Meridian Annual Report - Meridian Energy

34
Economic Overview and 2007/08 Financial Performance Commentary
Meridian’s economic objective is to produce long-term shareholder
value. We accomplish this goal by maximising the value from our
portfolio of generation assets through well developed asset and risk
management plans and optimisation strategies and investment in
generation growth by pursuing our renewables strategy. We actively
develop and participate in competitive wholesale and retail energy
markets and have a major initiative under way to enhance customer
value by transforming our customers’ experience and we are making
investments that will provide future competitive advantage and
commercial value.
Meridian’s core business is the generation and retailing of electricity and
wider complementary products and services. Meridian owns and operates
nine South Island hydro stations and two wind farms, Te Āpiti and White
Hill located in the North Island and South Island respectively. These
assets provide Meridian with annual average generation capacity of
12,500 GWh. This year we generated 11,908 GWh which is below average
and largely attributable to low hydrology in the latter part of the year.
Earnings Analysis
Meridian typically generates more electricity than it is contracted to
sell. However, the 2007/08 year was a challenging year for Meridian
with lower-than-average national hydro storage and inflows, coupled
with equally as significant systems constraints resulting in exceptionally
high spot generation prices, particularly in the last quarter of the year.
The system constraints related to:
• the unexpected closure of Pole 1 of the HVDC in September 2007;
• the unexpected decommissioning of the New Plymouth thermal plant;
• other prolonged thermal outages from February to April 2008;
• the market impacts of the operation of the Government energy plant
at Whirinaki coupled with unprecedented increases in diesel prices for
this plant.
The hydrology situation in our catchments in the last quarter resulted
in significantly lower generation output than anticipated and exposure
to net electricity purchases from the market at high prices to meet our
contracted retail sales commitments.
Operating revenue is predominantly derived from the sale of electricity
to the wholesale electricity market and to retail electricity customers.
Revenue from energy sales increased significantly for the year largely
due to higher annual average generation spot prices of $111/MWh
(2007: $53/MWh). The increase in price also impacted the cost of
electricity purchased to meet our fixed price commitments to customers.
The significant decline in Earnings before Interest, Tax, Depreciation,
Ammortisation and Financial Instruments (“EBITDAF”) ($105.3 million)
for the year was predominantly due to:
• supplying contracted volumes of electricity at the higher spot prices
in the latter part of the year ($356/MWh average in June this year
compared to 2007 June average $69/MWh);
• higher costs of delivery of energy-related services incurred by
South Island generators during the dry hydrology period in the
North Island; and
• employee costs increasing in areas that reflect our commitment to
enhancing customer value and in start-up subsidiaries (Right House
and PowerShop) that will provide future competitive advantage and
commercial value.
Depreciation expense for 2008 has increased as a result of the fair
value adjustments to the carrying value of the generation assets in
2007 ($1,455 million).
Unrealised net (losses)/gains on financial instruments recognised in
the income statement relate to unrealised fair value movements on
derivative instruments used for risk management purposes for which
Meridian has not adopted hedge accounting. The net movement this
year is positive ($31.2 million) but is subject to volatility due to
fluctuations in electricity/aluminium prices and interest rates.
Underlying profit after tax is presented in order to assist the users’
understanding of the financial information presented, and in particular
the Group’s underlying business performance, by removing the volatility
of unrealised net (losses)/gains on financial instruments and other
one-off items.
The increase in net finance costs reflects the cost of additional
borrowings and facilities that Meridian has sourced during the year,
together with increased interest rates.
The effective rate of tax for the year is 35% compared to 28.8% last year.
The positive effect of the corporate tax rate reduction on deferred tax of
$2.9 million (2007: $16.7 million) was offset by tax on an intercompany
dividend that was not deductible. A reduction in the corporate tax rate
from 33% to 30% was announced in the 2007 Budget and received
Royal Ascent. For Meridian, this reduction is effective from 1 July 2008.
Balance Sheet
Despite a very challenging year, Meridian’s balance sheet remains
in a strong position with shareholders’ funds of $4,204.6 million and
a gearing ratio of 18.3%. Given the strength of Meridian’s financial
position, the Board approved dividend payments of $297.9 million for
the year, bringing the total dividends paid by Meridian since inception
in 1999 to $2,100 million.
Electricity generation is an asset intensive business as is reflected
in the level of investment in property, plant and equipment. Meridian
carries these assets at fair value as determined by an external valuer.
Since inception, fair value adjustments of $3,953 million have been
recognised, impacting return on average equity.
Current assets and current liabilities reflect amounts due and payable
for electricity sales and purchases. These amounts are significantly
higher than in previous years, primarily due to high year-end spot
prices of $356/MWh (2007: $69/MWh).
Derivative financial instruments are recorded on the balance sheet
at their fair values in accordance with New Zealand International
Financial Reporting Standards (NZ IFRS).
Meridian increased its borrowings during the year to fund its capital
expenditure programme which included the commencement of
construction of the West Wind wind farm in Wellington and a portion
of the February 2007 shareholder dividend payment.
Deferred tax balances include deferred tax on the fair value
adjustments made in respect of the generation assets.