Initiation: powering throughasiaresearch.daiwacm.com/.../Manila_Electric_150327.pdfMER PM 27 March...

See important disclosures, including any required research certifications, beginning on page 38

■ Investment case We initiate coverage on Manila Electric Co (Meralco), the Philippines’ largest electricity-distribution utility company, with a Buy (1) rating. Power-generation assets not fully valued. In 2013, Meralco re-entered the power-generating business. It now has an attributable capacity of 379MW, with several projects due to come on line in 2017/18. However, we believe the market does not yet appreciate the potential value of the power-generating business. Despite Meralco’s new ventures in power generation, the stock has traded sideways since 2013, likely due to an anticipated reduction in the electricity tariffs under its 4th regulatory period, which we assume to start in June 2016. High yield. Meralco’s strong cash-flow generation enables it to pay out healthy cash dividends and supports

its expansion projects. We estimate it has a 2015E dividend yield of 4.9%, one of the highest among PSEi index constituents. ■ Catalysts Progress on tariff reset. This could be a welcome development for investors, as we believe the market has already priced in a lower tariff scenario relative to the current tariff. In addition, our forecasts factor in lower distribution rates and a 1-year delay in the implementation of a tariff change. We forecast Meralco’s average distribution rate to fall by 12% each for 2016 and 2017. New power plant. The 500MW San Buenaventura coal plant is Meralco’s first power-generation project in which it has a majority interest. Construction will start when it receives regulatory approval for its power supply agreement. The company expects the regulator’s decision within 1Q15 or early 2Q15. ■ Valuation We have a DCF-based 12-month target price of PHP324, within which our PHP293/share valuation for electricity distribution already exceeds the current share price. Although the stock’s 2015E PER of 16.7x exceeds the 15.1x average of its regional peers (Bloomberg forecasts), we believe its valuations will increase

as distribution recovers and new power projects become operational. ■ Risks The main risks to our call would be an adverse decision by the regulator on the tariff and delays/issues in the execution of generation projects.

Utilities / PhilippinesMER PM

27 March 2015

Manila Electric

Initiation: powering through

• New power-generation investment underappreciated by the market, overshadowed by worries of a lower distribution tariff

• However, we factor this into our forecasts; we expect 12% YoY declines in electricity distribution rates for 2016/17E

• Initiating coverage with a Buy (1) rating and DCF-based 12-month target price of PHP324

Source: FactSet, Daiwa forecasts

Utilities / Philippines

Manila ElectricMER PM

Target (PHP): 324.00Upside: 19.9%26 Mar price (PHP): 270.20

Buy (initiation)

OutperformHoldUnderperformSell

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Share price performance

Manila Ele (LHS)Relative to PCOMP Index (RHS)

(PHP) (%)

12-month range 251.20-292.40Market cap (USDbn) 6.793m avg daily turnover (USDm) 2.37Shares outstanding (m) 1,127Major shareholder Beacon Electric Asset Hldgs (45.0%)

Financial summary (PHP)Year to 31 Dec 14E 15E 16ERevenue (m) 266,336 306,392 314,003Operating profit (m) 26,146 25,554 22,943Net profit (m) 18,053 18,198 16,637Core EPS (fully-diluted) 16.017 16.146 14.761EPS change (%) 6.1 0.8 (8.6)Daiwa vs Cons. EPS (%) 0.6 1.0 (8.8)PER (x) 16.9 16.7 18.3Dividend yield (%) 4.8 4.9 4.6DPS 12.870 13.334 12.501PBR (x) 3.8 3.7 3.6EV/EBITDA (x) 7.9 8.0 9.4ROE (%) 23.4 22.5 19.9

Bianca Solema(63) 2 737 [email protected]

How do we justify our view?How do we justify our view?

Utilities / Philippines MER PM

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Investment thesis ........................................................................................................................... 6

Powering through ........................................................................................................................ 6

Key near-term catalysts ............................................................................................................... 7

Distribution business: unparalleled power .................................................................................... 9

Poised to benefit directly from economic growth....................................................................... 9

Regulatory headwinds factored in .............................................................................................. 9

Forecasts: distribution business ................................................................................................ 11

Generation: new source of power.................................................................................................. 13

Need for new capacity ................................................................................................................ 13

Re-entry into power generation ................................................................................................. 13

Partnering with established generation players ........................................................................ 14

Growing contribution from power generation .......................................................................... 17

Valuation: power-generation assets ascribed zero value .............................................................. 18

SOTP-based TP of PHP324 ........................................................................................................ 18

Earnings multiples at the high end in the near term ................................................................ 19

Steady and healthy dividends ................................................................................................... 20

Key risks ......................................................................................................................................... 21

Regulatory and political risks .................................................................................................... 21

Operational and execution risks ................................................................................................ 21

Market risk ................................................................................................................................. 21

Appendix I: company profile ........................................................................................................ 22

Largest electricity distributor ................................................................................................... 22

Ownership history ..................................................................................................................... 23

World-class operations ............................................................................................................. 24

Other projects leveraging the strength of the distribution platform ....................................... 25

Appendix II: performance-based regulation (PBR) .................................................................... 28

Appendix III: positive macroeconomic drivers ............................................................................ 31

Appendix IV: power supply-demand scenario............................................................................. 34

Contents


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Growth outlook Meralco: breakdown of Daiwa’s net income forecasts (PHPm)

Meralco posted a 6% YoY rise in its core net income for 2014. Growth should be more modest for 2015, as distribution is likely to be dragged down by the full-year impact of the lower distribution rate implemented in 2H14. For 2016 and 2017, we see earnings declining by 9% YoY and 11% YoY, respectively, due to our lower tariff estimates for the fourth regulatory period (assumed to begin July 2016). We should start to see a recovery in 2018, with 2019 being the banner year, driven by improvements in distribution, coupled with rising contributions from its new generation projects. We forecast earnings to reach PHP16.91bn (+14% YoY) for 2018 and PHP19.42bn for 2019 (+15% YoY).

Source: Daiwa forecasts

Note

Valuation Meralco: 12-month forward PER bands

We value each of Meralco’s distribution and generation businesses using a DCF methodology to arrive at our SOTP target price of PHP324. Our target price implies potential upside of 20% and is equivalent to a 2015E PER of 20.2x. We apply varying WACCs, ranging from 6.08% to 9.66%, and a terminal growth rate of 3% for the domestic units and 2% for the company’s Singapore-based affiliate. In our valuation of the generation business, we include the company’s 3 ventures: PacificLight (28% stake), Global Business Power (22% stake) and San Buenaventura Power (51% stake).

Source: Daiwa

Earnings revisions Meralco: Bloomberg consensus 2015 EPS forecast

The Bloomberg consensus cut its 2014 EPS forecast for Meralco in May last year with the announcement of the lower approved tariff, or maximum average price (MAP), for Meralco’s distribution business (effective 1 July 2014 to 30 June 2015). This started a series of downward revisions to 2015 forecasts as analysts most likely began to recognise the high probability of a further rate reduction for the fourth regulatory period. Our 2015 EPS forecast of PHP16.15 is in line with the consensus figure.

Source: Bloomberg

How do we justify our view?

Growth outlook

Valuation

Earnings revisions

18,070 17,660 15,858

13,862 15,031 16,451 17,367

18,053 18,198 16,637

14,793 16,914

19,417 20,581

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MER parent (distribution) and others Pacific Light San Buenaventura Power GBP

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Key assumptions

Profit and loss (PHPm)

Cash flow (PHPm)


Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016EAve distribution rate (PHP/kWh) 1.15 1.45 1.59 1.55 1.65 1.60 1.56 1.37

Distribution electricity sales growth (YoY %)

1.7 9.9 1.1 7.1 4.0 3.2 3.6 3.7

System losses (%) 8.6 8.0 7.4 7.1 6.9 6.5 6.5 6.5Inflation (%) 4.1 3.8 4.6 3.2 3.0 4.0 3.5 3.5

Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016ESale of electricity 178,686 239,077 253,989 282,991 294,849 261,740 301,107 308,295Sale of other services 2,072 1,856 2,819 2,279 3,787 4,596 5,285 5,708Other Revenue 0 0 0 0 0 0 0 0Total Revenue 180,758 240,933 256,808 285,270 298,636 266,336 306,392 314,003Other income 0 0 0 0 0 0 0 0COGS (150,928) (200,916) (205,674) (232,068) (238,198) (203,242) (244,400) (256,513)SG&A (12,327) (12,873) (14,596) (14,710) (15,469) (16,102) (16,366) (16,637)Other op.expenses (9,870) (14,851) (18,699) (19,384) (20,819) (20,846) (20,072) (17,910)Operating profit 7,633 12,293 17,839 19,108 24,150 26,146 25,554 22,943Net-interest inc./(exp.) (499) 1,044 819 1,041 (307) (726) (717) (675)Assoc/forex/extraord./others 921 (19) 88 1,873 484 1,064 1,248 1,584Pre-tax profit 8,055 13,318 18,746 22,022 24,327 26,484 26,085 23,852Tax (2,331) (4,023) (5,953) (5,741) (7,054) (8,353) (7,872) (7,211)Min. int./pref. div./others 281 390 467 836 (62) (78) (15) (4)Net profit (reported) 6,005 9,685 13,260 17,117 17,211 18,053 18,198 16,637Net profit (adjusted) 7,003 12,155 14,887 16,265 17,023 18,053 18,198 16,637EPS (reported)(PHP) 5.328 8.593 11.765 15.187 15.270 16.017 16.146 14.761EPS (adjusted)(PHP) 6.213 10.784 13.208 14.431 15.103 16.017 16.146 14.761EPS (adjusted fully-diluted)(PHP) 6.213 10.784 13.208 14.431 15.103 16.017 16.146 14.761DPS (PHP) 4.650 6.450 9.250 10.100 12.080 12.870 13.334 12.501EBIT 7,633 12,293 17,839 19,108 24,150 26,146 25,554 22,943EBITDA 12,464 18,204 23,343 24,684 30,268 32,239 31,911 29,551

Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016EProfit before tax 8,055 13,318 18,746 22,022 24,327 26,484 26,085 23,852Depreciation and amortisation 5,064 6,219 5,637 5,731 6,118 6,093 6,357 6,608Tax paid (3,797) (4,953) (5,309) (7,228) (7,205) (8,006) (8,001) (7,387)Change in working capital 15,835 (321) 1,177 6,518 2,421 (13,500) 212 (2,887)Other operational CF items 4,558 6,191 11,703 9,234 11,894 11,681 9,967 7,278Cash flow from operations 29,715 20,454 31,954 36,277 37,555 22,752 34,621 27,463Capex (8,228) (8,810) (8,552) (9,668) (10,187) (9,929) (20,535) (35,747)Net (acquisitions)/disposals (662) 0 (387) (13) (21,006) 0 0 0Other investing CF items (1,657) 1,364 653 (2,075) (716) 14,463 (650) (168)Cash flow from investing (10,547) (7,446) (8,286) (11,756) (31,909) 4,534 (21,186) (35,915)Change in debt (5,212) (584) 6,168 155 8,917 (3,878) 35,116 (286)Net share issues/(repurchases) 445 221 208 308 142 (0) 0 0Dividends paid (2,820) (6,187) (9,866) (8,890) (12,553) (13,931) (15,029) (14,090)Other financing CF items 85 844 362 265 (2,801) (1,201) 1,449 1,977Cash flow from financing (7,502) (5,706) (3,128) (8,162) (6,295) (19,011) 21,536 (12,399)Forex effect/others 0 0 0 0 0 0 0 0Change in cash 11,666 7,302 20,540 16,359 (649) 8,276 34,972 (20,852)Free cash flow 18,899 9,301 17,660 24,598 26,616 9,546 16,681 2,232

Financial summary


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Balance sheet (PHPm)

Key ratios (%)


Company profile

Manila Electric Co (MER) is the largest and oldest electricity distribution utility in the Philippines. Its franchise area spans 9,337 sq km and covers Metro Manila and nearby provinces. It services around 25m people, equivalent to about a quarter of the country's population. Through its subsidiaries and affiliates, it is also into power generation and other related businesses. It currently has an attributable power generation capacity of 379MW.

As at 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016ECash & short-term investment 17,068 24,370 44,141 60,500 59,851 68,127 103,098 82,246Inventory 1,857 2,043 1,675 1,371 2,750 4,980 5,058 5,138Accounts receivable 21,600 25,609 29,108 28,077 32,718 28,626 32,931 33,749Other current assets 4,160 7,981 20,849 2,295 12,167 12,167 12,167 12,167Total current assets 44,685 60,003 95,773 92,243 107,486 113,899 153,254 133,300Fixed assets 102,112 103,250 105,510 109,312 112,586 116,313 130,403 159,473Goodwill & intangibles 0 0 0 0 0 0 0 0Other non-current assets 25,332 15,715 9,805 15,336 43,932 29,271 30,427 31,173Total assets 172,129 178,968 211,088 216,891 264,004 259,483 314,084 323,946Short-term debt 4,582 5,723 4,627 4,147 12,835 1,923 2,212 2,298Accounts payable 28,261 31,138 40,011 47,576 73,892 60,351 62,292 64,477Other current liabilities 9,280 8,285 17,517 7,795 7,899 8,246 8,118 3,130Total current liabilities 42,123 45,146 62,155 59,518 94,626 70,521 72,621 69,906Long-term debt 17,234 15,498 19,816 20,466 20,756 27,790 62,618 62,245Other non-current liabilities 51,626 55,128 62,248 68,757 73,287 80,658 93,675 101,625Total liabilities 110,983 115,772 144,219 148,741 188,669 178,969 228,914 233,776Share capital 14,425 14,646 14,863 15,173 15,315 15,315 15,315 15,315Reserves/R.E./others 42,944 44,323 47,293 52,729 59,847 63,969 67,139 69,686Shareholders' equity 57,369 58,969 62,156 67,902 75,162 79,284 82,453 85,000Minority interests 3,777 4,227 4,713 248 173 1,231 2,716 5,170Total equity & liabilities 172,129 178,968 211,088 216,891 264,004 259,483 314,084 323,946EV 311,864 305,299 288,713 267,088 265,033 254,244 255,457 277,968Net debt/(cash) 4,748 (3,149) (19,698) (35,887) (26,260) (38,414) (38,269) (17,703)BVPS (PHP) 50.900 52.319 55.147 60.245 66.686 70.343 73.155 75.415

Year to 31 Dec 2009 2010 2011 2012 2013 2014E 2015E 2016ESales (YoY) (5.7) 33.3 6.6 11.1 4.7 (10.8) 15.0 2.5EBITDA (YoY) 9.9 46.1 28.2 5.7 22.6 6.5 (1.0) (7.4)Operating profit (YoY) 10.4 61.1 45.1 7.1 26.4 8.3 (2.3) (10.2)Net profit (YoY) 150.1 73.6 22.5 9.3 4.7 6.1 0.8 (8.6)Core EPS (fully-diluted) (YoY) 144.9 73.6 22.5 9.3 4.7 6.1 0.8 (8.6)Gross-profit margin 16.5 16.6 19.9 18.6 20.2 23.7 20.2 18.3EBITDA margin 6.9 7.6 9.1 8.7 10.1 12.1 10.4 9.4Operating-profit margin 4.2 5.1 6.9 6.7 8.1 9.8 8.3 7.3Net profit margin 3.9 5.0 5.8 5.7 5.7 6.8 5.9 5.3ROAE 12.7 20.9 24.6 25.0 23.8 23.4 22.5 19.9ROAA 4.2 7.2 7.9 7.7 7.1 6.9 6.4 5.2ROCE 12.7 20.9 24.6 25.0 23.8 23.4 22.5 19.9ROIC 9.0 15.4 17.8 18.2 17.2 17.0 14.5 11.4Net debt to equity 7.8 net cash net cash net cash net cash net cash net cash net cashEffective tax rate 28.9 30.2 31.8 26.1 29.0 31.5 30.2 30.2Accounts receivable (days) 59.7 35.8 38.9 36.6 37.2 42.0 36.7 38.8Current ratio (x) 1.1 1.3 1.5 1.5 1.1 1.6 2.1 1.9Net interest cover (x) 2.0 21.9 12.3 12.5 16.3 18.2 18.0 16.4Net dividend payout 73.8 59.8 60.0 70.0 80.0 80.0 80.0 80.0Free cash flow yield 6.2 3.1 5.8 8.1 8.7 3.1 5.5 0.7

