Contact: Chairman’s Annual Meeting speech
1 23 October 2008 Chairman’s Annual Meeting speech
Ladies and gentlemen
I am pleased to report to you on Contact Energy’s performance for the year in review and comment on the strategic position of the company as it moves into a period of significant investment and growth.
New Zealand’s leading integrated energy company
Today Contact is New Zealand’s leading integrated electricity generator and retailer of electricity, gas and LPG, with a total of around 650,000 retail customers located throughout the country. Over the next five years, Contact will:
• Cement its position as the country’s pre-eminent geothermal generator with the development of up to 500 megawatts of new capacity
• Invest in New Zealand’s first underground gas storage facility that will enable Contact to access flexible supplies of natural gas
• Add to its existing position as the country’s leading generator using natural gas through the development of its 200 megawatt peaking station at Stratford, and
• Begin investment in the company’s first wind developments. These developments will increase Contact’s market share in electricity generation and provide a foundation upon which to further build its position in the retail market.
Financial performance The importance of this integrated strategy is most clearly demonstrated in Contact’s financial performance over the 2008 year. In particular, the 2008 result serves to demonstrate the importance of the balance between the company’s retail and generation business segments. Contact Energy’s earnings before net interest expense, income tax, depreciation, amortisation and financial instruments (EBITDAF) for the year was $567.2 million, four per cent higher than the 2007 financial year. Underlying this performance is a significant shift in the contribution from each of the generation and retail segments, when compared to the 2007 financial year. While the contribution from the generation segment increased by 182 per cent from the previous year, the retail contribution decreased by 205 per cent. The company’s underlying earnings for the year ended 30 June 2008 were $232.8 million, an increase of 0.7 per cent. This underlying earnings result excludes the gain in fair value of financial instruments and three significant one-off items. These were the costs associated with the removal of asbestos from the New Plymouth power station, the gain on the sale of land and rights at Mokai and a gain from the sale of fuel oil reserves at the New Plymouth power station. Underlying earnings per share for the financial year was 40.37 cents. A fully imputed dividend of 17 cents has been declared, bringing the total fully imputed dividend for the year to 28 cents. This is a four per cent increase in dividends over the 2007 financial year and continues the company’s strong focus on delivering value to shareholders. 2 This was a pleasing result in a year in which the company faced a number of challenges, including: • rising natural gas prices, which contributed additional operating costs of $87 million • increased transmission charges of $34 million • very low South Island hydro storage levels, and • the unexpected closure of the company’s New Plymouth power station. Adding to these challenges was the unexpected removal of pole one of the HVDC Cook Strait transmission cable between the North and South Islands and increasing evidence of transmission constraints affecting the flow of energy to the South Island. This resulted in higher electricity prices in the South Island than in the North Island, as a result of which Contact was required to purchase high-priced electricity from the wholesale spot market to supply to its South Island customers. As well as responding to this challenging operating environment, the company has continued to make pleasing progress on its growth programme. Capital expenditure and investments increased from $150 million in 2007 to $282 million in 2008, and the investment programme is gaining momentum, as David Baldwin will touch on shortly.
Contact’s health and safety performance remains a particular area of focus for Contact’s Board and management. There is a strong commitment to building a culture within Contact that recognises safety as one of its highest priorities, and the company’s performance over the 2008 financial year showed some promising improvements. Contact’s total recordable injury frequency rate for the year decreased from 11.2 for the year ending 30 June 2007 to 7.2 for the last financial year – an improvement of 36 per cent. While this is a pleasing result, ongoing effort and attention will be required to continue to improve on this performance.
