New Incentive Schemes And Renewables Expansion Power Up Future Profitability

Key Takeaways

• Transitioning to an output-based incentive framework and expanding renewable integration are expected to drive significant long-term revenue and EBITDA growth.
  
• Strategic acquisitions and robust CapEx plans focused on grid enhancements should support immediate earnings accretion and long-term growth.
  
• Regulatory and competitive challenges, alongside rising expenses, could pressure Terna's margins, capital allocation, and expansion opportunities, affecting profitability and revenue growth.

Catalysts

Provides electricity transmission and dispatching services in Italy, other Euro-area countries, and internationally.

• The new ancillary services market incentive scheme for 2025-2030 promises revenue growth for Terna, as the company will receive 12% of the overall MSD cost reduction each year during this period, enhancing earnings through increased incentive-based revenue.
  
• The acquisition of a portion of the high-voltage grid in Rome from Acea is expected to be EPS accretive from the first year due to the immediate recognition of the acquisition and commercialization of optical fiber networks, which should bolster earnings.
  
• The strong commitment to a robust CapEx plan, as evidenced by ongoing infrastructure projects like the Tyrrhenian link and facilitated by grants and hybrid financial instruments, is anticipated to enhance revenue due to increased grid capacity and efficiency, supporting long-term growth.
  
• Transitioning to an output-based incentive framework aims to increase the system's efficiency and could substantially enhance Terna's revenue stream and EBITDA growth by over €400 million during the 2024-2028 plan period.
  
• The commitment to expanding renewable energy integration, demonstrated by the increase of operating renewable capacity and a significant rise in renewable energy production, should drive long-term revenue growth due to the amplified demand for sustainable and reliable energy infrastructure.

Terna Future Earnings and Revenue Growth

Assumptions

• Analysts are assuming Terna's revenue will grow by 6.2% annually over the next 3 years.
• Analysts assume that profit margins will shrink from 29.6% today to 25.6% in 3 years time.
• Analysts expect earnings to remain at the same level they are now, that being €1.1 billion (with an earnings per share of €0.55). However, there is some disagreement amongst the analysts with the more bearish ones expecting earnings as low as €953 million.
• In order for the above numbers to justify the analysts price target, the company would need to trade at a PE ratio of 19.1x on those 2027 earnings, up from 14.7x today. This future PE is lower than the current PE for the GB Electric Utilities industry at 20.2x.
• Analysts expect the number of shares outstanding to decline by 0.11% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.97%, as per the Simply Wall St company report.

Terna Future Earnings Per Share Growth

Risks

• Regulatory changes, such as potential revisions of the WACC and deflator, could affect future allowed revenues and earnings, impacting the company's profitability and net margins.
  
• The purchase price of high-voltage grids, including the €224 million deal with Acea, involves a premium and potential 2025 CapEx adjustments that may strain capital allocation and earnings.
  
• The transition from dispatching incentives at the end of the year creates uncertainty, potentially reducing future incentive earnings if new frameworks are less profitable.
  
• Increased competition or regulatory constraints in acquiring additional regulated assets could limit future expansion opportunities, impacting revenue growth.
  
• Rising operating expenses, including personnel costs and raw material prices, could pressure net margins despite capitalized cost offsets.

Valuation

• The analysts have a consensus price target of €8.3 for Terna based on their expectations of its future earnings growth, profit margins and other risk factors. However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of €9.6, and the most bearish reporting a price target of just €7.3.
  
• In order for you to agree with the analyst's consensus, you'd need to believe that by 2027, revenues will be €4.3 billion, earnings will come to €1.1 billion, and it would be trading on a PE ratio of 19.1x, assuming you use a discount rate of 8.0%.
  
• Given the current share price of €7.74, the analyst's price target of €8.3 is 6.7% higher. The relatively low difference between the current share price and the analyst consensus price target indicates that they believe on average, the company is fairly priced.
  
• 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.