Financial summary continued …


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Investment thesis

Powering through

We initiate coverage on Meralco with a Buy (1) rating and DCF-based 12-month target price of PHP324. Unparalleled scale and experience in power distribution Meralco holds a monopoly in terms of power distribution in the Philippines capital, Metro Manila, and nearby provinces. It is also the country’s oldest distribution utility, established in 1903. The company’s scale and experience have equipped it with strong technical expertise that enables it to outperform all regulatory performance standards and run its operations efficiently. One of the highest dividend yields Although Meralco’s current franchise area is arguably mature, it generates strong and steady cash flows that support payment of dividends and expansion projects. Based on its current share price, we estimate Meralco’s dividend yield in 2015 at 4.9%, one of the highest among the constituents of the PSEi. Meralco: dividend yield estimates for index stocks – 2015 (%)

Source: Bloomberg, Daiwa for Meralco

Factored in decline in distribution tariff We recognise that the investors’ main concern at this point is the likely downward adjustment in distribution rates during the upcoming tariff reset for Meralco (originally scheduled for July 2015). The reduction should mainly arise from lower allowed returns (lower regulatory WACC), due to a decline in applicable

interest rates today versus 4 years ago (the time of the last tariff reset). Our forecasts take into account the scenario of lower tariffs. We estimate the company’s average distribution rates to fall by 12% YoY for both 2016 and 2017. We factor in a regulatory WACC of 11% (previously 14.97% for the third regulatory period), arrived at using the same rules for setting distribution wheeling rates but updating the inputs for current values of risk-free rates, asset beta, country risk premium and inflation. In addition, we factor in a 1-year delay in the implementation of the new rates under the fourth regulatory period, which was originally scheduled for July 2015. Meralco: distribution revenue and average distribution rate

Source: Company, Daiwa forecasts

New power-generation investments appear underappreciated We believe, however, that Meralco’s new power-generation investments are being overshadowed by the concerns in the market about the distribution business’ impending tariff reset. Meralco re-entered the power generation business in 2013 through the acquisition of a 22% interest in Global Business Power (GBP) and a 28% effective interest in an LNG power plant in Singapore (PacificLight). Today, Meralco has an attributable capacity of 379MW and is preparing for several new projects to come on line. The most advanced of these new projects in terms of development is the 500MW San Buenaventura Power, for which the company targets to begin construction this year. Although still accounting for a very small proportion of earnings today, we expect the power-generation business to be a significant earnings driver once the company’s new projects become operational. For 2018 and 2019, we estimate the combined contribution from

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48,606 50,892 56,105 56,382 56,706

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Distribution revenues (PHPm) Ave d istribution rate (PHP/kWh)


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the 3 units to reach PHP1.88bn and PHP2.97bn, or 11% and 15% of the consolidated net profit, respectively. Meralco: breakdown of Daiwa’s net income forecasts (PHPm)


Also overlooked by the market, in our view, is the competitive advantage that Meralco gains from the scale of its distribution business for its generation projects. Although the regulator must sign off any contract between Meralco’s distribution unit and a power supplier, Meralco’s generation projects, at least those in Luzon, have the advantage of being prioritised by Meralco’s distribution unit in terms of signing power supply agreements. Getting power-generation assets “for free” Our target price of PHP324 offers potential upside of 19.9% against the stock’s closing share price of PHP270.20 on 26 March 2015. Based on our SOTP valuation, we value the distribution business at PHP293.07/share and the company’s 3 power-generation units combined at PHP31.09/share. Against our estimated value for the distribution business alone, the stock is trading at a discount of 7.8%. Meralco: SOTP valuation

Total equity value

Meralco’s stake

Attributable equity value

Value per share

% of total

(PHPm) (PHPm) (PHP/sh)Parent (distribution) and others 330,314 100% 330,314 293.07 90%PacificLight 26,357 28% 7,380 6.55 2%San Buenaventura Power (SBP) 27,722 51% 14,138 12.54 4%Global Business Power (GBP) 61,142 22% 13,451 11.93 4%Total 324.09 100%Target price (TP) 324.00 No of outstanding shares 1,127.10

Source: Daiwa estimates

Key near-term catalysts

We believe that the expected tariff reduction and, consequently, the lower near-term earnings prospects of Meralco have been priced into to the current share

price. Meralco was one of the laggards in 2014, underperforming the PSEi by 20.77pp. In addition, we have barely seen sustained positive movement in MER’s share price, even after its re-entry into the power generation business in 2013. The stock has been trading in a range of PHP250-290 range since 2H13. Meralco: Share price (PHP)

Source: Bloomberg

We see 2 main positive catalysts for the stock that could materialise in the near term. Resolution or clearer picture on tariff reset With the negative scenario about the direction of tariffs likely priced into Meralco’s share price, we think progress on the tariff reset could be a welcome development for investors at this point, as it would lessen the overhang resulting from this issue. Moreover, our forecasts also factor in a decline in tariffs for the next rate rebasing period, as we assume a 12% YoY reduction in average distribution rates for both 2016 and 2017. We expect to see a resolution on the tariffs soon as the rate reset was originally scheduled to begin on 1 July 2015, upon the start of the fourth regulatory period for Meralco. In case the process is delayed, we should at least see the applicable rules and guidelines for the fourth regulatory period being announced, as well as a much clearer stance from the regulator on this matter, within the year. Commencement of the construction of a major power-generation project Once the Energy Regulatory Commission (ERC) approves Meralco’s power supply agreement (PSA) with San Buenaventura Power, Meralco says it will immediately finalise the financing agreement for the project. Thereafter, Meralco should begin construction of the project. All hearings with the regulator for the petition to approve the PSA have been concluded and a decision on the PSA is expected by 1Q15/early 2Q15.

18,070 17,660 15,858 13,862 15,031 16,451 17,367

18,053 18,198 16,637

14,793 16,914

19,417 20,581

2014E 2015E 2016E 2017E 2018E 2019E 2020E

MER parent (d istribution) and others Pacific LightSan Buenaventu ra Power GBP

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As San Buenaventura coal will be Meralco’s first power-generation project wherein it has a majority interest, we see the execution of this project as a critical first step by the company, which would allow it to be recognised as a legitimate player in the power-generation industry. In addition, there has been a positive development in Meralco’s other project, the 600MW Subic coal. This was on hold due to legal issues presented by environmental groups. But on 3 February 2015, the Supreme Court ruled, with finality, in favour of the project. Meralco has already expressed its intention to proceed and commence construction within 2015. We have chosen to wait for more details before factoring this into our forecasts, but this could be another catalyst once developments on the project become more visible.


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Distribution business: unparalleled power

Poised to benefit directly from economic growth

Growing Philippines economy should continue to drive demand for electricity The Philippines has been one of the best-performing economies in the region, registering real GDP growth of 6.1% YoY in 2014. Although the performance in 2014 was lower than the 7.2% YoY growth posted in 2013, the country was the fastest-growing economy in Southeast Asia and the second-fastest in Asia (next to China) for a third consecutive year. Heightened economic activity should result in increased demand for electricity. There is a high correlation between electricity demand and real GDP growth, with an average elasticity of 0.97x computed since 1990. Philippines: historical electricity demand and GDP per capita

Source: CEIC, Daiwa

Meralco should benefit directly from the economic growth of the country, as around 55% of the country’s energy sales and 50% of GDP are consumed and generated in Meralco’s franchise area. We believe electricity demand from its 4 customer groups – residential, commercial, industrial and streetlights – will continue to grow with the population, private consumption and a resurgence of the manufacturing sector in the country.

Meralco: energy sales vs. total Philippines electricity demand (GWh)

Source: Company, CEIC

The company’s consolidated volume sales have grown steadily at an 11-year CAGR of 3.6%, from 23,834GWh in 2003 to 35,160GWh in 2014. Similarly, we factor in a 3.6% annual growth rate for our forecast period. Meralco: electricity sales

Source: CEIC, Daiwa forecasts

Regulatory headwinds factored in

The tariff reset process Under the performance base regulation (PBR), base tariffs for Meralco’s distribution business are approved at the start of every regulatory period, and the applicable annual average rate, called the Maximum Average Price (MAP), is approved at the beginning of each of the 4 regulatory years (RY) in a regulatory period. Meralco is currently in the fourth RY of its third regulatory period, and was originally scheduled for a reset on 1 July 2015, once the fourth regulatory period starts. To describe the PBR computations in simple terms, the base tariffs are based on an annual revenue requirement (ARR) and projected energy consumption of the distribution utility (DU). The building blocks of the ARR ensure a reasonable return on capital and return of capital (see Appendix II), support for

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E

('000 GWh)

Residential Commercial Industrial Streetlights


27 March 2015

- 10 -

necessary operating and maintenance expenses, and applicable recoverable taxes. The PBR uses a forward-looking approach and it defines “capital” as the “rolled-forward optimised regulatory asset base (RAB)”, which is composed of the initial opening value and future capex. The approved MAP will then be translated into a rate table, which indicates respective rates per customer class. Lower interest rates to drive down regulatory WACC One of the key components of return on capital is the regulatory weighted average cost of capital (WACC), which serves as the rate of return on the regulatory asset base. For the third regulatory period, the approved regulatory WACC has been 14.97%. This was computed using economic variables during the final rate determination in the third regulatory period (around February 2011). Interest rates have drastically come down since then, which should reduce the regulatory WACC for the fourth regulatory period. For example, using the same indirect method (using USD treasury bonds and applying a country risk premium), the yield for 20-year USD treasury bonds (averaged for 60 days) was 2.93% as at 9 January 2015, against 4.32% as at 28 February 2011.

Using the same formula but updating the variables such as the risk-free rate, asset beta, country risk premium and inflation rates, we arrive at a regulatory WACC of 11.02% as at 31 December 2014 and 10.82% as at 5 February 2015. In our forecasts, we factor in a regulatory WACC of 11%. Our sensitivity analysis shows that for every 10bps increase/decrease in the regulatory WACC, our target price would go down/up by about PHP2/sh. Factoring in a 1-year delay The fourth regulatory period, together with a new tariff base, was originally scheduled to begin in July 2015. We believe, however, that the process will be delayed based on the regulator’s progress to date. According to Meralco, there is a high possibility of the new tariff being delayed as the regulators have not yet issued the rules that will apply to the fourth regulatory period and the tariff reset. As such, we have factored in a 1-year delay in the implementation of the new rates. For RY2016 (1 July 2015 to 30 June 2016), we have maintained the status quo and the current MAP of PHP1.5562/kWh in our forecasts. When the rates for the fourth regulatory period are determined, we assume that any difference between the should-be rate for RY2016 and the status-quo rate of PHP1.5562/kWh will be recovered over the remaining regulatory period.

Regulatory WACC calculation – previous and Daiwa forecasts 3rd Regulatory Period 4th Regulatory Period 4th Regulatory Period

(actual) As at 31 December 2014 As at 4 February 2015

Parameters Low Mid High Low Mid High Low Mid HighGearing (debt) ratio D/(D+E) 45% 40% 35% 45% 40% 35% 45% 40% 35%Equity ratio E/(D+E) 55% 60% 65% 55% 60% 65% 55% 60% 65%Debt to equity D/E 0.818 0.667 0.538 0.818 0.667 0.538 0.818 0.667 0.538

Asset beta Ba 0.276 0.449 0.721 0.258 0.504 0.751 0.258 0.504 0.751 Risk-free rate (nominal – 20-yr USD bond yields in USA) 20 4.07% 4.32% 4.57% 2.18% 2.43% 2.68% 2.44% 2.69% 2.94%Country risk premium for equity (excluding FX risk) CRPe 1.21% 1.46% 1.71% 1.12% 1.37% 1.62% 1.06% 1.31% 1.56%Risk-free rate used in WACC Rf 8.80% 9.80% 10.79% 4.59% 5.56% 6.53% 4.79% 5.76% 6.73%Debt margin DM 2% 2.50% 3.00% 2.00% 2.50% 3.00% 2.00% 2.50% 3.00%Cost of debt (pre-tax nominal peso term) Kd 10.80% 12.30% 13.79% 6.59% 8.06% 9.53% 6.79% 8.26% 9.73%Market risk premium (developed country) MRP Rm-Rf 6.00% 6.00% 6% 6.00% 6.00% 6.00% 6.00% 6.00% 6.00%Corporate tax rate tc 0 0 0 0 0 0 0 0 0Inflation rate (PH) iPhil 4.54% 5.39% 6.24% 2.56% 3.41% 4.26% 2.56% 3.41% 4.26%Inflation rate (US) iUSA 1.19% 1.59% 1.99% 1.32% 1.72% 2.12% 1.32% 1.72% 2.12%Income tax rate on interest income ti 20% 20% 20% 20% 20% 20% 20% 20% 20%Income tax rate on dividend income td 10% 10% 10% 10% 10% 10% 10% 10% 10%

Calculated equity (re-geared) betas Equity beta (1) = Asset beta x (1+ D/E) 0.50 0.83 1.11 0.50 0.83 1.11 0.5 0.83 1.11Other parameters Cost of equity (post-tax nominal) = Rf + Equity beta 1 x MRP 11.81% 14.78% 17.45% 7.40% 10.60% 13.46% 7.59% 10.80% 13.66%Vanilla WACC (nominal) 11.36% 13.79% 16.17% 7.03% 9.59% 12.09% 7.23% 9.78% 12.28%WACC set at 75th percentile of the suggested range 14.97% 10.82% 11.02%

Source: Energy Regulatory Commission, Daiwa estimates


27 March 2015

- 11 -

Forecasts: distribution business

We forecast lower distribution rate By factoring in a lower regulatory WACC of 11% (compared with 14.97% used for the third regulatory period) and adjusting for a 1-year delay in the implementation of the lower rate, we forecast a MAP of PHP1.1857/kWh for RY2017, down 24% vs. the PHP1.5562/kWh for RY2016. Thereafter, we expect an inflationary increase in tariffs up to PHP1.2783/kWh for RY2019. Meralco: maximum average price (PHP/kWh) with 1-year delay

Source: Energy Regulatory Commission, Daiwa forecasts

Note: Rates for the 3rd RP are all actual based on the ERC; 4th RP are Daiwa forecasts

With the full-year implementation of a PHP1.5562/kWh MAP in 2015, we expect the average distribution rate to fall by 3%. Meanwhile, we forecast a further decline in the distribution rate as we factor in the new tariffs for the 4th regulatory period beginning RY2017. As RY2017 begins in 1 July 2016 and ends on 30 June 2017, the 24% decline in the MAP will be distributed over 2016 and 2017. We estimate the average distribution rate to fall by 12% YoY for both 2015 and 2016, and begin to see an improvement in 2018. Meralco: distribution revenue and average distribution rate


Our forecast of a tariff reduction beginning in 2H16 outweighs our electricity volume growth assumption for the same period. We forecast distribution revenue to fall by 9% YoY to PHP51.78bn for 2016. And a further 9% YoY decline in distribution revenue is expected for 2017 with the first full-year of implementation of new tariffs. Recovery with continued improvement in margins Significant gains in operating efficiency have boosted Meralco’s margins. Its EBIT margin based on revenues excluding pass-through items showed a marked improvement from 24% in 2009 to 46% in 2014. Meralco: EBIT and EBIT margin on revenue (excluding pass-through items)


We expect Meralco to sustain the operating efficiencies that have led to the improvement in its margins. In addition, we factor in a gradual decline in provisions for probable charges (considered as operating expenses), as we expect the company is in the tail end of its provisioning for pending legal cases involving possible refunds to consumers. Between 2011 and 2013, Meralco made provisions for a total of PHP28.04bn or an average of PHP9.35bn a year. This compares with its 2009 and 2010 provisioning of PHP2.17bn and PHP4.12bn, respectively. As a result, we expect the company’s EBIT margin to hold up above 43% for the period 2015-18E, despite our lower distribution revenue estimates for the same period. Overall earnings prospects We forecast a 2% YoY decline in the distribution business’s core income, at PHP17.66bn, for 2015, due to the full-year implementation of the lower MAP beginning in 2H14. However, the effect of our lower distribution rate assumption for the 4th regulatory period will only be seen beginning 2016, as our forecast points to a 10% YoY decrease in the distribution business’s core income, to PHP15.86bn, for 2016.