Contact remains committed to reducing the carbon intensity of New Zealand’s electricity generation system. Contact actively participated in the process of developing the New Zealand Emissions Trading Scheme which passed into law last month. Contact has supported the introduction of an Emissions Trading Scheme, believing that a market based mechanism is the most efficient way to achieve reductions in carbon emissions. In 2010, the stationary energy sector comes into the scheme. The company’s total carbon liability will depend on the then market price for carbon. At a price of $25 per tonne of carbon, Contact will face a liability of approximately $75 million per annum. As a significant new cost for the company, we are focussed on managing this liability within the constraints of the new legislation. Contact Energy’s growth strategy positions the company extremely well in a carbon constrained world. The company has anticipated a price on carbon and is ensuring it has a range of development options to respond to different drivers which may affect relative economics of different fuel types. Contact’s investment programme has a strong focus on renewables in particular, and we can look forward with confidence and excitement to what we can achieve for our shareholders and for the country.
You will all be aware of the current instability in international financial markets and the potential impact this may have on the New Zealand economy. While the true impacts of this situation remain to be seen, difficult times can also create opportunities for well managed companies with financial capacity. Contact is fortunate to be in a very strong financial position. The company’s current gearing is at 23 per cent as a result of previous decisions to preserve capacity in preference to capital returns. Contact also has strong operating cashflow of over $400 million per annum. The company is expecting to invest more than $600 million in capital expenditure over the 2009 financial year, most of which will be on new projects. Contact will seek to access the debt capital markets in the first quarter of the 2009 calendar year. Given the company’s financial strength and outlook, Contact is confident it will be able to raise the additional debt it requires. The company made pleasing progress in some key developments including: • a gas storage facility at Ahuroa • a gas-fired peaking power station at Stratford • key wind projects; and • geothermal projects, including the securing of resource consents for the Te Mihi power station and the development of the Tauhara binary power station. David Baldwin will discuss the company’s investment programme in more detail shortly. The successful implementation of this programme will result in an increase in the company’s gearing and this is expected to peak at about 40 per cent over the next five years. Even with the large investment programme underway, the company’s balance sheet will remain strong, enabling us to continue to take advantage of future opportunities.
BG Group’s bid for Origin
Shareholders will be aware that during the year BG Group launched a takeover bid for Origin Energy. As a result, BG would have been required to make a full takeover offer for Contact, and obtained an exemption from the New Zealand Takeovers Panel allowing it to make a follow-on offer to Contact shareholders in the event of a successful bid for Origin. BG disclosed that, if its bid was successful, it did not intend to retain ownership of Contact. This would have resulted in a change of ownership for Contact. Contact prepared for a range of possible outcomes and consequences, including managing a potential sale process, distribution of excess imputation credits and replacement of the Origin / BG directors. Given this uncertainty, it was determined that the time was not then right to change the composition of the Contact Board. As it transpired, the BG offer did not succeed, following the announcement by Origin of a LNG development transaction with ConocoPhillips. The future direction of Origin has now been confirmed. While this period has created some uncertainty for Contact, I am confident that this outcome for Origin will see it provide continued support for Contact to grow and pursue its strategy.
I would now like to make some remarks on the short to medium-term outlook for Contact. Electricity market conditions have improved over the last month, with inflows into the southern hydro lakes increasing and transmission constraints easing. However, as a result of the extended drought in the South Island and transmission constraints experienced, Contact’s performance in the first quarter of the financial year was well below expectations. As a result the company does not expect to outperform the 2008 financial year result. 4 As David will explain, some of these impacts will continue to be felt until more investment in transmission has been made. This will have an ongoing effect on the cost of supply to customers in the south of the country which will need to be reflected in electricity prices. While seeking to manage these challenges, Contact is also focussed on executing its strategy to grow across each of the key fuel types and delivering on investment opportunities that deliver longterm value for shareholders.
I would like to thank my fellow directors for their support and contribution over what has been a very busy and challenging year and also to acknowledge the achievements of David Baldwin and his senior management team who are all here today. It has been my pleasure to report to you on your company’s successful year. I and my fellow Directors look forward to meeting as many of you as possible afterwards. I would now like to hand over to David Baldwin. Thank you.