EDP ENERGIAS DE PORTUGAL COMPANY REPORT · EDP is an electric utility company founded in 1973 operating worldwide. Currently, EDP is a group of companies operating throughout the

THIS REPORT WAS PREPARED BY ANA RITA MIRANDA, A MASTERS IN FINANCE STUDENT OF THE NOVA SCHOOL OF BUSINESS AND

ECONOMICS, EXCLUSIVELY FOR ACADEMIC PURPOSES. THIS REPORT WAS SUPERVISED BY ROSÁRIO ANDRÉ WHO REVIEWED THE

VALUATION METHODOLOGY AND THE FINANCIAL MODEL. (SEE DISCLOSURES AND DISCLAIMERS AT END OF DOCUMENT)

See more information at WWW.NOVASBE.PT Page 1/33

MASTERS IN FINANCE

EQUITY RESEARCH

As a result of EDP’s privatization process, China Three Gorges

(CTG) acquired a sizable position in EDP’s capital structure with positive

impacts on share prices (+9.53%) and financing requirements. CTG is

identified as an important strategic partner that facilitates access to

alternative markets and potential joint-participations in other

investments.

The Iberian market (MIBEL) is becoming fully integrated with

lower days of market splitting in 2013. This imposes more efficiency to

companies in production and increases the importance of possessing the

“right” source of production. EDP has under construction six hydro

power plants with a total installed capacity of 1,697MW.

Iberian activities have recently suffered due to changes in

regulation, a direct result of the current economic environment in this

region. Major changes include the CMEC remuneration, reduction in

remuneration rates of the regulatory asset bases, and the introduction of

new taxes such as the energy tax of 0.85% of assets. This is a segment

with low future growth perspectives.

EDP is currently pursuing the liberalization of its supply activity

which will require significantly higher efforts from the company side given

increased competition. The company will have to become more

dynamic on several fronts in order to maintain its current market

positioning. As the actual incumbent, EDP is regarded as having a

comparative advantage over its peers. This procedure is expected to

conclude in the end of 2015.

Brazil currently poses as a major source of future opportunities

given the country’s ever growing market. Demand for energy is expected

to increase through the following decades (4.7% per year) in spite of the

regulatory system that is currently in place.

Developing economies have displayed environment concerns

that have recently led to the increase in Renewables. Based on future EU

targets on CO2 reductions and EDPR expansion strategy, EDP has much

to gain from this segment.

Our Target price is €2.86 and the recommendation is to Hold.

Company description

EDP is an electric utility company founded in 1973 operating worldwide. Currently, EDP is a group of companies operating throughout the value chain of electricity. It also operates in the gas segment and in the renewable sector. It is the major electricity company in Portugal.

EDP – ENERGIAS DE PORTUGAL COMPANY REPORT

“ELECTRIC UTILITIES” 06 JANUARY 2014

ANALYST: ANA RITA MIRANDA [email protected]

Time of Changes

Challenging Liberalized Markets

Recommendation: Hold

Vs Previous Recommendation HOLD

Price Target FY14: 2.86 €

Vs Previous Price Target 2.86 €

Price (as of 3-Jan-14) 2.69 €

Reuters: EDP.LS, Bloomberg: EDP.PL

52-week range (€) 2.22-2.82

Market Cap (€m) 9,704

Outstanding Shares (m) 3,627.3

Source: EDP and Bloomberg

Source: Bloomberg

2012 2013E 2014E

Revenues (€ millions) 16,340 16,992 15,851

EBITDA (€ millions) 3,628 3,614 3,985

Net Profit (€ millions) 1,182 843 1,033

EPS (x) 0.32 0.24 0.28

P/E (x) 8.84 12.40 10.12

Net Debt/EBITDA (x) 5.19 5.09 4.22

Debt/Assets(x) 0.48 0.48 0.45

EV/EBITDA (x) 9.18 9.22 8.36

ROA (x) 2.77 1.98 2.51

Source: EDP and Nova Research Team

50

70

90

110

130

150

Dec-08 Dec-09 Dec-10 Dec-11 Dec-12 Dec-13

EDP PSI20

speralta

Rectangle


PAGE 2/33

Table of Contents

1. COMPANY OVERVIEW .................................................................... 3

COMPANY DESCRIPTION ....................................................................................... 3 SHAREHOLDER STRUCTURE ................................................................................. 4

2. MARKET OVERVIEW ....................................................................... 6

ELECTRICITY IN THE WORLD AND IN EUROPE ...................................................... 6 ENERGY IN THE WORLD ......................................................................................... 7 CO2 EMISSIONS ..................................................................................................... 8

3. VALUATION ..................................................................................... 8

4. GENERATION IN IBERIA ................................................................11

Valuation .................................................................................... 13

5. DISTRIBUTION IN IBERIA ..............................................................15

6. SUPPLY IN IBERIA .........................................................................18

Valuation .................................................................................... 19

7. GAS IN IBERIA ................................................................................22

Valuation .................................................................................... 23

8. BRAZIL ............................................................................................24

Valuation .................................................................................. 236

9. RENEWABLES ................................................................................27

10. MULTIPLES’ VALUATION ..............................................................28

FINANCIALS ...........................................................................................28

APPENDIXES ..........................................................................................28

DISCLOSURE AND DISCLAIMER ..........................................................33


PAGE 3/33

1. Company overview

Company description

Energias de Portugal (EDP) is a vertically integrated electric utility company

that operates across multiple sectors. The company was created in 1976 from

the merger of 13 public enterprises and experienced significant growth over the

next decades. Although the company is smaller than most of its comparables,

EDP has one of the highest return on equity (ROE) which is derived from its high

leverage, much above its comparables. EDP exhibited stable return on assets

(ROA) since 2009 having one of the highest values among the most relevant

European competitors.

Sources: Bloomberg, and NOVA Research Team.

The activities of EDP are split across the following sectors: Iberian electricity,

Iberian natural gas, Brazil, and Renewables. Since many of these activities are

capital intensive (e.g.: electricity production and distribution), EDP is largely

affected by regulation and is under the scrutiny of ERSE1.