1.6012 1.6333 1.6510 1.5562 1.5562

1.1857 1.2312 1.2783

RY12 RY13 RY14 RY15 RY16E RY17E RY18E RY19E

3rd regulatory period(1 July 2011 - 30 June 2015)

4th regulatory period(1 July 2015- 30 June 2019)

48,606 50,892 56,105 56,382 56,706

51,781 47,319

50,946

1.59 1.55 1.65 1.60 1.56

1.37 1.21 1.25

2011 2012 2013 2014 2015E 2016E 2017E 2018E

Distribution revenues (PHPm) Ave d istribution rate (PHP/kWh)

7,633

12,293

17,839 19,108

24,150 26,166 25,754

23,143 20,339

22,141 24%

28%

37% 38%

43%46% 45% 45% 43% 43%

2009 2010 2011 2012 2013 2014 2015E 2016E 2017E 2018E

EBIT (PHPm) EBIT marg ins on revenues (ex-pass th rough items)


27 March 2015

- 12 -

The decline should continue, but bottom out, in 2017 as this will be the first full (calendar) year of the implementation of new tariffs. We estimate a net profit of PHP13.86bn, down 13% YoY. The distribution business should start to recover in 2018 alongside the increase in tariff and continued EBIT margin improvement. For 2018, we forecast the net profit of the distribution business to grow by 8% YoY to PHP15.03bn. Strong balance sheet to support expansion Meralco: net cash (debt) (PHPm)

Source: Company

The distribution business provides stable and strong cash-flow generation, enabling Meralco to be in a net cash position since 2010. As at the end of 2014, its cash and interest-bearing debt amounted to PHP69.47bn and PHP30.04bn, respectively, putting the company in a net cash position of PHP39.43bn. Its gearing ratio was also low, at 0.5x, as at end-2014. Meralco has historically churned positive free cash flows despite its high capex requirements. Although we estimate free cash flows to fall to PHP10.46bn in 2014 from PHP26.62bn in 2013 due to a big negative working capital change of PHP13.50bn, we expect the distribution business to maintain its positive free cash flow generation throughout the rest of our forecast period to 2024. Our negative working capital forecast in 2014 arose from the sudden increase in trade payables at the end of 2013 (generation charges for November and December 2013 spiked and the courts put a temporary restraining order on Meralco to collect from customers). Meralco’s strong balance sheet and cash flow generation gives it the financial flexibility to take on new projects such as its ventures into power generation.

Meralco: free cash flow – parent (distribution) and others 2009 2010 2011 2012 2013 2014E 2015E 2016E 2017E 2018E 2019E 2020E 2021E 2022E 2023E 2024EEBIT 7,633 12,293 17,839 19,108 24,150 26,166 25,754 23,143 20,339 22,141 24,200 26,212 27,934 29,747 31,658 33,668Add: Depreciation and amortisation 4,831 5,911 5,504 5,576 6,118 6,093 6,357 6,608 6,868 7,137 7,415 7,698 7,974 8,245 8,510 8,770Add: Provisions 2,172 4,119 7,869 8,948 10,736 10,114 9,000 7,000 5,000 5,000 5,000 5,000 5,000 5,000 5,000 5,000Less: Working capital 15,835 (321) 1,177 6,518 2,421 (13,503) 193 (2,887) 2,140 3,107 3,345 3,494 2,571 3,900 4,208 4,564Capital expenditure (8,101) (8,510) (8,343) (9,353) (9,311) (9,629) (11,649) (12,107) (12,585) (13,083) (13,602) (13,692) (13,785) (13,882) (13,984) (14,089)Income taxes (2,331) (4,023) (5,953) (5,741) (7,054) (8,353) (7,872) (7,211) (6,434) (6,946) (7,550) (7,965) (8,618) (9,155) (9,754) (10,342)Tax benefit of interest expense (1,140) (168) (434) (458) (444) (432) (426) (420) (403) (449) (475) (701) (584) (639) (683) (749)Free Cash Flow to Firm 18,899 9,301 17,660 24,598 26,616 10,457 21,357 14,126 14,924 16,907 18,332 20,045 20,491 23,216 24,955 26,822


(17,068) (24,370)

(44,141)

(60,500) (59,851)

(69,467)

(21,816) (21,221) (24,443) (24,613) (33,591) (30,042)

(4,748)3,149

19,698

35,887 26,260

39,426

2009 2010 2011 2012 2013 2014

Cash Interest-bearing debt Net cash (debt)


27 March 2015

- 13 -

Generation: new source of power

Meralco’s re-entry into the power-generation business should serve as its next leg of growth, as well as complement its distribution business by securing a cheap and stable power supply

Need for new capacity

The Department of Energy (DoE) warns of a power shortage of up to 1,000MW in the Luzon grid during the summer months of 2015. A combination of high demand due to the hotter weather, the planned maintenance shutdowns of large plants, and a possible El Niño effect on the water levels of hydro plants are the contributing factors for the looming power shortage. The government has implemented stop-gap measures, such as an interruptible load programme and ensuring the president of the country has emergency powers to contract capacity from readily available sources like generation sets. However, even if this immediate issue is addressed, the much more important message presented by this is the fact that new capacity is still very much needed.

Re-entry into power generation

Until the early 1970s, Meralco was into both power distribution and generation. However, during the martial law regime, the country’s electricity generation and transmission facilities were nationalised, forcing the company to sell all its power-generation assets to the government and turning Meralco’s core business exclusively into distribution. However, in 2013 Meralco re-entered the power generation business both through partnerships with existing players and the development of new power plants. Its power-generation assets are lodged under its subsidiary Meralco PowerGen Corp (MGEN).

Leveraging the distribution business MGEN’s power projects, at least those in Luzon, have the advantage of being backed by Meralco (distribution) in terms of the offtake of capacity. While any power supply agreement between MGEN’s plants and Meralco must be signed off by the ERC, this arrangement still gives MGEN a big competitive advantage over plants of similar profiles. Current regulations allow cross-ownership between distribution and generation companies. The law, however, limits the DU from sourcing more than 50% of its total power demand from bilateral contracts with associated generation companies to prevent an abuse of power. The restriction is only applicable to the DU’s sourcing for its franchise area. Based on Meralco’s 2013 electricity sales of 34,084GWh, it is allowed to contract 17,042GWh from its affiliated power-generation companies. Assuming an average capacity factor of 80%, this translates into an allowance of up to 2,432MW of installed capacity. This limit will go up as demand in Meralco’s franchise area increases. Also benefits its distribution business Meralco highlights that another reason the company ventured into the power-generation business, particularly its projects in Luzon, is to serve as support for its distribution business. Having its own generation plants helps ensure a stable supply for the distribution business, particularly with the current demand-supply scenario of thin reserves and looming power shortage in summer 2015. By securing more bilateral contracts, Meralco is minimizing the effect of any price spike in the spot market. Although generation charges are just pass-through charges, Meralco usually bears the brunt of consumer anger for any increase in electricity price. The most recent example was in December 2013, where Meralco was the first to be blamed for the PHP4.15/kWh increase in the monthly electricity charge, though the actual reason was the spike in generation charges, particularly those sourced from the spot market. This issue even resulted in the Supreme Court issuing a temporary restraining order on Meralco to collect the increase in rates. Meralco is in fact already going in this direction. As of 9M14, we saw a big decline in purchases from the spot market to 2.9%, from 5.3% in 2013.


27 March 2015

- 14 -

Meralco: breakdown of net system input (GWh)

Source: Company

Partnering with established generation players

Having just re-entered the power-generation business, Meralco’s strategy is to partner with established players in the business, both through acquiring stakes and undertaking new projects with existing players. This allows Meralco to leverage on its partner’s technical know-how and experience in power plant operations. Through its partnerships, Meralco is also able to expand its footprint beyond Luzon where its franchise area is situated. In fact, Meralco currently has operating plants in other regions in the Philippines (Visayas) and overseas (Singapore). Meralco: timeline of attributable power-generation capacity (MW)

Source: company, Daiwa forecasts

Global Business Power: dominant player in the Visayas Global Business Power is one of the largest power producers in the Visayas region, with total dependable capacity of 704MW (one-third of total installed capacity in the region). GBP was established in 2002 and has 9 power-generation facilities across the Visayas Islands and 1 in Mindoro, an island towards the southwest area of Luzon.

Global Business Power Corp (GBP) Project type Minority investment Plant type Various coal and diesel Capacity 410MW (gross) coal;

217MW (gross) diesel Location Visayas region % Meralco equity 22% Partner GT Capital Holdings (GTCAP:PM), First Metro Investments Corp, Orix Corp (of

Japan) Expected COD n/a Status Additional 82MW (gross) coal-fired plant started commercial operations Sep

2014; additional 150MW (gross) coal-fired plant by 3Q2016 (company's target)Offtake agreement VECO, PECO, export/industrial zones, mining/industrial companies

Source: company

GBP: power-generation facilities

Type of

plant Effective

ownership

Gross/Net capacity

(MW)

Effective gross/net capacity

(MW)Cebu Energy Development Corp (CEDC) Clean coal 52.1% 246/216 128/113Panay Energy Development Corp (PEDC) Clean coal 89.3% 164/144 146/129Toledo Power Corp (TPC) TPC – Sangi Coal 100.0 60/50 60/50 TPC – Carmen Fuel oil 100.0 40/36 40/36 TPC – 1A Fuel oil 100.0 82 82Panay Power Corp (PPC) PPC – Iloilo 1 Fuel oil 89.3 72/69 64/62 PPC – Iloilo 2 Fuel oil 20/18 20/18 18/16 PPC – Nabas Fuel oil 13/11 11/10 100 PPC – New Washington Fuel oil 5/4.5 4.5/4 100Global Power Resources Inc (GPRI) Fuel oil 8/7 8/7 88.2

Source: GTCAP

In October 2013, Meralco purchased a 20% stake in GBP from First Metro Investment Corp for PHP7.15bn. This marked Meralco’s official re-entry in the Philippines power-generation industry. An additional 2% stake was purchased by Meralco for PHP184.87m in May 2014. In total, Meralco holds a 22% interest in GBP for a total acquisition cost of PHP7.33bn. Based on GBP’s 2013 financials, the transaction is equivalent to 17.2x PER. GBP: geographical distribution of power plants

Note: TPC1A and PEDC Unit 3 not yet included in map

Source: GTCAP

26,077 28,028 30,661 32,918 34,724 27,307

29,922 32,644 33,081

35,176 36,673

28,112

2009 2010 2011 2012 2013 9M14

Contracted Wholesale Electricity Spot Market

155 188 188 188

224 224 224 224

232

379 412 412

644

2015 2016E 2017E 2018E

GBP Pacific Light San Buenaventu ra Power


27 March 2015

- 15 -

GBP allows Meralco to have access to a fast-growing market in the Visayas region, for which the DoE projects average annual growth in peak demand of 4.5% until 2030. GBP has 2 brownfield expansion projects. The first is the 82MW coal-fired power plant in Toledo City, Cebu (TPC1A), which has been operational since September 2014, three months ahead of target. Next is the 150MW coal-fired plant in Iloilo City. An equity call amounting to PHP4.43bn (Meralco’s share is PHP1.07bn) was conducted by GBP in 1H14. The construction of this plant commenced in July 2014 and the company expects it to be completed by July 2016. 82MW Toledo (TPC 1A) coal plant

Source: GTCAP 9M14 presentation materials

PEDC ground-breaking ceremony

Source: GTCAP 9M14 presentation materials

Meralco’s partners in GBP are GT Capital Holdings Inc (GTCAP PM) and First Metro Investment Corp (an affiliate of GTCAP), and a Japanese firm, Orix Corp. Each has 51.3%, 4.7% and 22% interests, respectively, in GBP. GTCAP is one of biggest conglomerates in the country with businesses in banking, automotive, power, property development, and insurance.

PacificLight: testing the waters overseas In March 2013, MGEN acquired a 28% effective stake in PacificLight Power Pte Ltd (PacificLight) which, at that time, was at the final construction phase for a 2x400MW LNG-fired power plant in Jurong Island, Singapore, for a consideration of USD217.4m (total project cost was USD965m). The plant started full commercial operations in February 2014. MGEN has partnered with First Pacific (Meralco’s effective major shareholder) and Petronas Power, a subsidiary of Malaysia’s state energy firm Petronas, which respectively have 42% and 30% effective stakes in PacificLight. PacificLight Power Co Ltd Project type Effective minority Plant type Liquefied Natural Gas-fired Capacity 2x400MW Location Jurong Island, Singapore % Meralco equity 28% Partner(s) First Pacific Co Ltd (142 HK), Petronas Power Status In commercial operations since February 2014 Offtake agreement Vesting contracts with the Singapore government, retail contracts, merchant

Source: Company

Singapore’s electricity market has excess power-generation capacity currently. From 2009 to mid-2014, its ratio of peak system demand to installed electricity generation capacity averaged at around only 60%. Similar to the Philippines, Singapore has an electricity spot market that also follows a market-clearing process, wherein the price is set at the point where offers by the generators meet total demand. All generators that offered until that point will then be cleared and paid at the market-clearing price. In effect, the market favours the lowest-cost power producer. Generators are free to enter into bilateral contracts but are limited to purely financial arrangements. Both the oversupply scenario and spot market encourages generators to be more efficient. As one of the newest plants in Singapore, PacificLight has the advantage of being equipped with the latest and most efficient technology available. The plant uses the energy-efficiency F-class combined cycle gas turbines from Siemens and has a fast ramp-up time of only 60 minutes which makes it one of the most efficient and flexible power plants in Singapore.


