while, not including the tax expense on the after-tax appropriate discount rate will significantly reduce MWCs future profitability. We estimate that if we follow MWSS scenario, MWCs FV estimate would decline by 63% to Php13.50/sh.

SHARE DATA
Rating Ticker Fair Value (Php) Current Price Upside (%)

HOLD
MWC 31.00 27.75 11.71

SHARE PRICE MOVEMENT

120 110 100 90 80 25-Jun-13

Base case scenario assumes an amended proposal. Our base case scenario assumes that MWC will be amending its proposal for the arbitration proceedings, lowering OCP, capex/opex and ADR, but will still insist on recoverability of income taxes. Under our base case scenario, MWCs FV estimate would decline by 15% from our previous estimate to Php31.00/sh. (see exhibit 1) Maintain HOLD rating, decreasing fair value to Php31.00sh. In our opinion, MWC will be able to support its argument to the arbitration panel to include income taxes and their proposed OCP when computing for the new water rates. However to be conservative, we are using MWSS ADR and capital expenditures to reach our base fair value estimate of Php31.00/sh. We are maintaining our HOLD rating on MWC given that the potential upside to our FV estimate is limited at 10.2%. Furthermore, downside risk is significant given the heightened regulatory concerns, as there is a chance that the arbitration panel could rule in favor of MWSS proposal and significantly impair MWCs profitability and fair value. Forecast Summary (PhpMil)
Year to Dec. 31 Operating Revenues % change y/y EBIT % change y/y EBIT Margin (%) EBITDA % change y/y EBITDA Margin (%) Net Profit % change y/y NPM (%) EPS % change y/y RELATIVE VALUE P/E(X) P/BV(X) ROE(%) BVPS(P) Dividend yield(%)
Source: M WC, COL est imat es

25-Jul-13 MWC

25-Aug-13 PSEi

25-Sep-13

ABSOLUTE PERFORMANCE
MWC PSEi 1M -14.62 4.21 3M -6.72 10.91 YTD -13.28 10.45

MARKET DATA
2011 12,004 9.0 6,864 6.8 57.2 8,405 12.3 70.0 4,278 7.2 35.6 1.74 7.4 16.0 2.9 20.0 9.8 2.0 2012 14,553 21.2 8,561 24.7 58.8 10,538 25.4 72.4 5,717 33.6 39.3 2.31 32.7 12.1 2.5 23.2 11.2 2.1 2013E 15,921 9.4 9,348 9.2 58.7 11,270 6.9 70.8 6,213 8.7 39.0 2.51 8.8 11.1 2.2 21.6 12.9 2.7 2014E 17,295 8.6 9,867 5.6 57.1 12,100 7.4 70.0 6,460 4.0 37.4 2.61 4.0 10.7 1.8 19.3 15.2 3.1

2010 11,013 15.5 6,424 27.3 58.3 7,483 10.0 67.9 3,989 23.5 36.2 1.62 23.7 17.2 3.4 21.6 8.3 1.7

Market Cap Outstanding Shares 52 Wk Range 3Mo Ave Daily T/O

55,878.57Mil 2,041.45Mil 25.00 - 41.40 98.96Mil

KERVIN SISAYAN, CFA k e r v i n . s i s a y a n @ co l fi n a n ci a l .co m

PHILIPPINE EQUITY RESEARCH

Exhibit 1: Scenario Analysis on Rate Rebasing For Arbitration MWSS MWC Base ADR1 7.35% 7.35%* OCP2 17 31 Capex & Opex2 293 293 Income Tax X recoverable Fair Value 13.50 31.00
source: M WSS, M WC, COL Estimates * Conservative Estimate 1. Appropriate Discount Rate 2. Opening Cash Position, Capital Expenditure and Operating Expenses in PhpBil

Previous Estimtes 7.65 41 350 recoverable 36.40

Wednesday, 25 September 2013

MWC

FIELD NOTES

page 2

PHILIPPINE EQUITY RESEARCH

Investment Rating Definitions

BUY
Stocks that have a BUY rating have attractive fundamentals and valuations, based on our analysis. We expect the share price to outperform the market in the next six to twelve months.

HOLD
Stocks that have a HOLD rating have either 1.) attractive fundamentals but expensive valuations; 2.) attractive valuations but near term earnings outlook might be poor or vulnerable to numerous risks. Given the said factors, the share price of the stock may perform merely inline or underperform the market in the next six to twelve months.

SELL
We dislike both the valuations and fundamentals of stocks with a SELL rating. We expect the share price to underperform in the next six to twelve months.

Important Disclaimers
Securities recommended, offered or sold by COL Financial Group, Inc.are subject to investment risks, including the possible loss of the principal amount invested. Although information has been obtained from and is based upon sources we believe to be reliable, we do not guarantee its accuracy and it may be incomplete or condensed. All opinions and estimates constitute the judgment of COLs Equity Research Department as of the date of the report and are subject to change without notice. This report is for informational purposes only and is not intended as an offer or solicitation for the purchase or sale of a security. COL Financial ans/or its employees not involved in the preparation of this report may have investments in securities or derivatives of securities of securities of the companies mentioned in this report, and may trade them in ways different from those discussed in this report.

Wednesday, 25 September 2013

MWC

FIELD NOTES

page 3