The electricity sector is comprised by electricity production, distribution, and

supply (commercialization). Production is carried out in two different regimes:

conventional regime with installed capacity of 13,343 MW, and special regime

with installed capacity of 466 MW. The special regime (PRE) has priority

dispatch in the electricity markets and it was developed due to the finite

character of fossil fuels and the need to diversify energy sources. This regime

currently includes mini-hydroelectric2, cogeneration, and biomass and residuals

production. For the purpose of this report, the production segment is valued by

differentiating the production from regulated and from liberalized production. The

share of hydro and wind’s installed capacity has increased, while thermal and

combined cycle maintained a stable share of installed capacity. Regarding the

1“Entidade Reguladora dos Serviços Energéticos” (ERSE) is the Portuguese supervisor for energy services (electricity

and gas). 2Hydroelectric power plants with an installed capacity below 10MW.

Table 1: Comparables' Data

Inst.

Capacity

(MW)

Net

Debt/

EBITDA

Net

D/E

EV/

EBITDA P/E

P/

Book

Rating

(S&P)

EDP 23.38 5.1 161.7% 8.67 10.00 1.15 BB+

EDF 139.50 2.3 90.4% 5.82 9.59 1.47 A+

RWE 51.98 1.1 77.9% 3.02 179.63 1.53 BBB+

Iberdrola 46.04 4.7 76.7% 9.66 9.89 0.81 BBB

Endesa 39.40 0.1 2.8% 4.23 10.62 0.99 BBB

EDPR 8.15 3.5 57.4% 7.17 24.77 0.58 N.A.

Endesa Iberdrol

a

EDF

EDP

GDF

EDPR E.ON

RWE

0%

3%

6%

9%

12%

15%

100 200 300

RO

E (

Percen

t)

Total Assets (€ billions)

Graph 1 - Comparables1\

Source: Bloomberg. 1\ Size corresponds to market capitalization.

0%

1%

2%

3%

4%

5%

6%

7%

2009 2010 2011 2012

Graph 2: Return on Assets

(Percent)

EDP Iberdrola

Endesa EDPR

EDF RWE

Source: EDP, Endesa, Iberdrola, EDF, RWE, and NOVA Research Team.


PAGE 4/33

net production, wind has doubled its weight in total production, while the

combined cycle has decreased exponentially. EDP’s distribution of electricity is

performed in high, medium, and low voltage and it consist in a large network that

covers 223,734 Km in Portugal and 22,986 Km in Spain. Given that these

networks imply large investments in fixed assets, the activity is capital intensive

and is classified as a natural monopoly that requires the intervention of

regulatory institutions in order to establish the remuneration in the segment. The

supply activity consists in the commercialization of electricity and it was

originally fully regulated. With the liberalization of the market, the relative size of

regulated and last resort supply (LRS) activities compared to total EDP’s supply

has steadily decreased and it currently accounts for 67% of commercialization in

Portugal and 4% in Spain. EDP’s commercialized a total of 29,603 GWh3 in

Portugal and 20,252 GWh in Spain, denoting a much larger presence in the

Portuguese market given the differences in each country's size and population.

The natural gas sector includes storage, distribution and supply with operations

in Portugal and Spain. EDP, which is the second largest operator in both

markets, can either sell the gas or use it to produce electricity in its CCGT plants.

In 2012 EDP supplied more than one million consumers, counted with 14,196 km

of distribution grid and commercialized more than 35 TWh.

Similarly to the Iberian activities, the Brazilian sector also incorporates

production, distribution and supply of electricity. Production is mostly focused on

the conventional regime and installed capacity amounted to 1,974 MW in 2012.

Distribution is performed through EDP Bandeirante and EDP Escelsa, and it is

characterized by a network extension of 85,749 Km. Supply of electricity in Brazil

consisted in 24,923 GWh during 2012 where 63% was regulated.

Renewables, operated by EDP Renováveis (EDPR), comprises mainly the wind

generation and amounted to a total of 8,145 MW of installed capacity, being

present in Europe, north and south of the American continent. In 2012, EDPR

produced 18,445 GWh which were entirely sold due to its priority in dispatch

while subject to feed-in-tariffs4.

Shareholder Structure

EDP currently possess a total of €3,656.5 million shares, all of them class A

shares5 with nominal value of one euro and fully paid. Its shareholder structure

has changed over time mainly through its reprivatization process that began in

3One Gigawatt hours (GWh) is equivalent to one million kilowatt hours (KWh). One KWh is the output of a power

station with an installed capacity of 1KW operating during one hour at its full capacity. 4Tariff/price entitled to renewables technologies in order to encourage investment in these types of technology.

5Until recently, there were also class B shares which were the ones to be reprivatized.

13%

9% 0%

10%

20%

30%

40%

50%

2009 2010 2011 2012

Graph 6: Iberian Market Shares

(Percent)

Electricity Supply - Market Leader

Electricity Supply - EDP

Gas Supply - Market Leader

Gas Supply - EDP

Source: EDP.

-20%

0%

20%

40%

60%

80%

100%

2010 2011 2012 2013E 2014E

Graph 4: Turnover

Breakdown (Percent)

Reg. Production Lib. ProductionDistribution SupplyGas BrazilRenewables Other and Adjustments

-20%

0%

20%

40%

60%

80%

100%

2010 2011 2012 2013E 2014E

Graph 5: EBITDA

Breakdown (Percent)

Reg. Production Lib. ProductionDistribution SupplyGas BrazilRenewables Other and Adjustments

Source: EDP.

Source: EDP.

Source: EDP.


PAGE 5/33

June 1997. This process has been characterized by 8 stages where the most

recent and relevant one occurred in October 2011 in which shares detained by

Parpública6, a public holding that owned golden-shares at EDP

7, were sold in two

phases.

The first phase included a sale of 21.35% of capital which was acquired by China

Three Gorges (CTG), a Chinese government owned company operating in the

energy sector with an installed capacity of 74.8GW. This transaction amounted to

€2.7 billion that represents a price per share of €3.45 and a premium of 53%8,

with a positive impact on market share prices of €0.22 (+9.53%) through the

following two weeks9.CTG’s entry into the company’s capital is perceived

positively given the significant share price appreciation that has been observed

since the transaction. For instance, during the last two years EDP’s stock price

has increased by 23.86%, amounting to 11.29% per year.