27 March 2015

- 16 -

Singapore: historical electricity demand-supply

Source: Energy Market Authority of Singapore

San Buenaventura coal: advanced stages of development In August 2013, MGEN partnered with Thailand’s Electricity Generating Public Co (EGCO TB) for the construction of a 500MW (455MW net) supercritical pulverised coal-fired power plant that will be an expansion of its existing 460MW coal plants in Mauban, Quezon. The new project will be under San Buenaventura Power Ltd Co (San Buenaventura Power) which is 51%-owned by MGEN and 41%-owned by New Growth B.V., a 98%-owned subsidiary of EGCO. A power supply agreement (PSA) covering the plant’s entire output was signed on 2 June 2014 with Meralco and immediately submitted to the ERC for approval. The selection of the EPC contractor and financing agreement are in the final stages, but both are pending the approval of the PSA. The project cost is still to be determined as the EPC contract has to be finalised, but based on benchmark projects, the cost of developing a coal plant ranges from USD2.3m-2.4m per MW, which translates into a total cost of around USD1.15bn-1.2bn. the project is targeted for completion between late-2017 and 2018. San Buenaventura Power Ltd Project type Brownfield Plant type Supercritical coal-fired Capacity 455MW (net) Location Mauban, Quezon % Meralco equity 51% Partner New Growth BV (subsidiary of EGCO of Thailand) Expected COD 2018 Status EPC contract in final stages of discussion; finalising project financing

agreement of up to PHP40bn Offtake agreement Power-supply agreement with Meralco signed in May 2014 and awaiting

ERC approval

Source: company

Actively looking for more power-generation projects MGEN’s thrust is to build its domestic power-generation portfolio by 2020 to up to 3,000MW. (Note that for the 3,000MW target, Meralco attributes full capacity once control of the project is with the company, regardless of the actual interest.) Against this target, Meralco’s current attributable domestic capacity, including the under-development 150MW PEDC Unit 3 and 500MW San Buenaventura Power, totals only around 688MW. Although this still leaves a lot of room to fill in terms of capacity, MGEN currently has 2 big power projects under study that could allow MGEN to reach its target capacity. First is the 600MW coal-fired power plant in Subic through a consortium called Redondo Peninsula Energy (RP Energy). The project is designed to use the most advanced supercritical circulating-fluidized bed (CFB) technology and is estimated by Meralco to cost USD1.2bn. Meralco’s partners in the consortium are established power-generation companies Aboitiz Power Corp (AP PM) and Taiwan Cogeneration International Corp. RP Energy was supposedly Meralco’s first power-generation project. The partnership agreement was signed as early as July 2011, but it met opposition when a writ of kalikasan, filed by militant groups, was issued by the Court of Appeals, which in turn invalidated its environmental compliance certificate (ECC). Meralco appealed to the Supreme Court and on 3 February 2015 was granted a favourable decision that reversed the earlier ruling. With this development, Meralco said it would proceed with the project and start renegotiating its EPC contract and financing agreement. RP Energy has spent PHP1bn on site development costs for the project. Meralco targets to commence construction within 2015. Assuming construction on the project begins this year, we think the plant could be ready in late-2018 or 2019. However, we have not yet factored RP Energy into our model or DCF valuation pending more concrete developments from the company.

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

Jan-

09

Apr-0

9

Jul-0

9

Oct

-09

Jan-

10

Apr-1

0

Jul-1

0

Oct

-10

Jan-

11

Apr-1

1

Jul-1

1

Oct

-11

Jan-

12

Apr-1

2

Jul-1

2

Oct

-12

Jan-

13

Apr-1

3

Jul-1

3

Oct

-13

Jan-

14

Apr-1

4Insta lled electricity generat ion capacity (MW) Peak system demand (MW)


27 March 2015

- 17 -

Redondo Peninsula Energy Inc (RP Energy) Project type Greenfield Plant type Circulating fluidized bed coal-fired Capacity 2x300MW Location Subic Bay Freeport Zone % Meralco equity 47% Partner Aboitiz Power Corp (AP PM), Taiwan Cogeneration Expected COD Currently n/a Status On 3 Feb 2015, the Supreme Court reversed the earlier ruling of the

Court of Appeals, which had granted the petition for the issuance of a writ of kalikasan on the project and invalidated the environment compliance certificate. The Supreme Court also upheld the legality of the lease and development agreement for the project.

Offtake agreement Currently n.a.

Source: Company, Daiwa

Meralco is also involved in ongoing development activities for a 2x600MW supercritical pulverized coal-fired power plant in Atimonan, Quezon (Atimonan One Energy). An international engineering firm has been engaged as Meralco’s engineer while it is in the process of the engineering, procurement and construction prequalification. Meralco is also currently applying for an ECC. In late February 2015, it emerged that Meralco is in preliminary talks with Osaka Gas (9532 JP) to build a liquefied natural gas (LNG) facility in the Philippines. The project could potentially include a gas power plant with a generating capacity of 1,200-1,500MW at a cost of up to USD2bn. It could also comprise a regasification facility for the imported LNG. The company said it intends to finalise negotiations with Osaka Gas within 2015.

Growing contribution from power generation

For 9M14, the power-generation business was still a drag on earnings, with GBP’s PHP222m equity earnings offset by PacificLight’s loss of PHP294m, as it is still in the early stages of its operations. Combined, we expect these units to only nearly break even in 2014. Meralco: contribution from power-generation units (PHPm)


Note: 9M14 total only for 2014, comprises Global Business Power and Pacific Light

Going forward, we expect a significant improvement in the contribution of its power-generation business. Meralco has 3 power-generation projects that it has just completed or expects to complete in 2015-18, which should provide a continuous boost to Meralco’s net profit until 2019. Meralco: timeline of attributable power-generation capacity (MW)


First in the pipeline is the 82MW Toledo (TPC 1A) coal-plant expansion, construction of which was completed in late-4Q14. We expect a full-year contribution to earnings from TPC 1A in 2015. By 2H17, we expect another project to have come online, the 150MW PEDC Unit 3 coal-plant expansion. The construction of PEDC Unit 3 began in July 2014, and the company is targeting completion within 24 months of that date. We expect this to start contributing to earnings in late-2017 and its full-year contribution to be felt in 2018. Both TPC 1A and PEDC Unit 3 are expansion projects of Meralco’s 22%-owned affiliate GBP. Between 2015 and 2017, we expect the net profit from the power-generation business to grow from PHP538m for 2015 to PHP931m in 2017 as a result. By 2H18, we expect the completion of Meralco’s first majority-owned generation project, the 500MW San Buenaventura coal plant project. It should provide a boost in earnings for 1H18 and for the full-year beginning 2019. We expect the combined net profit contribution for the power-generation business to jump to PHP1.88bn in 2018 and PHP2.97bn in 2019.

808

1,904 2,103

222 372 550 736 896

897

863 891

(71) (17)

538 779 931

1,883

2,966 3,214

9M14 2014E 2015E 2016E 2017E 2018E 2019E 2020E

San Buenaventura Power PacificLight Global Business P ower

155 188 188 188

224 224 224 224

232

379 412 412

644

2015 2016E 2017E 2018E

GBP Pacific Light San Buenaventura Power


27 March 2015

- 18 -

Valuation: power-generation assets ascribed zero value

Initiating coverage with a Buy (1) rating and a 12-month target price of PHP324.00. Based on our DCF valuation, investors are essentially getting Meralco’s power-generation assets “for free”.

SOTP-based TP of PHP324

We separately value Meralco’s power-distribution and generation businesses using a DCF methodology, which gives us our SOTP target price of PHP324.00. Distribution still the biggest asset, but generation becoming a substantial contributor The distribution business remains Meralco’s biggest earnings driver, accounting for more than 90% of the company’s consolidated equity value. Nevertheless, the growing contribution of its power-generation business is notable from essentially nil a few years ago to 10% of the total equity value today. Meralco: SOTP valuation

Total equity value

Meralco’s stake

Attributable equity value

Value per share

% of total

(PHPm) (PHPm) (PHP/sh)Parent (distribution) and others 330,314 100% 330,314 293.07 90%PacificLight 26,357 28% 7,380 6.55 2%San Buenaventura Power (SBP) 27,722 51% 14,138 12.54 4%Global Business Power (GBP) 61,142 22% 13,451 11.93 4%Total 324.09 100%Target price 324.00 No of outstanding shares 1,127.10


Among Meralco’s power-generation projects, its 51% stake in SBP’s 500MW coal plant provides the largest contribution to our TP, at PHP12.54, followed by its 22% stake in GBP, at PHP11.93, and its 28% effective interest in the 800MW LNG plant in Singapore, at PHP6.55.

Since San Buenaventura coal and GBP’s 150MW PEDC Unit 3 coal are still under development, investments in these projects should weigh down free cash flows over 2015-17, especially in 2016 when we expect bulk of the capex for San Buenaventura coal will be needed. However, once these projects become operational, in 2017 for PEDC Unit 3 coal, and 2018 for San Buenaventura coal, we expect strong free cash flow generation resulting in significant improvement in the DCF-based valuations. Meralco: projected free cash flows to the firm (PHPm)


In our valuation and forecasts, we have not factored in Meralco’s other potential power-generation projects, such as the Subic coal plant, Atimonan One Energy, and LNG plant (partnered with Osaka Gas), as we are waiting for more concrete developments. DCF parameters We have discounted the 10-year free cash flows to firm of the parent (for the distribution business) and for the 3 power-generation units using appropriate WACCs for each. We use a WACC of 9.66% for the distribution business. This is higher than the computed discount rates of 7.18% for both SBP and GBP and 6.08% PacificLight. The key difference is the weights of the market value of equity and debt, except for PacificLight, for which we have used the different risk and return parameters applicable in Singapore. With strong cash flow generation from its distribution business, Meralco (parent) has minimal debt on its balance sheet and is currently in a net cash position. As a result, its debt/equity mix is skewed to the (market value of) its equity, with the weighting at 90:10. Meanwhile, we have applied a 50:50 weighting for debt and equity for the unlisted power units. We assume terminal growth rates of 3% for the company’s Philippine-domiciled business and 2% for its Singapore-based power unit.

10,457

21,357 14,126 14,924 16,907 18,332 20,045

(4,481)(12,005)

(5,941) (3,740)

2,981 2,649

9,546

16,681

2,232 10,404

14,675 22,739

24,082

2014E 2015E 2016E 2017E 2018E 2019E 2020E

GBP MER parent San Buenaventura Power Pacific Light


27 March 2015

- 19 -

Meralco: DCF parameters

Parent and others

San Buenaventura

Power

Global Business

Power PacificLightWACC 9.66% 7.18% 7.18% 6.08%Cost of equity 10.34% 10.50% 10.50% 8.00%Risk-free rate 4.50% 4.50% 4.50% 2.50%Equity beta 0.97 1.00 1.00 1.00 Market risk premium 6.00% 6.00% 6.00% 5.50%After-tax cost of debt 3.50% 3.85% 3.85% 4.15%Terminal value 3.0% 3.0% 3.0% 2.0%Terminal year 2024E 2024E 2024E 2024E


Earnings multiples at the high end in the near term

The stock is trading currently at a 2015E PER of 16.7x and 18.3x 2016E PER (based on the closing share price of PHP270.20 on 26 March 2015). Granted, these are at the high end of the Bloomberg consensus estimates for the regional comparable power distribution/generation companies, which range from 11.1-27.0x (average of 15.4x) for 2015 and 9.6-18.4x (average of 13.5x) for 2016. Our high earnings multiples are due to our tepid 1% YoY net profit growth forecast for Meralco in 2015 and decline of 9% YoY for 2016, resulting from our lower tariff assumptions. Similarly, Meralco remains at the high end of the PBR and EV/EBITDA metrics when compared with its regional peers (Bloomberg data). At its current share price, Meralco is trading at PBRs of around 3.7x for 2015E and 3.6 for x 2016E, and EV/EBTIDA multiples

of 8.0x for 2015E and 9.4x for 2016E. These compare with the estimated regional peer averages for 2015 and 2016 of 2.4x and 2.2x PBR, and 9.4x and 8.9x EV/EBITDA. Meralco: 12-month forward PER bands

Source: Daiwa

Meralco: 12-month forward EV/EBITDA bands

Source: Daiwa

Power sector regional peer comparison

Market PER PER PBV PBV EV/EBITDA EV/EBITDA Div Yield Div Yield ROE ROE ROA ROATicker Capitalisation 2015E 2016E 2015E 2016E 2015E 2016E 2015E 2016E 2015E 2016E 2015E 2016E

Company & Exchange (PHPm) (x) (x) (x) (x) (x) (x) (%) (%) (%) (%) (%) (%)Aboitiz Power Corp AP PM 332,609 17.9 16.7 3.3 3.1 13.1 11.7 3.3 3.4 18.7 18.7 8.7 8.2 Energy Development Corp EDC PM 159,000 13.5 12.0 3.1 2.6 10.2 9.5 2.5 3.1 24.7 23.4 9.8 10.4 First Gen Corp FGEN PM 109,828 12.8 9.6 1.7 1.5 6.4 5.8 1.5 1.6 12.6 14.8 4.8 5.6 GD Power Development Co-A 600795 CH 616,038 11.3 10.2 1.6 1.5 8.0 7.5 2.9 3.2 13.2 13.7 3.1 n.a.Inner Mongolia Mendian Hu-A 600863 CH 192,536 15.3 13.1 n.a. n.a. n.a. n.a. n.a. n.a. 13.0 n.a. n.a. n.a.Manila Electric Co MER PM 305,669 16.5 18.4 3.6 3.4 7.9 8.7 4.5 4.1 22.2 18.4 7.1 6.0 Power Grid Corp of India Ltd PWGR IN 545,252 14.3 12.0 2.0 1.8 10.1 8.5 2.5 3.0 14.4 15.9 4.0 5.0 Ratchaburi Electricity Generating Holding PCL RATCH TB 120,632 12.7 10.8 1.3 1.3 9.6 9.2 4.0 4.6 11.0 12.0 7.1 7.7 Semirara Mining and Power Co SCC PM 172,603 18.8 16.5 6.3 5.2 13.4 12.0 2.6 2.9 36.2 34.3 14.9 15.8 Shenergy Co Ltd-A 600642 CH 255,558 13.5 12.9 n.a. n.a. n.a. n.a. n.a. n.a. 13.0 12.0 n.a. n.a.Shenzon Energy Group Co L-A 000027 CH 250,287 18.1 18.4 1.8 1.7 9.5 9.5 2.5 2.4 10.3 9.6 n.a. n.a.Tata Power Co Ltd TPWR IN 147,663 27.0 14.5 1.5 1.4 8.6 7.9 1.5 1.8 5.2 9.3 3.2 3.4 Tenaga Nasional Bhd TNB MK 992,899 12.5 12.1 1.7 1.6 7.7 7.5 2.3 2.6 14.3 13.5 5.8 5.9 YTL Power International Bhd YTLP MK 128,055 11.1 11.7 1.0 1.0 8.2 8.6 2.8 2.8 9.4 8.5 2.8 2.7 Average 15.4 13.5 2.4 2.2 9.4 8.9 2.7 2.9 15.6 15.7 6.5 7.0 Max 27.0 18.4 6.3 5.2 13.4 12.0 4.5 4.6 36.2 34.3 14.9 15.8 Min 11.1 9.6 1.0 1.0 6.4 5.8 1.5 1.6 5.2 8.5 2.8 2.7 Daiwa estimates* Manila Electric Co 22.5 19.9 6.4 5.2

At current price 16.7 18.3 3.7 3.6 8.0 9.4 4.9 4.6 n.a. n.a. n.a. n.a.At target price 20.2 21.9 4.4 4.3 9.9 11.5 4.1 3.9 n.a. n.a. n.a. n.a.

Source: Bloomberg, *Daiwa forecasts for Meralco

0

50

100

150

200

250

300

350

400

450

500


(PHP/sh)

5.4x

11.3x

17.1x

23.0x

28.8x

0

100

200

300

400

500

600


(PHP/sh)

5.4x

5.3x

7.8x

10.4x

13.0x


27 March 2015

- 20 -

2015-19E earnings forecast summary Meralco posted a 6% YoY increase in its core net income for 2014. We expect more modest growth for 2015 as distribution will be dragged down by the full-year impact of the lower distribution rate implemented in 2H14, offsetting the improving revenue contribution from its generation businesses. We forecast 2015 core net profit to increase by 1% YoY to PHP18.20bn. For 2016 and 2017, we see core net profit declining by 9% and 11% YoY, respectively, due to our lower tariff estimates for the fourth regulatory period beginning July 2016. We start to see a recovery in 2018, with 2019 being the banner year, driven by improvements in the distribution business coupled with the contributions from its new generation projects. Affiliate GBP’s 150MW PEDC Unit3 is targeted to finish construction in 2H17, with a full-year earnings contribution registered in 2018. Meanwhile, we expect the 500MW San Buenaventura plant to start operations in 2H18. We see core net profit reaching PHP16.91bn (+14% YoY) in 2018 and PHP19.42bn in 2019 (+15% YoY).

