Low Emission Fuels And Natural Gas Expansion Will Drive Strong Long Term Upside

Catalysts

About Energisa

Energisa is a diversified Brazilian energy group operating in electricity distribution and transmission, distributed generation, natural gas distribution and low emission fuels such as biomethane.

What are the underlying business or industry changes driving this perspective?

• Structural growth in electricity demand across Energisa's concession areas, which are already expanding faster than the national average, supports sustained volume gains in distribution that should lift revenue and operating leverage over time.
• Ongoing efficiency gains, including disciplined PMSO control below inflation, historic lows in technical and commercial losses and improving quality indicators, position the company to expand net margins and earnings even in a more regulated tariff environment.
• Rapid expansion and professionalization of the natural gas platform, with double digit volume and customer growth and strong EBITDA increases at ES Gás and Norgás, provides a second long duration growth engine that can diversify cash flows and support consolidated earnings growth.
• Scaling of distributed generation, free market energy trading and value added energy services, combined with regulatory initiatives such as innovative tariff models and peak shifting solutions, is expected to unlock higher margin ancillary revenues and improve overall return on capital.
• Acceleration of investments in biomethane and waste to energy clusters near industrial and agricultural hubs, leveraging rising demand for low emission energy and fertilizers, may create high growth, higher margin adjacencies that enhance group EBITDA and long term cash generation.

Assumptions

This narrative explores a more optimistic perspective on Energisa compared to the consensus, based on a Fair Value that aligns with the bullish cohort of analysts. How have these above catalysts been quantified?

• The bullish analysts are assuming Energisa's revenue will grow by 3.3% annually over the next 3 years.
• The bullish analysts assume that profit margins will shrink from 9.2% today to 3.7% in 3 years time.
• The bullish analysts expect earnings to reach R$1.5 billion (and earnings per share of R$1.84) by about December 2028, down from R$3.3 billion today. However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as R$863.2 million.
• In order for the above numbers to justify the price target of the more bullish analyst cohort, the company would need to trade at a PE ratio of 34.3x on those 2028 earnings, up from 5.5x today. This future PE is greater than the current PE for the BR Electric Utilities industry at 8.2x.
• The bullish analysts expect the number of shares outstanding to remain consistent over the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 20.81%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• Persistent high financial expenses and a stabilized leverage ratio of 3.2x net debt to adjusted EBITDA over several consecutive quarters suggest structurally elevated indebtedness. This could pressure net margins and limit capacity to fund growth investments through internal cash generation, ultimately weighing on earnings growth over the long term.
• Regulatory and political uncertainty around measures such as tariff redesigns, mandatory white tariffs, fiscal incentive redistribution in North and Northeast regions and possible changes to dividend rules may reduce allowed returns or delay cash flows. This may create long run headwinds for revenue visibility and compress net margins.
• Rising penetration of distributed generation in Energisa's concession areas combined with proposals for new tariffs on certain distributed energy projects and peak shaving solutions could structurally change consumption profiles, erode regulated demand growth and lower the scalability of the distribution business. This may affect revenue and operating leverage.
• The strategy to expand in transmission, natural gas and biomethane through intensive investment and acquisitions in new clusters exposes the company to execution, integration and demand risks. Delays, cost overruns or weaker than expected uptake for low emission fuels and fertilizers could dilute returns and depress consolidated EBITDA and earnings.
• The energy trading and free market division has already been negatively impacted by spreads and mark to market effects from directional positions taken in previous years. If volatility or mispricing in these markets persists, it could continue to generate financial losses that offset operational improvements in other segments and drag down consolidated net profit.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bullish price target for Energisa is R$74.91, which represents up to two standard deviations above the consensus price target of R$58.93. This valuation is based on what can be assumed as the expectations of Energisa's future earnings growth, profit margins and other risk factors from analysts on the bullish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of R$85.0, and the most bearish reporting a price target of just R$53.64.
  
• In order for you to agree with the more bullish analyst cohort, you'd need to believe that by 2028, revenues will be R$39.3 billion, earnings will come to R$1.5 billion, and it would be trading on a PE ratio of 34.3x, assuming you use a discount rate of 20.8%.
  
• Given the current share price of R$47.24, the analyst price target of R$74.91 is 36.9% higher. Despite analysts expecting the underlying business to decline, they seem to believe it's more valuable than what the market thinks.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.