The second phase took place in February 2013 where the remaining Parpublica’s

stake of 4.14% was sold as free float given that an agreement with CTG was not

achieved. This stake was sold at a price of €2.35 per share, which represented a

discount of 2.97% compared to the previous day’s closing price. After the sale

EDP’s shares experienced a decline of 8% that took approximately one month to

recover from.

CTG’s strategy lies in renewable energies and aims, with the investment in EDP,

to become a strategic partner in this field. This led to its current agreement that

includes a 4 year lock-up and standstill period by CTG which, in addition to a

granted credit facility of €2 billion for a maturity of 20 years, contributed to

stabilize the shareholder structure and improve EDP’s liquidity position which is

very important due to the recent financing restrictions that Portuguese

corporations have experienced.

In 2011 it was estimated that EDP needed refinancing of about €2.6 billion per

year during three years10

. Furthermore, 2011’s annual accounts also indicated

debt repayments of €3.0 billion in 2012, and €2.7 billion in 2013. This entire

standing improved due to CTG’s entry and current EDP estimates suggest that

no more refinancing will be required until the end of 2014.

EDP is presently pursuing a deleveraging strategy and aims to achieve the target

of three times the debt-to-EBITDA ratio by 2015. The agreement has also settled

the purchase of minority stakes by CTG in the renewable sector. This gives EDP

6 DL 106-A/2011, from October 26

th, in which the disinvestment of Parpublica in EDP has been authorized.

7 Golden shares gave the right of veto regarding some matters.

8 According to recent news, this premium was based on expected standstill regulatory environment.

9 Increase from 22 of December 2011, when the purchasing was agreed, until 2 of January 2012.

10 Financial Times.

1.55%

2.47%

1.74%

0.0%

1.0%

2.0%

3.0%

0

200

400

600

Net

Generation

(TWh)

Net

Consumption

(TWh)

Installed

Capacity

(GW)

Graph 7: EDPB and Brazilian

Market (Percent)

Brazil % EDPB

Sources: EDP, World Bank, and NOVA Research Team.

7.99

0

2

4

6

8

10

12

14

Iber

dro

la

ED

PR

ED

F

RW

E

Fer

sa E

ner

gia

s

Ren

ovab

les

Graph 8: Wind Installed

Capacity (GW)

Sources: EDP, Iberdrola, EDF, RWE, Fersa Energias Renovables, and NOVA Research Team.

Table 2: Shareholders' Structure

SHAREHOLDERS %

Capital

China Three Gorges 21.4%

Oppidum 7.2%

Iberdrola Energia S.A.U. 6.7%

Capital Group Companies, Inc. 5.0%

José de Mello Energia, S.A. 4.6%

SENFORA SARL 4.0%

Grupo BCP; FP do Grupo BCP 3.4%

Sonatrach 2.4%

Qatar Holding LLC 2.3%

Massachusetts Financial

Services Company 2.2%

BlackRock, Inc. 2.0%

Banco Espírito Santo, S.A. 0.3%

EDP (Treasury Stock) 0.8%

Free Float 38.5%

Total 100.0%

Source: EDP.


PAGE 6/33

the opportunity to become more active in the upside potential of the growing

Chinese market as well as a joint-participation in other investments as are the

ones recently announced in Africa and Brazil11

.

2. Market Overview

Electricity in the World and in Europe

World’s installed capacity is expected to grow at an average rate of 1.6% per

year from 2010 until 2040 but with significantly different growth rates across

regions. OECD countries are expected to grow at an average of 0.9% per year,

while non-OECD countries are expected to grow at 2.3% on average, with Brazil

and China in the leading positions. This denotes a clear discrepancy between

developed and developing or emerging economies. In absolute values OECD

countries remain fairly stable in regards to total installed capacity, whereas non–

OECD greatly increase their share and China alone represents 27.4% of world’s

total installed capacity in 2040.

Regarding the world’s total generation of electricity it is forecasted to increase by

an average of 2.2% per year from 2012 to 2040, which is slower than the

preceding 7 years in which the average rate was 3.1%. This implies a change in

the sources’ shares over time. For instance, coal is forecasted to lose 4

percentage points between 2012 and 2040 whereas renewable sources increase

from 19% to 25% and natural gas from 20% to 24%.

World Demand12

exhibits an expected growth rate of 2.2% from 2010 until 2040

but with differences across regions. OECD countries present an average growth

rate of 1.1%, with US and OECD Europe both under the average with 0.8% and

11

Recent articles on newspapers (e.g.: Jornal de Negócios). 12

We used net generation as a proxy for demand.

17.33

21.41

25.37

39.03

0

5

10

15

20

25

30

35

40

45

2005 2010 2015 2020 2025 2030 2035 2040

Th

ou

san

ds

Chart 10: Electricity Generation by Fuel

('000 TWh)

Oil and other liquids Coal Nuclear Natural gas Hydro Wind Solar Other

2%

5%

39%

16%

40%

36%

4% 3%

14%

20%

38%

13%

15%

6%

17%

11%

23%

17%

21%

17%

24%

075

150225300375450525600675750825

1990 2000 2010 2020 2030 2040

Chart 11: World Energy

Demand

(Quadrillion Btu)

Non-OECD OECD

Source: EIA.

Source: EIA.

0

2

4

6

8

2005 2010 2015 2020 2025 2030 2035 2040

Th

ou

san

ds

Chart 9: Installed Capacity by Region/Country

(Gigawatthour)

US OECD Europe Other OECD China Brazil Africa Other Non-OECD

OECD

Non-OECD

Source: EIA.


PAGE 7/33

1.0%, respectively. Non-OECD countries present an expected growth rate of

3.1% with China above average (3.7%) and Brazil and Africa both with 3.0%

growth rates.

Energy in the World

World’s consumption of energy, which encompasses natural gas, coal, oil,

nuclear and others, presents the same trend. Non-OECD countries exhibit

exponential grow while developed countries experience a more moderate growth.