Steady and healthy dividends

Meralco’s strong cash flow generation enables it to pay out healthy cash dividends to its shareholders. The company has a dividend policy of paying regular cash dividends equivalent to 50% of core net profit plus a “look-back” approach, which allows the company to pay additional special cash dividends. Since 2013, Meralco has been declaring cash dividends at around 80% of core earnings. Meralco’s dividend yield is one of the highest of the constituent members of the PSEi. Based on the current share price, we estimate a dividend yield of 4.9% for 2015. Although dividend amounts might be slightly reduced in the short term due to the expected lower core net profit, assuming the company maintains its 80% payout, we still see Meralco as one of the top-10 dividend-paying index constituents. As net profit recovers and fresh cash flows from new generation projects pour in, we expect dividends to significantly improve as well.

Meralco: dividend payments and payout ratio


Note: *Adjusted to reflect the timing of dividend payments based on the core earnings base

Meralco: dividend yield (%) forecasts for index stocks (2015)

Source: Bloomberg, Daiwa for Meralco

6.45

9.25 10.10

12.08 12.87 13.33

12.50 11.32 11.06

12.67 14.09 60%

70% 70%

80% 80% 80% 80% 80% 80% 80% 80%

2010 2011 2012 2013 2014 2015E 2016E 2017E 2018E 2019E 2020E

DPS (annua l) Dividend payou t*

0

1

2

3

4

5

6

TEL

MER

GLO AP

DM

CAE

VSC

CED

CEM

PBP

IBD

OU

RC RLC AG

IFG

EN SMSM

CJF

CSM

PH

ALI

MPI

MBT IC

TPC

OR

MEG AC LT

GJG

SG

TCAP

BLO

OM


27 March 2015

- 21 -

Key risks

Regulatory and political risks are the key risks for Meralco’s distribution business. With its entry into the power-generation business, other risks include technical and operational, market and execution risks.

Regulatory and political risks

Meralco’s distribution business is regulated by the government. Among others, its franchise must be renewed every 25 years and its tariffs must be approved by the regulator. In addition, Meralco has been bearing the brunt of consumer anger as it is in charge of collecting payments for electricity bills, including pass-through charges such as generation and transmission.

DU’s tariffs still in the hands of the regulator and franchise requires renewal Currently, the tariffs for the distribution business are determined through the PBR scheme, wherein rates are reset every 4 years. Although the PBR scheme has a general template when it comes to calculating rates, there is still flexibility to change the methodology of computation for certain parameters, such as the risk-free rates, energy sales, operating and capital expenditure. The regulator essentially has the power to decide on the rates as long as it is able to justify an equitable return for the DUs. And since the top officials of the regulating body are political appointees, the possibility of politics affecting the regulator’s decisions cannot be discounted. In addition, Meralco’s franchise is renewed every 25 years and approved by congress. Its last renewal was in 2003 and its current franchise is valid until 28 June 2028. The renewal process could be affected by the motives of the politicians. Serving as Meralco’s defence amid a hostile political atmosphere is its important role of delivering a vital public service (electricity) to more than 25% of the population and the country’s economic centre. Any disruption or discontinuation of the electricity distribution service that Meralco provides will likely cause severe inconvenience to the people, as well as negative economic consequences.

Operational and execution risks

Facilities prone to natural disasters The Philippines was ranked the third-most disaster-prone country in the world due to its high exposure to natural disasters, according to a United Nations-led study in 2012. Consequently, Meralco’s facilities are also vulnerable to such natural disasters. Meralco can apply to recover any additional costs relating to force majeure events. In addition, any disruption in service will be disregarded under the tariff determination methodology for the purpose of determining any service-related rewards or penalties. However, the time it takes to obtain such recoveries is uncertain. In addition, Meralco will not be able to recover any lost sales from service disruptions. As of 9M14, 2 major typhoons interrupted Meralco’s service and resulted in total unrealised sales of 263GWh. Meralco: impact of major weather conditions for 9M14

Typhoon Mario Typhoon Glenda Inclusive dates (including completion of restoration) 19 September 2014 15-20 July 2014 Circuits affected at the height of the typhoon 91 627 % of total circuits 12.98% 89.44% Sustained interruption events 37 616 Momentary interruption events 54 11 Customers affected during the height of typhoon 397,714 4,640,000 % of total customers 7.49% 87.50% Unrealized sales (GWh) 33 230 Total damage to facilities in PHPm (poles, wires, others) 0.93 399.46

Source: company

No experience in power generation Meralco can be considered a newcomer when it comes to power generation as it has no recent experience in the construction and operations of power plants. However, we think the execution and operational risks of its power projects due to this lack of experience should be mitigated by Meralco’s strategy of partnering with established power-generation players such as GBP and EGCO.

Market risk

The key market risks for Meralco relate to important elements of its tariff determination – risk free rate and forecast electricity sales. As discussed earlier, the risk free rate is a key variable in the computation of Meralco’s required return. If the risk free rate drops, Meralco’s required return (and consequently its tariff) will likewise be lower. Another component of the tariff determination is forecast electricity sales. As Meralco bears the power distribution volume risk, if the actual distribution volume is lower than forecast, Meralco will shoulder the shortfall in the form of lower revenue. The opposite scenarios would be the upside for the company.


27 March 2015

- 22 -

Appendix I: company profile

Largest electricity distributor

Meralco is the largest electricity-distribution company in the Philippines. Its franchise area spans 9,337 sq km and covers Metro Manila and the provinces of Rizal, Cavite, Bulacan and parts of Pampanga, Batangas, Laguna, and Quezon. It serves more than 5m customers, which translate into nearly 25m people. In addition, through its 65%-owned subsidiary Clark Electric Distribution Co (CEDC), it holds the franchise for the Clark Industrial Zone in Clark, Pampanga, which covers 44 sq km. Meralco: customer count per group (’000s)

Source: Company

The company began operations in 1903 as the Manila Electric Railroad and Light Company, providing electric light and power and an electric street railway system in Manila and its suburbs. However, its railway system was destroyed during World War II, paving the way for the company to focus on electricity generation and distribution, beginning 1948. Under the Martial Law regime in 1972, the company’s power-generation assets were forcibly nationalised, leaving its electricity distribution as its primary business. Meralco: its 1900s Tranvia in Manila

Source: http://kahimyang.info

Today, Meralco is involved in other electricity-related services that primarily are integrated into the distribution business. These include electro-mechanical, construction, consulting and related manpower, as well as light-rail-related maintenance services, e-transaction and bills collection, insurance and e-business development and energy-systems management.

Meralco: subsidiaries

Company Meralco stake Business focus

Power Clark Electric Distribution Corp 65% Distribution utility in the Clark Economic Zone, a 320 sq km urban centre. Location of high-end IT-enabled industries, aviation, and logistics enterprises, tourism and other sectors

Meralco PowerGen Corp 100% Organised to develop competitive and reliable power plants of up to 3,000MW of capacity Services Meralco Industrial Engineering Services Corp 99% Contractor-specialist engaged in engineering, construction and maintenance activities relating to power generation, transmission

and distribution, as well as water resources and telecommunications Meralco Energy Inc 100% Provides beyond-the-meter energy services to Meralco's key accounts, covering energy-efficiency services, power quality

solutions, innovative systems in advanced metering infrastructure CIS Bayad Center Inc 100% Bills-payment collection service operating nationwide; accepting payments for a wide range of companies including banks,

telecoms, utilities, and cable television, among others Radius Telecoms Inc 100% Data-connectivity solutions provider which operates a fibre-based telecommunications infrastructure, expanding to more than

2,000km across the Meralco franchise area Meralco Financial Services Corp (Finserve) 100% Provides innovative customer-based products and services that support Meralco's core business Lighthouse Overseas Insurance Ltd 100% Non-life insurance company that reinsures Meralco's major catastrophic risk exposure Republic Surety and Insurance Co Inc 100% Insurance company licensed to write all lines of non-life insurance and surety, both on a direct and reinsurance basis Miescorrail Inc 100% Design and construction of power-supply substations and distribution systems for railways, maintenance of railway-power

systems, consultancy services for railway projects

Source: Company

4,277 4,412 4,580 4,735 4,901

410 421 433 440 453 4,701 4,847 5,027 5,189 5,368

2009 2010 2011 2012 2013

Residential Commercial Industrial Streetlights Total


27 March 2015

- 23 -

Meralco: organisational chart (as of 31 December 2013)

Source: Company

Ownership history

Meralco is majority-owned by the First Pacific Group of Indonesia’s Salim Family and under the management of Manuel V. Pangilinan. The group’s ownership is through its Philippine Long Distance Telephone Co (TEL PM) and Metro Pacific Investments Corp (MPI PM), which collectively owns 49.96% of Meralco. In addition to MPI’s 5% direct stake, TEL and MPI each hold 50% of Beacon Electric Asset Holdings, which directly has a 44.96% stake in Meralco. Meanwhile, Meralco’s other major shareholders are JG Summit Holdings (JGS PM) of the Gokongwei Family with its 27.12% stake, and the Lopez family with its 3.95% interest through First Philippine Holdings (FPH PM) and First Philippine Utilities Corp. The remaining 18.97% is owned by institutional investors and the public.

Meralco: ownership structure (January 2015)

Source: Company

Meralco’s ownership has gone through several hands throughout its history. It was founded by an American entrepreneur but was briefly transferred to Japanese control during World War II. In 1961, a group of Filipino investors led by Eugenio Lopez Sr bought the company from its American owners, and it was the first major American enterprise to be “Filipinized”. Until 2009, the Lopez family had control of Meralco except during the Martial Law years (1972-1986) when the Marcos regime stripped away the company’s ownership from the Lopez family. In more recent years, Meralco has been at the centre of board-room battles. In early 2008, the Government Service Insurance System

Metro PacificInvestments Corp

(MPI)

Institutional Investors and

public float

Manila Electric Co (MER)

Beacon Electric Asset Holdings Inc

(Beacon)

JG Summit Holdings Inc (JGS)

First PhilippineHoldings Corp (FPH) and First Philippine

Utilities Corp

44.96% 27.12% 3.95% 18.97%5.00%


27 March 2015

- 24 -

(GSIS), a state-owned pension fund, went into a proxy-war with the Lopez family but failed to secure control of the company, and eventually sold its 27% stake for PHP90/share to San Miguel Corp (SMC PM) by the end of 2008. The following year, the Lopez family sold most of its interest in the company to the First Pacific Group (through separate transactions priced between PHP90/share and PHP295/share) and another fight for control ensued between First Pacific group and SMC. First Pacific group eventually retained control and, in 2013, SMC sold all of its interest in Meralco for PHP235/sh to JGS.

World-class operations

Meralco has reaped several international awards for its operations such as the Platts Top Global Energy Company Award in 2013, where it ranked 42nd in Asia, and 149th in the 250 Global Energy Company Rankings. Has a strong IT system as the backbone of its operations The reliability of Meralco’s network comes from its ability to deliver electricity to customers according to the quantity and quality demanded. Various events could compromise delivery of electricity such as generation-plant-related outages, transmission-line failures, distribution-line outages resulting from public action, equipment breakdowns, repairs and scheduled construction or maintenance within the system. In order to mitigate these, Meralco uses a computer-based system called a “Supervisory Control and Data Acquisition System” that provides real-time and centralised monitoring of electric-system data within the network. Meralco also uses other tools, such as equipment condition monitoring devices, remote-controlled line switches, reclosers and fault indicators, strategically installed within its network, which enables the fast restoration of electricity supply whenever a power outage occurs and better planning of system loss reduction. Minimised system losses (wastage or losses from input to output) Although Meralco’s system losses are well below the regulatory limit, it is still pursuing ways to further reduce them. For technical losses, Meralco has installed equipment to improve power factors, and ensure more substation and distribution facilities. It is also constantly upgrading and rehabilitating facilities, or even replacing them. At the same time, to eliminate pilferage, Meralco strongly pursues violators of the “Anti-Electricity and Electric Transmission

Line/Materials Pilferage Act of 1994” (or RA 7832), which imposes heavy penalties and possible imprisonment on electric thieves. The law gives Meralco the right to immediately disconnect electric service for those caught for the first time and impose a surcharge of up to 100% of their current monthly bill for third and subsequent apprehensions. Initiatives to improve customer service Leveraging on a strong centralised control system, Meralco has created its Operating Trouble Management System, which is designed for faster customer assistance by facilitating the isolation of the source of power trouble and providing information to expedite the restoration of power. For new customer applications, Meralco has created an e-Service application system that allows customers to submit and process applications via e-mail. It has also streamlined the application process and started the Accredited Meralco Contractors programme, which assists in the technical requirements of customers applying for electricity service. Meralco has also ramped up its information campaigns regarding several relevant customer concerns such as typhoon preparedness and safety, and a monthly Meralco Advisory that gives information on electricity rate movements and “bright ideas” for more efficient and safer ways to consume electricity. It has also opened new channels to reach its customers through its MeralcO Virtual Engine (MOVE) app (available in Google play and App Store) and social-media pages such as Facebook and Twitter. Meralco: customer service improvement campaigns

Source: Company


27 March 2015

- 25 -

To better meet the specific needs of its large customers (corporate, industrial, commercial and government), Meralco has extended its channel partnership programmes and conducted Power-up Forums that update these customers on relevant developments and industry-specific concerns. These initiatives have resulted in higher customer satisfaction, with Meralco’s customer satisfaction index reaching a record high of 7.79 in 2013, above the company’s goal of 7.75. More importantly, higher customer satisfaction should result in stronger relationships with its customers and a better corporate image for the company.

Other projects leveraging the strength of the distribution platform

To further its growth and to leverage on its experience and expertise in the electricity-distribution business, Meralco is now seeking to expand its footprint beyond its current franchise area and take advantage of opportunities arising from changes in the power industry. Retail competition and open access allow Meralco to earn on sourcing of power supply Since the passing of the Electric Power Industry Reform Act (EPIRA) in 2001, the Philippines power industry has been going through major reforms towards privatisation and active competition. The

latest among these reforms is retail competition and open access (RCOA) scheme, which was launched in December 2012. RCOA allows both power suppliers and “contestable” customers to enter into the most competitive agreement by allowing them to directly transact with one another. Contestable customers are electricity end-users who have the power to choose their supplier of electricity from a group of retail electricity suppliers (RESs) or local RESs. Local RESs consist of existing distribution utilities which are allowed to serve as retail electricity suppliers within their respective franchise areas. Currently, contestable customers comprise customers with a minimum monthly average peak demand of 1 megawatt (MW), but the threshold will be lowered to 750kW by end-2015. Prior to RCOA, a DU such as Meralco does the sourcing, supply, billing and payment collection. The DU takes on the credit risk as payment collection is its responsibility, but it is not allowed to earn on supply. Under RCOA, a DU can serve as a local RES or supplier of last resort for contestable customers located in its existing franchise area, any of which will allow the DU to earn margins on the sourcing of power. In addition, a DU is still kept whole for its distribution business as the DU is still paid wheeling charges regardless of whether the contestable customer is under the DU’s local RES. Note: the wheeling charge is the cost or charge for use of a distribution system and/or availment of related services.