Coal

Coal consumption is expected to increase by an average of 1.3% although the

increase is driven by developing countries, mainly in Central and South America

and Asia. Developing countries are expected to decrease its consumption. Coal

used for electricity generation is expected to decrease its proportion in total

generation while increasing its absolute value which implies a significantly higher

growth for alternative inputs. On a side note, coal prices are expected to grow at

an average rate of 3%, according to the U.S. Energy Information Administration

outlook (EIA).

Natural Gas

Total natural gas consumption is expected to increase by an average rate of

1.3% per year, again driven by developing countries. Some of the natural gas

consumption will be in production of electricity, which is expected to increase

both in total share of generation and absolute value. As a fossil fuel natural gas

reserves are claimed to be finite and we will eventually become unable to extract

it. Nevertheless, technological advancements, new transformation processes,

and even the appearance of new theories suggest that these inputs are not as

finite as it was believed.

Natural gas consumption in electricity production will also depend on its relative

price to other energy sources. Its price has been decreasing remaining at low

levels but it is expected to increase at 3.4% yearly average until 204013

.

Nuclear

Nuclear consumption is expected to experience a high increase (2.5% average

per year) for which the major contributors are China, Europe and America, with a

combined consumption of 62% of total consumption in 2040.

Nuclear plants are on average one of the most efficient forms of production with

low marginal costs of production. Nevertheless, it is a very capital intensive type

13

EIA, Annual Energy Outlook (AEO), 2013.

Source: EIA.

125

150

175

200

225

2009 2010 2015 2020 2025 2030 2035 2040

Chart 13: World Coal

Consumption

(Quadrillion Btu)

0

4

8

12

16

Chart 14: Henry Hub Natural

Gas Spot Prices

(USD/MMbtu)

Source: EIA.

Source: Bloomberg.

0

10

20

30

40

Th

ou

san

ds

Chart 12: Net generation by

Region/Country

(Billion KWh)

US OECD EuropeOther OECD ChinaBrazil Africa

Source: EIA.

100

120

140

160

180

200

20092010201520202025203020352040

Chart 15: World Natural Gas

Consumption

(Trillion cubic feet)

Source: EIA.


PAGE 8/33

of production with some environmental concerns, mainly after the incident in

Fukushima, Japan.

CO2 emissions

Concerns about the environment have been growing around the world, which has

implications on the decision of each source of energy to use. The European

Union (EU) has established targets for 2020 currently called “20-20-20”14

, in

which the ambition is to reduce by 20% greenhouse gas emissions (versus

1990), to increase to 20% consumption of renewable sources, and to reduce by

20% the use of primary energy (versus 2007). The EU is also committed to a

“low-carbon economy” and until 2050 aims to reduce greenhouse gas emissions

to 20% of 1990 levels15

.

This might have implications in the CO2 prices and consequently in the decisions

of the companies in regards to energy source selections and investment

valuations.

3. Valuation

The valuation of the company is done through a Sum of the Parts approach

where each business is valued separately. A Discounted Cash flow model is

applied for each segment where the Free Cash Flow (FCF) is discounted at the

Weighted Average Cost of Capital (WACC), a measure that captures each

business’ risk.

To compute the WACC there are three major terms to be considered: the cost of

debt, the cost of equity and the target debt-to-equity ratio.

In regards to the cost of debt, EDP can finance itself as a whole which offers

better conditions than separate financing for each business unit. Therefore, the

cost of debt was computed for the whole company and considered equal across

units. Nevertheless, in order to reduce exchange rate risk the company borrows

in local currencies (e.g.: euros, Brazilian reais and US dollars). This cost was

computed using two different approaches.

The first approach determines the cost of debt by adding the risk free rate to a

spread based on the rating of the company. EDP’s rating is currently BB+ which

corresponds to a spread of 3.00%16

. For the risk free we have considered an

14

European Directive 2012-727/EU. 15

This vision incorporates intermediate milestone goals of 60% by 2030 and 40% by 2040. 16 Data collected by Aswath Damodaran, a Professor of Finance in Stern School of Business at New York University.

2,000

3,000

4,000

5,000

6,000

20092010201520202025203020352040

Chart 16: World Nuclear

Consumption

(Billion KWh)

860 690 670

400

0

200

400

600

800

1000

Coal Gas oil Fuel Oil NaturalGas

Chart 17: Implied GHG emissions from electricity generation

(CO2/KWh)

Source: EIA.

Source: “CO2 emissions from fuel combustion”, 2012 Edition, IEA.

Sum of the Parts approach, valuing each business separately.


PAGE 9/33

historical average of the 10 year German bond for the Iberian activities (2.36%).

These computations provide a cost of debt of 5.36%. For the particular case of

Brazil where activities are accounted in Brazilian reais the risk free was

determined using the covered interest rate parity17

, with the 10 year German

bond, the current exchange rate, and the 5 year forward exchange rate. We have

also looked at the inflation rate differential between these two countries. For this

valuation, the risk free rate for Brazil is considered 4.96%.

The second approach takes into account EDP’s current 10 year yield from a zero

coupon bond, along with the historical probability of default and recovery rates of

companies with similar ratings18

. EDP’s 10 year yield currently stands at 4.47%,

and the probability of default and the recovery rates of BB+ rated companies

correspond to 10.51% and 70.70%, respectively. This computation provided a

cost of debt of 4.82%. For the purpose of the valuation we shall rely on the

second approach as it is more detailed.

Even though the risk free rate is considered to be different in Brazil, the cost of

debt will be considered the same as we are using the method based on market

yields and default rates.

Since we utilize a sum of the parts approach, the cost of equity was determined

with the intent of valuing each segment separately. The basis of our approach

lies on CAPM19

. However, since company returns only yield aggregated results,

we rely on comparables to assess the systematic risk of each activity. This is not

a straightforward task as the majority of companies do not operate in one single

business. Therefore, we define comparables as companies that, while still

possessing activities throughout the entire value chain, tend to emphasize a

particular segment, while having a similar size, and rating20

. We can find in the

Appendix 2 more details on this selection.

17

( ) where stands for the domestic interest rate and for the foreign interest rate.

18 , where corresponds to the market yield of a 10y zero coupon bond,

to the probability of default of BB+ rated companies, and to the recovery rate of BB+ rated companies.

Moody’s Investors Service. February 2009. “Corporate Default and Recovery Rates, 1920-2008.”

Standard&Poors. March 2011. “Default, Transition, and Recovery: 2010 Annual Global Corporate Default Study and

Rating Transitions”. 19

Capital Asset Pricing Model (CAPM), used to compute the expected return of the asset using the following equation:

( ) to estimate the parameters. This methodology only takes into account the systematic

component of risk as investors are capable of diversifying the firm specific risk. We used ( )

where CRP stands for the country risk premium. 20

In “Principles of implementation and best practice for WACC calculation”, Independent regulators Group, 2007

Table 3: Default Spread

Spread

A 1.00%

A- 1.30%

BBB 2.00%

BB+ 3.00%

BB 4.00%

B+ 5.00%

Source: Damodaran.

Cost of Debt using EDP’s 10y yield, probability of default and recovery rates.

Cost of Equity determined using comparables and segment’s unlevered betas


PAGE 10/33

For each segment we have estimated the unlevered beta through the average of

comparables which was later relevered21

through the market debt-to-equity ratio.

Current market debt-to-equity ratio was determined at 2.1. Nevertheless, the

target lies below this number as EDP is pursuing a deleveraging strategy with a

target ratio of 2.0.

Market risk premium is assumed to be 5.7022

in accordance with literature.

Country risk premium (CRP) was computed using Credit default swaps (CDS)

and the relative weight of standard deviation of equities and bonds in the local

market. We have also looked at local and global market variances to have a

better sense of the value for CRP23

.

For the perpetuity we used the NOPLAT of the last year of the explicit period, the

growth rate for each economy, and the perpetuity formula24

.

For the growth rate, we have considered an inflation rate of 2% for Europe,

consistent with European Central Bank’s long-term strategy25

and for Brazil an

inflation rate of 4.5%, which is consistent with the International Monetary Fund’s

(IMF) projections for medium term and also according to Brazilian’s Central Bank

target for inflation26

. For the real growth rate we have looked at the projected real

GDP growth of the IMF, where we identify long-term growth of 1.8% in Portugal,

1.2% in Spain and 3.5% in Brazil.

21

*

+, although the implicit is not equal to zero, we currently face a situation where the risk

free rate is significantly below its historical value. This leads to an exaggeration in computations. 22

“Market Risk Premium and Risk Free Rate used for 51 countries in 2013”, 2013, Pablo Fernandez, Javier

Aguirreamalloa and Pablo Linares.

d as being the most probable value for market risk premium. 23

Systematic Country Risk Modulator in “Practical Approach for Quantifying Country Risk”, Jaime Sabal, ESADE.

24 To compute the perpetuity value we used:

(

)

, “Valuation”, McKinsey

&Company, Tim Koller, Marc Goedhart, Daviv Wessels, p.113. 25

According to the IMF, until 2018 it is expected an average inflation rate of 1.4% for Portugal and 1.5% for Spain, but

we have considered the long term expectations for the euro area. 26

Recent inflation rates in this country have been historically high, registering in 2012 an inflation of 5.84% (according

to the Brazil Central Bank).

Target D/E 2.00

Rd 4.82% Portugal 3.00% Portugal 3.25% Portugal 29.5%

rf (€) 2.36% Spain 3.00% Spain 3.10% Spain 30.0%

rf (br) 4.96% Brazil 5.00% Brazil 4.82% Brazil 34.0%

Regulated

production

Liberalised

Production

Distribution

Portugal

Distribution

SpainSupply Portugal Supply Spain Gas Brazil

0.420 0.505 0.660 0.629

1.012 1.215 1.024 1.020 1.470 1.464 1.586 1.460Re 11.4% 12.5% 11.4% 11.3% 14.0% 13.8% 14.9% 18.1%

WACC 6.06% 6.43% 6.08% 6.01% 6.93% 6.85% 7.21% 8.15%

WACC

Valuation

Table 4: Valuation Inputs

Country Risk Premium (CRP)Nominal growth rate (g) Marginal Tax Rate

0.425 0.610Beta

Unlevered

Country risk premium computed using Credit default swaps

Long term growth rates using IMF projections


PAGE 11/33

4. Generation in Iberia

Portugal and Spain started to build an integrated market and since July 2006 the

Iberian market for electricity (MIBEL) is functioning. MIBEL works based on two

parts: OMIP in Portugal and OMEL in Spain, where OMIP supervises the

forward/future market and OMEL operates the daily and intra-day market (spot

market). The participants are Spanish and Portuguese companies and the price

is equal across the pool. Although MIBEL aimed to be a fully integrated market

there is operational problems in terms or connections between these two

countries. Currently, the capacity of the connection is 1600MW from Spain-

Portugal and 1300MW from Portugal-Spain, with the goal of increasing it to

3000MW in both directions by 2014. A major problem with these connections is

that they often become congested, which causes a market split and two distinct

markets with differentiated prices arise. In 2013 there were 50.3% of days where

the price was not different, 31.9% where the price in Spain was higher than in

Portugal and 17.8% where the price in Portugal was higher than in Spain27

. Over

time the market became more integrated as shown by the diminishing of market

split days and the decrease in market prices across the two countries. In addition,

there are issues related to regulated production that is not included in supply

which distorts the price obtained there. Nevertheless, in what concerns

production, the relevant market is Iberia28

.

The production of electricity can be done in two regimes: ordinary regime of

production (PRO) and PRE, where PRE includes mini-hydro, cogeneration,

biomass and waste and PRO includes all the other forms of production. Aside

from the requisites necessary to be classified as PRE, this production has priority

in selling. In Portugal, the LRS, operated by EDP Universal, S.A. is obliged to buy

all this production29

. In Spain, the system is similar but all the PRE production is

fully absorbed. PRE price is pre-determined by law, and even though PRE

production can be sold to someone other than the LRS, there is a floor and a

maximum to pay to these producers.