Pre-EPIRA industry structure Post-EPIRA industry structure

Source: Energy Report: Philippines 2013-2014 Edition (KPMG Global Energy Institute) Source: Energy Report: Philippines 2013-2014 Edition (KPMG Global Energy Institute)

NPC IPPs

NPC Gencos

DU’sIPPs

NPC transmission

Industrial

Commercial

Residential

Others

Distribution utilities

Generation Transmission Distribution Consumers

Energy Transaction

Power Flow

Privatized Gencos

PrivatizedNPC-IPPs

NPC transmission

Contestableconsumers

Commercial

Retail Supply

Generation Transmission Distribution Consumers

Energy Transaction

Power Flow

DU’s IPPs

OwnGeneration

Pool

WESM

System Control

Distribution(Wires business)

REGULATED


27 March 2015

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Meralco: RCOA structure

Source: Company

Meralco has capitalised on this emerging market by creating its own retail electricity supply (RES) team called MPower. MPower is now the biggest RES in the country, with a 60.31% market share in 2013. As of 3Q14, there were 823 qualified contestable customers in Meralco’s franchise area. And of this, 337 customers opted for contestability. MPower has secured 205 of these contestable customers. Expanding beyond its current franchise Meralco has been more aggressive in the past 2 years in finding opportunities to expand its current distribution network. In 2014, Meralco ventured into 2 projects. First is the 25-year concession agreement to operate, maintain and improve the Cavite Economic Zone (CEZ) distribution system that Meralco signed in May 2014. A total investment of PHP300m will be provided by Meralco for the improvement of the CEZ power distribution system and customer service facilities during the term of the concession agreement. CEZ is a special economic zone, a ready-to-occupy business location where locators can enjoy both fiscal and non-fiscal incentives from the government. It covers 275 hectares in Cavite, a province just south of Metro Manila, and has around 400 multinational industrial and commercial locators. Meralco: details of the Cavite Economic Zone project Project Cavite Economic Zone (CEZ) Type of agreement

Concession agreement to operate, maintain and improve the CEZ distribution system

Partner(s) None % Meralco equity n/a Coverage Rosario and General Trias, Cavite Term 25 years Fees Concession Fee (potential for adjustment every 4 years) Status Contract signed May 2014; effective 1 June 2014

Source: Company

Meralco has also made its presence in Pampanga, another province to the north of Metro Manila, through Pampanga II Electric Cooperative Inc (PELCO II). Meralco has a 20-year technical service agreement with ComsTech Integrated Alliance Inc (ComsTech), which won the investment management contract to operate the electric cooperative in May 2014. Management of PELCO II was officially turned over to the Meralco-ComsTech partnership in August 2014. Details of the Pampanga II Electric Cooperative (PELCO II) Project Pamapanga II Electric Cooperative Inc (PELCO II) Type of agreement Technical services agreement between ComsTech and Meralco Partner(s) ComsTech Integrated Alliance Inc (ComsTech) % Meralco equity n/a Coverage Pampanga (7 municipalities) Term 20 years Fees Technical service fee Status NEA approved the IMC 8 May 2014; handover to ComsTech on August 2014

Source: company

Meralco aims to become an international power company. In 2013, it took the opportunity to become a technical partner of Lagos-based Integrated Energy Distribution and Marketing Ltd (IEDM) in its bid for the privatisation of distribution utilities in Nigeria. The IEDM-Meralco consortium was successful and was awarded the Ibadan and Yola franchises. Ibadan is the capital city of Oyo State on the eastern side of Nigeria, with a population of 1.4m, while Yola is an academic town with a smaller population of 89,000. Meralco has a 5% stake in the joint-venture company but has an option to increase its equity to 20% in the future. Meralco started operating and maintaining these DUs in November 2013. More importantly, we think being selected by IEDM over every other DU in the world highlights Meralco’s good reputation. Meralco: details of IEDM-Meralco partnership in Nigeria Project Yola and Ibadan Distribution Utilities Type of agreement Technical services agreement Partner(s) Integrated Energy Distribution and Marketing (IEDM) % Meralco equity 5% of IEDM Coverage Ibadan and Yola, Nigeria Term 5 years Fees Management fee + Performance-based remuneration Status Ongoing

Source: company

Aside from these distribution-related projects, Meralco is also part of the PHP1.72-bn Automatic Fare Collection System (AFCS), one of the government’s Public Private Partnership (PPP) projects. Meralco has a 10% stake in the consortium that won the project together with its affiliate-company Smart Communications and the Ayala group. The AFCS concession agreement involves the creation, operation


27 March 2015

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and maintenance of a contactless-based smart-card technology for the Metro Manila train system (LRT Line 1 and 2 and MRT Line 3). The target roll-out date for the AFCS is September 2015. Meralco: details of the AFCS Project Automated Fare Collection Services Inc (AFCSI) Type of agreement

Concession agreement to build and implement the automated fare collection system for the LRT and MRT lines

Partner(s) Ayala Corp's (AC PM) AC Infrastructure Holdings, BPI Finance Card Corp, Globe Telecom Inc (GLO PM), Philippine Long Distance Telephone Co's (TEL PM) Smart Communications Inc

% Meralco equity

10% of AFCSI

Coverage LRT and MRT lines in Metro Manila Term 10 years Fees Transaction fee Status Contract signed 31 March 2014; target roll-out date is September 2015

Source: Company


27 March 2015

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Appendix II: performance-based regulation (PBR)

Meralco: tariff-setting process under PBR

Source: company

An incentive scheme Under the PBR, prices/revenue are determined using forward-looking expenditure estimates (ex-ante). This has the effect of ensuring that firms are encouraged to be efficient since improving efficiency under fixed prices means additional profits for the DU. This compares with the previous tariff-setting methodology for DUs of a “rate-of-return base” (RORB), which is backward-looking (ex-post) because actual historical costs are used as inputs. The current tariff-setting mechanism adopted by the Energy Regulatory Commission (ERC) is a price cap variation of the PBR. In particular, tariffs are based on the allowed annual revenue requirement for the DU, which fully compensates investors for the return on its capital, required operating and capex necessary in order to meet operational performance and service level requirements for the projected energy consumption.

Sharing efficiency benefits between the DU and customers The PBR uses a customer-centric approach that promotes investments that deliver long-term value to customers. Through incentives, it encourages exceptional performance from DUs while at the same time remaining affordable to the consumers via operational efficiencies and sharing cost savings with customers. A reward and penalty mechanism called the performance incentive scheme is incorporated into the PBR. The scheme can be divided into: 1) an S-factor (price-linked incentive) scheme, and 2) a Guaranteed Service Level (GSL) scheme. Under the S-factor scheme, rewards or penalties are determined using a weighted performance measure based on the performance levels achieved for a number of indices. The GSL scheme provides a guarantee to customers on the responsiveness and effectiveness of DUs through the imposition of penalties if set standards are not met.


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Performance measures under the PBR System reliability System Average Interruption Frequency Index (SAIFI) Average no. of sustained interruptions experienced per customer over the measurement period Customer average interruption duration index (CAIDI) Average duration of interruptions experienced by customers who have experienced at least one interruption System Average Interruption Duration Index (SAIDI) Average duration of sustained interruptions per customer over the measurement period Voltage regulation Measure of the probability of measured voltage levels falling outside the ±20% regulation Guaranteed Service Level standards (GSL) Caps the no. and duration of service interruptions that customers of DUs may experience GSL 1 Customers experiencing a total duration of sustained service interruptions in a regulatory year (RY) that exceed a 35-hr threshold GSL 2 Customers experiencing a no. of sustained service interruptions in a RY that exceed a limit of 25 GSL 3 Incidents where the restoration of supply to customers after a fault on the secondary distribution network took longer than the threshold time of 15 hrsGSL 4 Customer connections not provided on the day agreed with the customers (no. of total days delayed) System efficiency System loss Electrical energy lost either through technical loss or pilferage Customer service Time to process applications Average time to process applications for regulatory services (standard connections) Time to connect premises Average time to provide connection, after all administrative requirements have been met Call-centre performance Average time for call centre to respond to calls

Source: Meralco prospectus (28 November 2013) Meralco: system performance S-linked scheme Regulatory standards (deadband) 2009 2010 2011 2012 2013 9M14System reliability SAIFI, Forced and PAI (Times) 6.98-8.24 7.28 6.52 4.80 3.90 3.36 2.14CAIDI, Forced and PAI (Times) 144.4-168.72 144.61 141.27 116.67 103.30 97.65 93.00SAIDI, Pre-arranged (Minutes) 126.57-198.4 144.60 93.81 80.05 76.15 64.49 39.59Prob. Of Voltage violations (% not falling w/in limits) 0.86-1.44 0.75 0.50 0.23 0.04 - -Customer service Ave. Time to process applications (Days) 7.91-12.28 8.18 5.94 5.34 4.60 4.47 5.32Ave. Time to Connect (Days) 3.56-5.77 3.42 3.38 3.06 2.12 1.90 2.97Call-centre performance (Seconds) 13.56-21.03 25.79 24.55 16.99 7.12 4.42 6.27GSL scheme Regulatory limit RY2010 RY2011 RY2012 RY2013 RY2014 *RY2015System reliability GSL 1 (customers) 373,658 332,139 159,505 58,489 34,286 12,733 263GSL 2 (customers) **18,989 13,936 4,575 482 107 - -GSL 3 (incidents) ***234,439 189,999 646,827 42,916 14,129 5,599 1,020GSL 4 (days delay) 163,995 239,785 169,235 82,087 30,889 69,284 15,360System efficiency Regulatory standards (deadband) 2009 2010 2011 2012 2013 9M14System Loss (%) -12MMA ****>8.50 8.61 7.94 7.35 7.04 6.92 6.67Source: company

Note: RY refers to regulatory year which starts on 1 July of the previous calendar year and ends on 30 June of the current calendar year

*RY2015 = for the period 1 July 2014 to 30 September 2014

**GSL 2’s regulatory limit was lowered to 18,989 customers beginning RY2012 from 127,279 customers previously

***GSL3’s regulatory limit was lowered to 234,439 incidents beginning RY2012 from 646,827 incidents previously

****System loss’ regulatory standard (deadband) was lowered to 8.5% starting 2010 from 9.5% previously

The PBR also mandates a system-loss cap, currently at 8.5%, as the maximum rate that a DU can pass on to its customers. This means that if Meralco’s system loss exceeds the cap, the losses will be absorbed by the company. On the other hand, if system losses fall below this amount, the savings are passed onto consumers in the form of lower charges. Meralco is reaping the rewards The S-factor incentives translate into additional tariffs in the maximum average price (MAP) of the DUs. The S-factor allows average prices to increase or decrease by up to 2.5% if actual service performance exceeds or falls below the target level. Meralco has long been compliant with all the service performance measures set by ERC, which focus on system reliability, system efficiency, and customer service. Since 2007, Meralco has been beating its

previous-year performances for all measures (except for GSL4 and call-centre performance, which dipped slightly during 9M14, the most recent period. As a result, Meralco has enjoyed S-factor incentives since RY2009 that have effectively served as additions to its tariffs.


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Meralco: S-factor incentives received (PHP/kWh)

Source: company

For system losses, the current rule allows for all savings to be passed onto consumers as a deduction to their electricity charge. From 2008-13, cumulative savings of PHP12.59bn (equivalent to PHP0.0702/kWh) were realised by customers. There is an ongoing petition filed with the regulator by Meralco and other distribution companies to share in the savings from lower system loss charges. The purpose of this benefit-sharing agreement is to encourage the DUs to reduce system-loss levels below the mandated cap and eventually benefit end-users through much lower system-loss charges. Supported by continuous maintenance and improved facilities One of the features of the PBR is that it preapproves a DU’s capex for any given regulatory period, which helps ensure that the DU meets operational performance and service level requirements (the pre-approved capex excludes that needed for non-DU-related activities, such as investments in power generation in the case of Meralco.)

Meralco maintains a high level of capex at any given time, with the majority going to facilities and programmes aimed at: 1) meeting the growth in power demand and enhancing customer experience, 2) controlling and further reducing system losses, and 3) improving the distribution system to ensure reliability, power quality and resiliency during natural disasters and other unforeseen events. Going forward, Meralco expects to increase its capex for its distribution business to future-proof and weather-proof its network. In fact, for the first year of the next regulatory period, Meralco has applied for an all-time high capex budget of PHP17.7bn to focus on major renewal and refurbishments to harden and strengthen its network to make it more resilient in the face of storms and other natural disasters, as well as automation/technology projects to improve network performance and customer service. Meralco: capex for its distribution business

Source: company

+0.0066

+0.0089

+0.0087 +0.0020

+0.0029 +0.0387

+0.0406 1.3607

1.4917

1.6464 1.6012 1.6333 1.6510

1.5562

RY09 RY10 RY11 RY12 RY13 RY14 RY15

MAP S-factor

8,890 9,053 8,748 10,321 10,187

12,350

0.32 0.30 0.29

0.31 0.30 0.35

2009 2010 2011 2012 2013 2014

Capex (PHP m) Capex per vo lume sales (PHP/kW h)


27 March 2015

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Appendix III: positive macroeconomic drivers We have established the high correlation between economic activity and electricity demand, with an electricity demand to real GDP elasticity of 0.97x. As such, growth in the Philippines economy should continue to drive electricity demand. The Philippines registered real GDP growth of 6.1% YoY in 2014, still the fastest growing economy in Southeast Asia and the second-fastest in Asia (after China). And the outlook for the country’s economic development remains positive, as evidenced by the Philippines’s credit rating upgrade from Moody’s1 to Baa2 (with stable outlook) on 11 December 2014, from Baa3 (with positive outlook). Philippines: real GDP growth vs. that for ASEAN (%)

Source: ASEAN.org

In particular, we expect a continued rise in the population, expansion of the business process outsourcing (BPO) industry, and strong overseas Filipino workers (OFWs) remittances to drive electricity demand in both the commercial and residential sectors. In addition, we believe the resurgence of the manufacturing sector will also drive demand from the industrial segment in 2015.

1 This report uses credit ratings assigned by Moody’s, which is not registered with Japan’s Financial Services Agency pursuant to Article 66, Paragraph 27 of the Financial Instruments and Exchange Act. Investors should read the related attachment for information on ratings assigned by unregistered rating agencies.

Population and demographic sweet spot Over the past 34 years, the population has seen a CAGR of 2.2% and now stands at around 100m Filipinos. This number is projected to reach 157m by 2050, according to a UN study in 2012. More importantly, the study showed that the Philippines is and will continue to be in a demographic sweet spot with a young working-age population. The population median age is estimated to be 23.4 years in 2015 and 31.5 years in 2050, according to the UN study. The Philippines: historical and forecast population

Source: “World Population Prospects: The 2012 Revision, Volume II: Demographic Profiles,” United Nations Department of Economic and Social Affairs/Population Division Rising private consumption Much of the GDP growth enjoyed in recent years was driven by household consumption, which made up 65% of GDP growth from 2010-14. Aside from a growing population and workforce, robust private consumption is driven by higher personal income due to remittances from OFWs and better-paying jobs from the BPO sector. Contributors to GDP growth – expenditure

Source: National Statistics Coordinating Board, Daiwa

With about 2.3m Filipinos working abroad, OFW remittances are the country’s primary source of foreign income. In 2013, this figure reached an all-time high of USD25.1bn. The BPO sector is another booming source of foreign income, with revenue from the sector

(2)(1)

0123456789

10

Brun

eiD

arus

sala

m

Cam

bodi

a

Indo

nesi

a

Lao

PDR

Mal

aysi

a

Mya

nmar

Philip

pine

s

Sing

apor

e

Thai

land

Viet

Nam

2011 2012 2013

19 36 62 78 86 93 102 110 128

157 180 188

18 1719 21 21 22 23 25

27

32

3742

1950 1970 1990 2000 2005 2010 2015E 2020E 2030E 2050E 2075E 2100E

Total population ('000s) Median age (years)

3.1%4.4%

2.9%3.6%

5.0%

6.7%

4.8% 5.2%6.6%

4.2%

1.1%

7.6%

3.9%

6.6% 7.1%6.1%

(5%)(4%)(3%)(2%)(1%)

0%1%2%3%4%5%6%7%8%9%

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Statistical d iscrep anc y Ne t exp orts

Ca pital Forma tion (FC + CI) Govern ment Final C on sumptio n Expen diture

Ho useh old Fin al Co nsu mption Exp end iture Re al GDP grow th


27 March 2015

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growing nearly five-fold to USD10bn in 2013, from USD3.2bn in 2006. In October 2014, the BPO industry hit the 1m job mark. We expect growth of the sector to be sustained, and one World Bank estimate suggests the industry’s revenue by 2020 will be as much as USD55bn. Combined, both comprised 15% of GDP in 2013, with OFW remittances at 9% and BPO revenue at 6%. Philippines: OFW remittances

Source: CEIC, Daiwa

Philippines: BPO revenue

Source: CEIC, Daiwa Growth in private consumption is also reflected by the increase in the number of mall developments. Using data from the 4 biggest real-estate companies in the country – Ayala Land Inc (ALI PM), Megaworld Corp (MEG PM), Robinsons Land Corp (RLC PM), and SM Prime Holdings Inc (SMPH PM) – as a proxy for private consumption, the total gross leasable area of mall developments has increased by an average of 6% annually since 2009.