In 2012, EDP registered a production in Portugal of 17,017GWh from 9.927MW

of installed capacity. Regarding Spain, the total production was 10,080GWh with

3,882MW of installed capacity. As of December 2012, PRE installed capacity in

Iberia totalled 466 MW which represents 3.4% of total capacity, and 2,247 GWh

of production, representing 8% of total production. In addition to the split of PRO

27

Source: OMIE, data until mid-December. In 2012 the numbers were: 68.5%, 0% and 41.5%, respectively. 28

Regarding supply, the two markets will be considered separately as each country has its own specificities and different

correlations to the key value drivers. 29

According to Decree-Law 172-2006 which establishes the duties of the Last Resort Supplier.

0%

10%

20%

30%

40%

50%

60%

0

1

2

3

4

5

6

2008 2009 2010 2011 2012

Graph 17: Mibel statistics

Market Price Spread (Pt-SP)

% of Market Split

Long term growth rates using IMF projections

Source: Ren.


PAGE 12/33

and PRE production, we also have a special situation in Portugal, where some of

the PRO production is remunerated under CMEC compensations (costs with the

maintenance of contractual equilibrium, the old PPA – power purchase

agreement – with a real pre-tax return on assets of 8.5%) and market conditions

production.

CMEC compensation, which has been legally defined by DL 240/2004, is in place

for 26 power plants with a total installed capacity of 5,287MW and will last until

2027. The transition of CMECs to liberalized conditions will have significant

developments in 2013 and 2015 where 27% of the installed capacity will switch,

and 2024 where 42% will also shift. Other years only have residual transitions to

the liberalized status.

The CMEC scheme comprises two periods. The first period will be in place until

2017 in which EDP operates in the free market but its remuneration is

predetermined30

, that is, EDP receives the market price from the Iberian pool but

has to compensate the government if revenues under CMEC are below (has to

pay the government) or above (has to receive from the government) market

revenues. From 2017 on, there will be no more compensation with the

government and the risk is fully absorbed by EDP. The CMEC formula relies on a

fixed amount per year plus a parcel with three components that are often

revised31

. The CMEC base – the difference between NPV of PPA and NPV of

CMEC – is currently at €0.8billion and it has been revised downwards in about

€13 million32

of annual revenues as agreed in the Memorandum of

Understanding (MoU) between the Portuguese authorities and the IMF. This was

achieved through a change in the rate of tariff repercussion for contractual

balance33

. Therefore, although we expect stable FCFs, we need to anticipate

potential changes such as the ones introduced by the financial assistance

program.

The mix of production is 34% hydro, 33% wind, 17% CCGT and 16% from other

sources, where “clean” production is clearly the major source of production,

amounting to 67% of total production. EDP’s strategy is to increase the share of

clean production to 73% by 2015, for which it will contribute the already in

construction six hydro power plants that shall be commissioned in 2014-2016.

These plants imply a total investment of €2 billion.

30

Remuneration is predetermined in order to decrease market imperfections. If the supply is in the free market, even

though the company does not receive the market price, it will be determined as if the company is offering in the market. 31

Availability of power plants, market gross margin adjustment, and power services revenues. 32

The value is an estimation of reduction per year which, according to EDP has a PV of 120 million. The reduction will

be in place until 2027. 33

Portaria 145/2012.

Table 5: Power Plants under PPA/CMEC

Thermal Plants

End of

PPA

Installed

Capacity (MW)

2017 1192 Sines (coal)

Hydro Plants

End of

PPA

Installed

Capacity (MW)

2013 804 3 Plants

2015 627 7 Plants

2020 132 1 Plant

2022 125 1 Plant

2024 2215 13 Plants

2027 192 1 Plant

Source: EDP and Research Analyst

Table 6: Installed Capacity in Construction (MW)

MW Start date

Ribeiradio 81 2H 2014

Foz do Tua 252 2H 2016

Baixo Sabor 173 2H 2014

Venda Nova III (repowering) 746 2H 2015

Salamonde II (repowering) 207 2H 2016

Fridão 238 2018

Source: EDP

Hydro Plants


PAGE 13/33

Valuation

The key value drivers for production activity are evolution of demand,

remuneration of regulated production, PRE output, load factors and price in the

Iberian pool.

Production evolution is very close to demand evolution, which in turn is tied to

GDP variations, population evolution and economy development. For the

purpose of our analysis the demand evolution was forecasted using GDP growth

as the other variables were not statistically significant34

. According to our

estimations total production will increase at a slower pace, from 351,079 GWh in

2012 to 374,861 GWh in 2018, which is equivalent to an average increase of

1.1%.

After the estimation of production the company needs to analyze the technology

with the lowest variable costs to produce so that it can send selling bids to the

market in order to reach the Iberian pool market price. For that, the company

needs to estimate the amount of production from each technology according to

power plants loads factors35

and the marginal cost per each unit of production.

Regarding Load factors we can see that EDP’s implied load factors significantly

vary depending on the source. When compared to its peers, EDP faces higher

load factors on hydro production, similar load factors on nuclear production and

lower load factors on thermal production. Nevertheless, we must be cautious

when evaluating load factors given the sizable amount of clean sources of

production in EDP. These clean sources not only have priority in the grid, but

they also have the lowest marginal costs of production. As a result, they are

intensively used with efficiently determined load factors. Opposite to this thermal

plants will only be used when other sources cannot fully sustain demand and the

resulting load factors will be much lower than what they could potentially be.

The analysis is different when the decision concerns the type of technology to

build. For this case we must look at the levelized cost of energy (LCoE) which

gives us the “average unit cost per MWh of a payment stream that has the same

present value as the total cost of building and operating a generating plant over

its life”36

. This measure gives us the possibility to rank technologies according to

cost, which has implications in the decisions for investment37

.

34

For more detailed information see Supply valuation. 35

Load factor is the percentage of use of a plant, or in other words, what is the real production compared to the maximum

potential. Load factors are calculated as:

.

36“Levelized Cost of Energy Calculation – Methodology and Sensitivity”, Black & Veatch report

37 “Electricity Generation Costs”, from Department of Energy & Climate Change from October 2012.

-

100

200

300

400

Tho

usa

nd

s

Graph 18 - Gross Production Evolution - Forecast

(GWh)

PT demand SP demand

Total Demand

0%

10%

20%

30%

40%

2009 2010 2011 2012

Graph 20: Hydro - Implied

Load factors

EDP Iberdrola Endesa

0%

20%

40%

60%

2009 2010 2011 2012

Graph 19: Thermal - Implied

Load factors


Source: NOVA Research Analyst

Sources: EDP, Iberdrola, Endesa, and NOVA Research Analyst


0%

20%

40%

60%

80%

100%

2009 2010 2011 2012

Graph 21: Nuclear - Implied

Load factors




PAGE 14/33

However, it is important to note that these estimations are highly sensitive to its

parameters and the evolution of prices (fuel inputs). As such, it is not surprising

that gas production in the USA has increased as natural gas prices have

decreased. Alternatively, coal is the input that is most sensitive to changes in

CO2 costs, followed by gas and coal technology with carbon capture and storage.

Therefore the decision of what technology to put at work changes over times as

parameters changes.

According to ERSE from 2008 until July 2012, the electricity placed in the grid

comprised a large share from PRE followed by nuclear and then hydro38

.

Some plants are entitled to receive capacity payments that are payments to

compensate the cost of building the plants that work as a backup. As an

example, CCGT capacity payment has been revised downwards to €6,000/MW

from 2014 onwards.

We also believe that CO2 prices will increase as the legislation will become more

restrictive and as European directives and objectives of 20-20-20 are put in

place. CAPEX is expected to be at €1.6 billion per year from 2013 to 2015 with

marginal increases afterwards. EDP might have a competitive advantage since it

has the largest part of hydro production and is thus not affected by CO2 prices.

CAPEX will mostly comprise maintenance and investments in power plants in

order to respond to the small increases in demand. According to “Resolução de

Ministros” 20/2013 from April 2013 we expect to increase hydro power to

8536MW until 2020.

Regarding nuclear plants, after the Fukushima disaster in 2011, Spain

announced the closing of a nuclear plant. However, recent events show more

indecision about the closing which might indicate that nuclear will not be

extinguished. Perhaps, the cost will increase by increasing safety obligations in

the plants.

Recently a new tax on production and distribution of electricity and gas has been

created, amounting to a total of 0.85% of fixed assets. This was created in the

context of the financial assistance program.

38

“Tarifas e preços para a energa eléctrica e outros serviços em 2013”, from ERSE december 2012.

25 37 21 35 40

150

25

50 60

31

95 80

150

65

0

40

80

120

160

Co

al-f

ired

gas

-fir

ed

nu

clea

r

win

d

min

i-hyd

ro

sola

r

com

bin

ed h

eat

and p

ow

er…

Graph 22: LCoE at 5%

Discount rate

minimum maximum

35 30 30 45 65

200

30

60 63 50

140

100

70

0

40

80

120

160

Co

al-f

ired

gas

-fir

ed

nu

clea

r

win

d

min

i-hyd

ro

sola

r

com

bin

ed h

eat

and p

ow

er…

Graph 23: LCoE at 10%

Discount rate

Minimum Maximum

€ 0.7

€ 0.6

€ 0.4

€ 0.2

Graph 24: EDP's Capex 2013

(billion €)

Maintenance Wind Hydro Brazil

0%

20%

40%

60%

80%

100%

20

09

20

10

20

11

20

12

20

09

20

10

20

11

20

12

20

09

20

10

20

11

20

12


Graph 25: Electricity

Production

(Percent)

Hydro Thermal Nuclear Other

Source: EIA.

Source: EIA.

Source: EDP.

Sources: EDP, Iberdrola, and Endesa.


PAGE 15/33

5. Distribution in Iberia

The next units in the value chain are Transmission and Distribution, which

correspond to activities of transportation of the electricity from the production

sites to consumers. Transmission is related to higher voltage networks and

distribution to lower voltage ones. These two activities are considered natural

monopolies, therefore they are regulated and concessions are given to

companies. As a regulated activity, tariffs are determined by the supervisor -

ERSE in Portugal and CNE39

in Spain – and “regulatory periods” are determined.

Distribution in Portugal is characterized by a network of 223,734 km, which has

grown at an average of 1.02% since 2009 that disseminated, in gross terms,

48,559 GWh during the year of 2012. The distribution losses registered an

average of 7.2% from 2008 to 2012, which is in line with EIA statistics that have

estimated for the USA an average of losses of about 7%. EDP operates in high,

39

“Comisión Nacional de Energía” (CNE) is the Spanish supervisor for energy services.

Table 6: Regulated Production Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 452 435 418 312 319 289 277 55

Depreciation and Amortization (1)

212 204 232 210 214 198 203 168

Other Adjustments (2)

(1) 163 (2) (2) (2) (2) (2) (2)

Cash Flow from Operations 663 802 648 520 530 486 478 221

CAPEX (81) (95) (190) 890 (165) 623 (158) 1,367

∆ Operating NWC 101 (61) 69 67 (5) 13 (15) 137

Other LT Operating Assets and Liabilities (214) (90) 61 78 65 42 (12) 110

Cash Flow from Investing Activities (195) (247) (60) 1,036 (105) 678 (185) 1,614

FCF 468 556 588 1,556 425 1,163 293 1,835

PV FCF 4,687 t 29.50%

Terminal value (PV)* 2,253 g 3.00%

Value Regulated Production 6,940 0.59 per share WACC 6.06%

(1),(2): See Appendix 1 *until 2027

Table 7: Liberalized Production in Iberia Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 98 14 117 152 187 227 303 358

Depreciation and Amortization 234 234 274 302 323 340 344 361

Other Adjustments (3) 7 (8) (10) (11) (11) (12) (12)


CAPEX (602) (291) (396) (800) (786) (614) (639) (649)

∆ Operating NWC (8) (3) (49) (7) 41 14 (7) (3)

Other LT Operating Assets and Liabilities (108) (8) (12) (24) (3) 11 53 (16)

Cash Flow from Investing Activities (717) (301) (457) (831) (748) (588) (593) (668)

FCF (717) (301) (457) (831) (748) (588) (593) (668)

PV FCF (584)

Terminal value (PV) 4,468 g 3.00%

Value Liberalized Production 3,884 0.33 per share WACC 6.43%

Portuguese Regulator: ERSE.