Gross leasable area of malls of ALI, MEG, RLC and SMPH

Source: Companies

Resurgence of manufacturing Meanwhile, Meralco’s industrial segment is benefiting from a resurgence in the country’s manufacturing sector. Real sector growth since 2010 has averaged 8% and has emerged as another important component of GDP growth. The bulk, or more than 40%, of approved foreign investment is also coming from the manufacturing industry. As of 9M14, approved foreign investment for the sector jumped 113%, to around PHP55bn. Contributors to GDP growth – income

Source: National Statistics Coordinating Board, Daiwa

Enough room for growth The Philippines had one of the lowest electricity consumption per capita levels, of 524kWh, for 2012. The country ranked 150th in the world and 25th out of 37 in Asia. The country is still a long way from Taiwan, the highest ranked with electricity consumption per capita of 9,503kWh. However, the Philippines is comparable with other highly populated countries such as Indonesia, India, and Pakistan.

0%

2%

4%

6%

8%

10%

12%

0

5,000

10,000

15,000

20,000

25,000

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013

OFW Remittances (USDm) (LHS) % of GDP (RHS)

0%

1%

2%

3%

4%

5%

6%

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

16,000

2004 2005 2006 2007 2008 2009 2010 2011 2012

BPO Revenues (USDm) % of GDP

4,376 4,562 4,774 5,262 5,515

0

1,000

2,000

3,000

4,000

5,000

6,000

2009 2010 2011 2012 2013

(‘000 sq m)

Ayala Land Robinsons Land Filinvest Land SM Prime

3.1%

4.4%

2.9%3.6%

5.0%

6.7%

4.8% 5.2%

6.6%

4.2%

1.1%

7.6%

3.9%

6.6% 7.1%6.1%

(2%)

0%

2%

4%

6%

8%

10%

1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014

Mining and Quarrying ManufacturingConstruction Electricity Gas and Water SupplyService Sector Real GDP growth


27 March 2015

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Electricity consumption per capita of Asian countries (2012)

Source: CIA World Factbook, htttp://www.indexmundi.com

In terms of electrification, the Philippines also lags behind most of the world and developing Asia. The country’s total electrification rate and urban electrification rate stood at 70% and 89% (as of 2011) compared with the world’s 81.9% and 93.7% and developing Asia’s 83% and 95%, respectively.

Electrification ratios for developing Asia

Region

Population without

electricityElectrification

rate

Urban electrification

rate

Rural electrification

rate(m) (%) (%) (%)

China 3 99.8 100.0 99.6India 306 75.3 93.9 66.9Southeast Asia 134 77.6 90.5 67.2Brunei Darussalam 0 100 100 99Cambodia 9 34 97 18Indonesia 66 73 85 60Laos 1 78 93 70Malaysia 0 100 100 99Myanmar 25 49 89 29Philippines 28 70 89 52Singapore 0 100 100 100Thailand 1 99 100 99Vietnam 4 96 100 94Rest of developing Asia 172 61.4 81.9 51.7Bangladesh 61 60 90 48DPR Korea 18 26 36 11Mongolia 0 88 98 67Nepal 7 76 97 72Pakistan 56 69 88 57Sri Lanka 3 85 96 84Other Asia 27 32 59 22Developing Asia 615 83.1 95.0 74.9

Source: IEA, World Energy Outlook 2013

The gap in electricity consumption and electrification, especially in urban areas, should gradually narrow alongside the growth in economy and higher per capita income. And, this provides Meralco room for further growth in electricity sales.

9,5039,314

7,6967,471

6,7506,332

6,0316,0176,017

5,0293,494

3,2152,6212,572

2,1502,0251,9801,9621,953

1,4121,360

1,1041,061

767524507498431391339

25716214910485598

TaiwanKorea, South

SingaporeBruneiJapan

MacauHong K ong

RussiaRussia

KazakhstanChina

MalaysiaIran

TurkmenistanTajikistan

GeorgiaAzerbaijan

ThailandArmenia

UzbekistanKyrgyzstan

VietnamMongolia

Korea, NorthPhilippinesIndonesia

Ind iaSri LankaPakistan

LaosBhu tan

NepalBangladesh

CambodiaBurma

East TimorAfghanistan (in kWh per person)


27 March 2015

- 34 -

Appendix IV: power supply-demand scenario According to the Philippines’ Department of Energy (DoE), the Luzon, Visayas and Mindanao are currently running on very thin electricity reserves and, unless all committed capacities come on line according to schedule, there is likely to be an impending shortage beginning February/March 2016 for the Luzon grid, December 2015 for the Visayas grid, and during summer 2015 for the Mindanao grid. In addition, a substantial proportion (about 19%) of the country’s installed capacity is still from oil-based plants that are more expensive to run than the other types of plant, such as hydro, geothermal, coal and natural gas. The majority of these oil-based plants were built more than 20 years ago and are still using old technology. This segment could be replaced by cheaper and more efficient types of technology like coal and natural gas. Philippines: installed generation capacity by fuel type (2013)

Source: Department of Energy

Oil-based19.4%

Hydro20.3%

Geothermal10.8%

Coal32.1%

New RE0.9%

Natural gas16.5%

Total installed capac ity (2013): 17,325MW


27 March 2015

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Daiwa’s Asia Pacific Research Directory

HONG KONG

Hiroaki KATO (852) 2532 4121 [email protected] Regional Research Head

Kosuke MIZUNO (852) 2848 4949 / (852) 2773 8273

[email protected]

Regional Research Co-head

John HETHERINGTON (852) 2773 8787 [email protected] Regional Deputy Head of Asia Pacific Research

Rohan DALZIELL (852) 2848 4938 [email protected] Regional Head of Product Management

Kevin LAI (852) 2848 4926 [email protected] Chief Economist for Asia ex-Japan; Macro Economics (Regional)

Christie CHIEN (852) 2848 4482 [email protected] Macro Economics (Regional)

Junjie TANG (852) 2773 8736 [email protected] Macro Economics (China)

Jonas KAN (852) 2848 4439 [email protected] Head of Hong Kong and China Property

Leon QI (852) 2532 4381 [email protected] Banking (Hong Kong, China); Broker (China); Insurance (China)

Anson CHAN (852) 2532 4350 [email protected] Consumer (Hong Kong/China)

Jamie SOO (852) 2773 8529 [email protected] Gaming and Leisure (Hong Kong/China)

Dennis IP (852) 2848 4068 [email protected] Power; Utilities; Renewables and Environment (Hong Kong/China)

John CHOI (852) 2773 8730 [email protected]

Head of Hong Kong and China Internet; Regional Head of Small/Mid Cap

Becky HAN (852) 2848 4464 [email protected] Small/Mid Cap (Regional)

Joey CHEN (852) 2848 4483 [email protected] Steel (China)

Kelvin LAU (852) 2848 4467 [email protected] Head of Transportation (Hong Kong/China); Transportation (Regional)

Brian LAM (852) 2532 4341 [email protected] Transportation – Aviation (Hong Kong/China); Railway; Construction and Engineering (China)

Jibo MA (852) 2848 4489 [email protected] Head of Custom Products Group

Thomas HO (852) 2773 8716 [email protected] Custom Products Group

PHILIPPINES

Bianca SOLEMA (63) 2 737 3023 [email protected] Utilities and Energy

SOUTH KOREA

Sung Yop CHUNG (82) 2 787 9157 [email protected] Pan-Asia Co-head/Regional Head of Automobiles and Components; Automobiles; Shipbuilding; Steel

Mike OH (82) 2 787 9179 [email protected] Banking; Capital Goods (Construction and Machinery)

Iris PARK (82) 2 787 9165 [email protected] Consumer/Retail

Jun Yong BANG (82) 2 787 9168 [email protected] Oil; Chemicals; Tyres

Thomas Y KWON (82) 2 787 9181 [email protected] Pan-Asia Head of Internet & Telecommunications; Software – Internet/On-line Game

TAIWAN

Rick HSU (886) 2 8758 6261 [email protected] Head of Regional Technology; Head of Taiwan Research; Semiconductor/IC Design (Regional)

Steven TSENG (886) 2 8758 6252 [email protected] IT/Technology Hardware (PC Hardware)

Christine WANG (886) 2 8758 6249 [email protected] IT/Technology Hardware (Automation); Pharmaceuticals and Healthcare; Consumer

Kylie HUANG (886) 2 8758 6248 [email protected] IT/Technology Hardware (Handsets and Components)

Helen CHIEN (886) 2 8758 6254 [email protected] Small/Mid Cap

INDIA

Punit SRIVASTAVA (91) 22 6622 1013 [email protected] Head of India Research; Strategy; Banking/Finance

Saurabh MEHTA (91) 22 6622 1009 [email protected] Capital Goods; Utilities

SINGAPORE

Ramakrishna MARUVADA (65) 6499 6543 [email protected] Head of Singapore Research; Telecommunications (China/ASEAN/India)

Royston TAN (65) 6321 3086 [email protected] Oil and Gas; Capital Goods

David LUM (65) 6329 2102 [email protected] Property and REITs

Evon TAN (65) 6499 6546 [email protected] Property and REITs

Jame OSMAN (65) 6321 3092 [email protected] Telecommunications (ASEAN/India); Pharmaceuticals and Healthcare; Consumer (Singapore)


27 March 2015

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rated, etc. 4) Duty to disclose information (preparation and publication of rating policies, etc. and public disclosure of explanatory documents).

In addition to the above, Registered Credit Rating Agencies are subject to the supervision of the Financial Services Agency (“FSA”), and as such may be ordered to produce reports, be subject to on-site inspection, and be ordered to improve business operations, whereas unregistered Credit Rating Agencies are free from such regulations and supervision. The Name of the Credit Rating Agencies Group, etc The name of the Credit Rating Agencies group: Moody’s Investors Service, Inc. ("MIS") The name and registration number of the Registered Credit Rating Agency in the group:

Moody’s Japan K.K. (FSA commissioner (Rating) No.2) How to acquire information related to an outline of the rating policies and methods adopted by the person who determines Credit Ratings The information is posted under “Unregistered Rating explanation” in the section on “The use of Ratings of Unregistered Agencies” on the website of Moody’s Japan K.K. (The website can be viewed after clicking on “Credit Rating Business” on the Japanese version of Moody’s website (http://www.moodys.co.jp)). The Assumptions, Significance and Limitations of Credit Ratings Credit ratings are MIS's current opinions of the relative future credit risk of entities, credit commitments, or debt or debt-like securities. MIS defines credit risk as the risk that an entity may not meet its contractual, financial obligations as they come due and any estimated financial loss in the event of default. Credit ratings do not address any other risk, including but not limited to: liquidity risk, market value risk, or price volatility. Credit ratings do not constitute investment or financial advice, and credit ratings are not recommendations to purchase, sell, or hold particular securities. No warranty, express or implied, as to the accuracy, timeliness, completeness, merchantability or fitness for any particular purpose of any such rating or other opinion or information, is given or made by MIS in any form or manner whatsoever. Based on the information received from issuers or from public sources, the credit risks of the issuers or obligations are assessed. MIS adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources MIS considers to be reliable. However, MIS is not an auditor and cannot in every instance independently verify or validate information received in the rating process. This information is based on information Daiwa Securities Capital Markets Co. Ltd. has received from sources it believes to be reliable as of October 1st, 2010, but it does not guarantee accuracy or completeness of this information. For details, please refer to the website of Moody’s Japan K.K. (http://www.moodys.co.jp.)


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Disclaimer

This publication is produced by Daiwa Securities Group Inc. and/or its non-U.S. affiliates, and distributed by Daiwa Securities Group Inc. and/or its non-U.S. affiliates, except to the extent expressly provided herein. This publication and the contents hereof are intended for information purposes only, and may be subject to change without further notice. Any use, disclosure, distribution, dissemination, copying, printing or reliance on this publication for any other purpose without our prior consent or approval is strictly prohibited. Neither Daiwa Securities Group Inc. nor any of its respective parent, holding, subsidiaries or affiliates, nor any of its respective directors, officers, servants and employees, represent nor warrant the accuracy or completeness of the information contained herein or as to the existence of other facts which might be significant, and will not accept any responsibility or liability whatsoever for any use of or reliance upon this publication or any of the contents hereof. Neither this publication, nor any content hereof, constitute, or are to be construed as, an offer or solicitation of an offer to buy or sell any of the securities or investments mentioned herein in any country or jurisdiction nor, unless expressly provided, any recommendation or investment opinion or advice. Any view, recommendation, opinion or advice expressed in this publication may not necessarily reflect those of Daiwa Securities Capital Markets Co. Ltd., and/or its affiliates nor any of its respective directors, officers, servants and employees except where the publication states otherwise. This research report is not to be relied upon by any person in making any investment decision or otherwise advising with respect to, or dealing in, the securities mentioned, as it does not take into account the specific investment objectives, financial situation and particular needs of any person. Daiwa Securities Group Inc., its subsidiaries or affiliates, or its or their respective directors, officers and employees from time to time have trades as principals, or have positions in, or have other interests in the securities of the company under research including derivatives in respect of such securities or may have also performed investment banking and other services for the issuer of such securities. The following are additional disclosures. Japan Daiwa Securities Co. Ltd. and Daiwa Securities Group Inc. Daiwa Securities Co. Ltd. is a subsidiary of Daiwa Securities Group Inc. Investment Banking Relationship

Within the preceding 12 months, The subsidiaries and/or affiliates of Daiwa Securities Group Inc. * has lead-managed public offerings and/or secondary offerings (excluding straight bonds) of the securities of the following companies: Modern Land (China) Co. Ltd (1107 HK); econtext Asia Ltd (1390 HK); Lotte Shopping Co (023530 KS); Rexlot Holdings Ltd (555 HK); Neo Solar Power Corp (3576_TT); Accordia Golf Trust (AGT SP); Hua Hong Semiconductor Ltd (1347 HK).

*Subsidiaries of Daiwa Securities Group Inc. for the purposes of this section shall mean any one or more of: Daiwa Capital Markets Hong Kong Limited (大和資本市場香港有限公司), Daiwa Capital Markets Singapore Limited, Daiwa Capital Markets Australia Limited, Daiwa Capital Markets India Private Limited, Daiwa-Cathay Capital Markets Co., Ltd., Daiwa Securities Capital Markets Korea Co., Ltd. Hong Kong This research is distributed in Hong Kong by Daiwa Capital Markets Hong Kong Limited (大和資本市場香港有限公司) (“DHK”) which is regulated by the Hong Kong Securities and Futures Commission. Recipients of this research in Hong Kong may contact DHK in respect of any matter arising from or in connection with this research. Ownership of Securities For “Ownership of Securities” information, please visit BlueMatrix disclosure Link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. Investment Banking Relationship For “Investment Banking Relationship”, please visit BlueMatrix disclosure Link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. Relevant Relationship (DHK) DHK may from time to time have an individual employed by or associated with it serves as an officer of any of the companies under its research coverage. DHK market making DHK may from time to time make a market in securities covered by this research.

Singapore This research is distributed in Singapore by Daiwa Capital Markets Singapore Limited and it may only be distributed in Singapore to accredited investors, expert investors and institutional investors as defined in the Financial Advisers Regulations and the Securities and Futures Act (Chapter 289), as amended from time to time. By virtue of distribution to these category of investors, Daiwa Capital Markets Singapore Limited and its representatives are not required to comply with Section 36 of the Financial Advisers Act (Chapter 110) (Section 36 relates to disclosure of Daiwa Capital Markets Singapore Limited’s interest and/or its representative’s interest in securities). Recipients of this research in Singapore may contact Daiwa Capital Markets Singapore Limited in respect of any matter arising from or in connection with the research. Australia This research is distributed in Australia by Daiwa Capital Markets Stockbroking Limited and it may only be distributed in Australia to wholesale investors within the meaning of the Corporations Act. Recipients of this research in Australia may contact Daiwa Capital Markets Stockbroking Limited in respect of any matter arising from or in connection with the research. Ownership of Securities For “Ownership of Securities” information, please visit BlueMatrix disclosure Link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. India This research is distributed by Daiwa Capital Markets India Private Limited (DAIWA) which is an intermediary registered with Securities & Exchange Board of India. This report is not to be considered as an offer or solicitation for any dealings in securities. While the information in this report has been compiled by DAIWA in good faith from sources believed to be reliable, no representation or warranty, express of implied, is made or given as to its accuracy, completeness or correctness. DAIWA its officers, employees, representatives and agents accept no liability whatsoever for any loss or damage whether direct, indirect, consequential or otherwise howsoever arising (whether in negligence or otherwise) out of or in connection with or from any use of or reliance on the contents of and/or omissions from this document. Consequently DAIWA expressly disclaims any and all liability for, or based on or relating to any such information contained in or errors in or omissions in this report. Accordingly, you are recommended to seek your own legal, tax or other advice and should rely solely on your own judgment, review and analysis, in evaluating the information in this document. The data contained in this document is subject to change without any prior notice DAIWA reserves its right to modify this report as maybe required from time to time. DAIWA is committed to providing independent recommendations to its Clients and would be happy to provide any information in response to any query from its Clients. This report is strictly confidential and is being furnished to you solely for your information. The information contained in this document should not be reproduced (in whole or in part) or redistributed in any form to any other person. We and our group companies, affiliates, officers, directors and employees may from time to time, have long or short positions, in and buy sell the securities thereof, of company(ies) mentioned herein or be engaged in any other transactions involving such securities and earn brokerage or other compensation or act as advisor or have the potential conflict of interest with respect to any recommendation and related information or opinion. DAIWA prohibits its analyst and their family members from maintaining a financial interest in the securities or derivatives of any companies that the analyst cover. This report is not intended or directed for distribution to, or use by any person, citizen or entity which is resident or located in any state or country or jurisdiction where such publication, distribution or use would be contrary to any statutory legislation, or regulation which would require DAIWA and its affiliates/ group companies to any registration or licensing requirements. The views expressed in the report accurately reflect the analyst’s personal views about the securities and issuers that are subject of the Report, and that no part of the analyst’s compensation was, is or will be directly or indirectly, related to the recommendations or views expressed in the Report. This report does not recommend to US recipients the use of Daiwa Capital Markets India Private Limited or any of its non – US affiliates to effect trades in any securities and is not supplied with any understanding that US recipients will direct commission business to Daiwa Capital Markets India Private Limited. Taiwan This research is distributed in Taiwan by Daiwa-Cathay Capital Markets Co., Ltd and it may only be distributed in Taiwan to institutional investors or specific investors who have signed recommendation contracts with Daiwa-Cathay Capital Markets Co., Ltd in accordance with the Operational Regulations Governing Securities Firms Recommending Trades in Securities to Customers. Recipients of this research in Taiwan may contact Daiwa-Cathay Capital Markets Co., Ltd in respect of any matter arising from or in connection with the research. Philippines This research is distributed in the Philippines by DBP-Daiwa Capital Markets Philippines, Inc. which is regulated by the Philippines Securities and Exchange Commission and the Philippines Stock Exchange, Inc. Recipients of this research in the Philippines may contact DBP-Daiwa Capital Markets Philippines, Inc. in respect of any matter arising from or in connection with the research. DBP-Daiwa Capital Markets Philippines, Inc. recommends that investors independently assess, with a professional advisor, the specific financial risks as well as the legal, regulatory, tax, accounting, and other consequences of a proposed transaction. DBP-Daiwa Capital Markets Philippines, Inc. may have positions or may be materially interested in the securities in any of the markets mentioned in the publication or may have performed other services for the issuers of such securities. For relevant securities and trading rules please visit SEC and PSE Link at http://www.sec.gov.ph/irr/AmendedIRRfinalversion.pdf and http://www.pse.com.ph/ respectively. Thailand

This research is distributed to only institutional investors in Thailand primarily by Thanachart Securities Public Company Limited (“TNS”).

This report is prepared by analysts who are employed by Daiwa Securities Group Inc. and/or its non-U.S. affiliates. While the information is from sources believed to be reliable, neither the information nor the forecasts shall be taken as a representation or warranty for which Thanachart Securities Public Company Limited, Daiwa Securities Group Inc. nor any of their respective parent, holding, subsidiaries or affiliates, nor any of their respective directors, officers, servants and employees incur any responsibility. This report is provided to you for informational purposes only and it is not, and is not to be construed as, an offer or an invitation to make an offer to sell or buy any securities. Neither Thanachart Securities Public Company Limited, Daiwa Securities Group Inc. nor any of their respective parent, holding, subsidiaries or affiliates, nor any of their respective directors, officers, servants and employees accept any liability whatsoever for any


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direct or consequential loss arising from any use of this research or its contents.

The information and opinions contained herein have been compiled or arrived at from sources believed reliable. However, Thanachart Securities Public Company Limited, Daiwa Securities Group Inc. nor any of their respective parent, holding, subsidiaries or affiliates, nor any of their respective directors, officers, servants and employees make no representation or warranty, express or implied, as to their accuracy or completeness. Expressions of opinion herein are subject to change without notice. The use of any information, forecasts and opinions contained in this report shall be at the sole discretion and risk of the user.

Daiwa Securities Group Inc. and/or its non-U.S. affiliates perform and seek to perform business with companies covered in this research. Thanachart Securities Public Company Limited, Daiwa Securities Group Inc., their respective parent, holding, subsidiaries or affiliates, their respective directors, officers, servants and employees may have positions and financial interest in securities mentioned in this research. Thanachart Securities Public Company Limited, Daiwa Securities Group Inc., their respective parent, holding, subsidiaries or affiliates may from time to time perform investment banking or other services for, or solicit investment banking or other business from, any entity mentioned in this research. Therefore, investors should be aware of conflict of interest that may affect the objectivity of this research. United Kingdom This research report is produced by Daiwa Capital Markets Europe Limited and/or its affiliates and is distributed in the European Union, Iceland, Liechtenstein, Norway and Switzerland. Daiwa Capital Markets Europe Limited is authorised and regulated by The Financial Conduct Authority (“FCA”) and is a member of the London Stock Exchange, Eurex and NYSE Liffe. Daiwa Capital Markets Europe Limited and/or its affiliates may, from time to time, to the extent permitted by law, participate or invest in other financing transactions with the issuers of the securities referred to herein (the “Securities”), perform services for or solicit business from such issuers, and/or have a position or effect transactions in the Securities or options thereof and/or may have acted as an underwriter during the past twelve months for the issuer of such securities. In addition, employees of Daiwa Capital Markets Europe Limited and/or its affiliates may have positions and effect transactions in such securities or options and may serve as Directors of such issuers. Daiwa Capital Markets Europe Limited may, to the extent permitted by applicable UK law and other applicable law or regulation, effect transactions in the Securities before this material is published to recipients. This publication is intended for investors who are not Retail Clients in the United Kingdom within the meaning of the Rules of the FCA and should not therefore be distributed to such Retail Clients in the United Kingdom. Should you enter into investment business with Daiwa Capital Markets Europe’s affiliates outside the United Kingdom, we are obliged to advise that the protection afforded by the United Kingdom regulatory system may not apply; in particular, the benefits of the Financial Services Compensation Scheme may not be available. Daiwa Capital Markets Europe Limited has in place organisational arrangements for the prevention and avoidance of conflicts of interest. Our conflict management policy is available at http://www.uk.daiwacm.com/about-us/corporate-governance-regulatory . Regulatory disclosures of investment banking relationships are available at https://daiwa3.bluematrix.com/sellside/Disclosures.action. Germany This document is distributed in Germany by Daiwa Capital Markets Europe Limited, Niederlassung Frankfurt which is regulated by BaFin (Bundesanstalt fuer Finanzdienstleistungsaufsicht) for the conduct of business in Germany. Bahrain

This research material is distributed by Daiwa Capital Markets Europe Limited, Bahrain Branch, regulated by The Central Bank of Bahrain and holds Investment Business Firm – Category 2 license and having its official place of business at the Bahrain World Trade Centre, South Tower, 7th floor, P.O. Box 30069, Manama, Kingdom of Bahrain. Tel No. +973 17534452 Fax No. +973 535113

This material is provided as a reference for making investment decisions and is not intended to be a solicitation for investment. Investment decisions should be made at your own discretion and risk. Accordingly, no representation or warranty, express or implied, is made as to and no reliance should be placed on the fairness, accuracy, completeness or correctness of the information and opinions contained in this document, Content herein is based on information available at the time the research material was prepared and may be amended or otherwise changed in the future without notice. All information is intended for the private use of the person to whom it is provided without any liability whatsoever on the part of Daiwa Capital Markets Europe Limited, Bahrain Branch, any associated company or the employees thereof. If you are in doubt about the suitability of the product or the research material itself, please consult your own financial adviser. Daiwa Capital Markets Europe Limited, Bahrain Branch retains all rights related to the content of this material, which may not be redistributed or otherwise transmitted without prior consent. United States This report is distributed in the U.S. by Daiwa Capital Markets America Inc. (DCMA). It may not be accurate or complete and should not be relied upon as such. It reflects the preparer’s views at the time of its preparation, but may not reflect events occurring after its preparation; nor does it reflect DCMA’s views at any time. Neither DCMA nor the preparer has any obligation to update this report or to continue to prepare research on this subject. This report is not an offer to sell or the solicitation of any offer to buy securities. Unless this report says otherwise, any recommendation it makes is risky and appropriate only for sophisticated speculative investors able to incur significant losses. Readers should consult their financial advisors to determine whether any such recommendation is consistent with their own investment objectives, financial situation and needs. This report does not recommend to U.S. recipients the use of any of DCMA’s non-U.S. affiliates to effect trades in any security and is not supplied with any understanding that U.S. recipients of this report will direct commission business to such non-U.S. entities. Unless applicable law permits otherwise, non-U.S. customers wishing to effect a transaction in any securities referenced in this material should contact a Daiwa entity in their local jurisdiction. Most countries throughout the world have their own laws regulating the types of securities and other investment products which may be offered to their residents, as well as a process for doing so. As a result, the securities discussed in this report may not be eligible for sales in some jurisdictions. Customers wishing to obtain further information about this report should contact DCMA: Daiwa Capital Markets America Inc., Financial Square, 32 Old Slip, New York, New York 10005 (telephone 212-612-7000). Ownership of Securities For “Ownership of Securities” information please visit BlueMatrix disclosure Link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. Investment Banking Relationships For “Investment Banking Relationships” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. DCMA Market Making For “DCMA Market Making” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. Research Analyst Conflicts For updates on “Research Analyst Conflicts” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. The principal research analysts who prepared this report have no financial interest in securities of the issuers covered in the report, are not (nor are any members of their household) an officer, director or advisory board member of the issuer(s) covered in the report, and are not aware of any material relevant conflict of interest involving the analyst or DCMA, and did not receive any compensation from the issuer during the past 12 months except as noted: no exceptions. Research Analyst Certification For updates on “Research Analyst Certification” and “Rating System” please visit BlueMatrix disclosure link at https://daiwa3.bluematrix.com/sellside/Disclosures.action. The views about any and all of the subject securities and issuers expressed in this Research Report accurately reflect the personal views of the research analyst(s) primarily responsible for this report (or the views of the firm producing the report if no individual analysts[s] is named on the report); and no part of the compensation of such analyst(s) (or no part of the compensation of the firm if no individual analyst[s)] is named on the report) was, is, or will be directly or indirectly related to the specific recommendations or views contained in this Research Report.

The following explains the rating system in the report as compared to relevant local indices, unless otherwise stated, based on the beliefs of the author of the report.

"1": the security could outperform the local index by more than 15% over the next 12 months. "2": the security is expected to outperform the local index by 5-15% over the next 12 months. "3": the security is expected to perform within 5% of the local index (better or worse) over the next 12 months. "4": the security is expected to underperform the local index by 5-15% over the next 12 months. "5": the security could underperform the local index by more than 15% over the next 12 months. Additional information may be available upon request. Japan - additional notification items pursuant to Article 37 of the Financial Instruments and Exchange Law (This Notification is only applicable where report is distributed by Daiwa Securities Co. Ltd.) If you decide to enter into a business arrangement with us based on the information described in materials presented along with this document, we ask you to pay close attention to the following items. • In addition to the purchase price of a financial instrument, we will collect a trading commission* for each transaction as agreed beforehand with you. Since commissions may be included in

the purchase price or may not be charged for certain transactions, we recommend that you confirm the commission for each transaction. • In some cases, we may also charge a maximum of ¥ 2 million (including tax) per year as a standing proxy fee for our deposit of your securities, if you are a non-resident of Japan.


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• For derivative and margin transactions etc., we may require collateral or margin requirements in accordance with an agreement made beforehand with you. Ordinarily in such cases, the amount of the transaction will be in excess of the required collateral or margin requirements.

• There is a risk that you will incur losses on your transactions due to changes in the market price of financial instruments based on fluctuations in interest rates, exchange rates, stock prices, real estate prices, commodity prices, and others. In addition, depending on the content of the transaction, the loss could exceed the amount of the collateral or margin requirements.

• There may be a difference between bid price etc. and ask price etc. of OTC derivatives handled by us. • Before engaging in any trading, please thoroughly confirm accounting and tax treatments regarding your trading in financial instruments with such experts as certified public accountants.

*The amount of the trading commission cannot be stated here in advance because it will be determined between our company and you based on current market conditions and the content of each transaction etc.

When making an actual transaction, please be sure to carefully read the materials presented to you prior to the execution of agreement, and to take responsibility for your own decisions regarding the signing of the agreement with us. Corporate Name: Daiwa Securities Co. Ltd. Financial instruments firm: chief of Kanto Local Finance Bureau (Kin-sho) No.108 Memberships: Japan Securities Dealers Association, The Financial Futures Association of Japan Japan Securities Investment Advisers Association Type II Financial Instruments Firms Association

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