Spanish Regulator: CNE.

Regulatory periods.


PAGE 16/33

medium and low voltage networks40

. The first two types of network concessions

are attributed by government while low voltage concessions are agreed between

the company and municipalities.

As a regulated activity, this segment is characterized by stable revenues and

costs. The Iberian economy has faced a turbulent period during the last five

years. Nevertheless, this segment’s EBITDA remained steady, amounting to

17.5% of total EBITDA. Still, the activity is subject to the interference of

regulatory actions which may take several forms. We currently stand in the

middle of a regulatory period41

and parameters and formulas were established in

order to determine the Regulatory Asset Base (RAB), constituting the value base

by which companies are remunerated. The Return on RAB (RRAB) is determined

by the regulator and uses the WACC methodology, reporting nominal pre-tax

remuneration rate. The WACC methodology is used by several regulators, with

slight changes in the reporting values. In hopes of comparing regulatory

approaches, ERSE compared WACC methodologies across 21 and confirmed

that differences are minimal42

.

Allowed revenues for 2014 are €3.49 billion and the RRAB is indexed to the

Portuguese 5y CDS43

from October in year t-1 to September year t, subject to a

floor of 8% and cap of 11%44

. The average until September 2013 was 370 basis

points which have been decreasing since the beginning of the regulatory period

leading to a RRAB of 8.56% (comparable to 10.05% in 2012). ERSE has defined

an efficient factor for operational costs and incremental grid costs of 3.5%.

Additionally, there is an incentive to reduce losses in distribution.

The Spanish market amounted to a total of 230.278 GWh in 2012, which has

varied significantly since 2008 with an annual average decrease of 2% where

EDP, through HC Distribución, operated 22.986 km and managed in gross terms

9.337 GWh in 2012. This implies that EDP’s market share was 3.9% in 2012,

having remained stable since 2008 where it was closer to 4%. EBITDA also

remained stable during these years, amounting to 5% of total EBITDA. Note that

losses in the system averaged 3.7% in the latest years which is lower than the

Spanish average of 8%45

.

Real Decreto 222/2008, 15th of February established the remuneration

methodology of the distribution activity in Spain, after RDL 2819/1998, 23rd

of

40

These concessions are attributed according to several Decree-Laws, namely DL29/2006 and DL 344-B/82, among

others. 41

Regulatory periods last three years. The current one ranges from 2012 to 2014. 42

“Parâmetros de Regulação para o período 2012 a 2014”, from ERSE, December 2011. 43

In the previous regulatory period it was indexed to 10y bonds. 44

Which corresponds to 0.8% and 14.8% CDS average for floor and cap, respectively. 45

World Bank statistics for 2009, 2010 and 2011.

370

390

410

430

450

470

Chart 26: EDP's Operational

Costs in Distribution1\

Allowed Costs EDP Real Costs

Source: ERSE. 1\ 2011 Constant prices.

.

Stable revenues is a characteristic.

Remuneration based on Regulatory Asset Base (RAB). In Portugal is indexed to Portuguese 5y CDS.


PAGE 17/33

Table 8: Distribution in Portugal Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 300 311 (127) 201 184 189 188 185


Other Adjustments 7 88 (20) (20) (20) (20) (20) (20)


CAPEX (187) (542) (259) (301) (315) (331) (350) (371)

∆ Operating NWC 107 (415) (10) 32 94 (16) 37 63

Other LT Operating Assets and Liabilities (324) (324) (27) 14 38 27 43 (8)

Cash Flow from Investing Activities (404) (1,281) (296) (256) (183) (320) (271) (315)

FCF 147 (651) (155) 227 298 184 251 226

PV FCF 1,061 t 29.50%


Value Distribution Portugal 5,958 0.51 per share WACC 6.08%

December, which regulates the activity through the net RAB. According to RD

9/2013, the remuneration is linked to the 10y government bond plus a spread of

200 basis points and a lag of two years. The remuneration for each company is

published every year in Boletín Oficial del Estado (BOE). For 2013 the

remuneration of HC Distribución is of €150 million (IET/221/2013, 14th of

February).

Spain has tried through a serial of laws to contain the problem of the tariff

deficit46

, which has reached €26 billion. For instance, the RDL 2/2013 attempted

to adopt measures to correct the deviation from revenues and costs to regulated

prices, while also changing the rule to update allowed costs. In addition, RDL

9/2013 established new taxes to energy production. Based in all of these

changes future regulatory actions are expected.

Valuation

For 2013 the RRAB was established in 8.56% but we expect a decrease since

CDS have been decreasing and exhibited an average in the last quarter of 2013

of 360 basis points with a tendency towards 8%. This remuneration currently

exceeds our computed WACC since we differentiated in our approach and many

of the inputs that the regulators utilized surpassed our figures. Since the

remuneration rate exceeds the discount rate, the fair value of the regulated

assets exceeds the RAB.

According to ERSE the costs with grid connections range from €7.2 to €23.01 for

aerial connections and from €19.55 to €49.15 for underground connections. As

we are in a mature market, new connections opportunities are diminishing47

. The

expenditures are mainly in maintenance CAPEX.

46

The accumulated amount of costs are not reflected in the price paid by consumers which has to be repaid to companies

at some point. 47

According to ERSE and EDP Distribuição the number of new connections have been decreasing since 2008.

0

200

400

600

800

1000

1200

Chart 27: CDS 5y

(Basis points)

Portugal Ireland

Greece Spain

USA

Source: Bloomberg.

Remuneration in Spain is linked to 10y government bond plus a 200 basis points spread

Measures to reduce the Tariff Deficit in Spain


PAGE 18/33

6. Supply in Iberia

The supply activity consists in the service of providing energy to consumers from

the moment the electricity goes out of the grid to the moment it reaches houses

and other facilities. This activity is not capital intensive as its major investments

include electricity measuring devices, marketing and physical facilities to inform

consumers. EDP supplies electricity in Portugal and Spain through two regimes:

liberalized supply and regulated or last resort supply (LRS), where the latter is

operated by “EDP – Serviço Universal” in Portugal and “HC Energía” in Spain.

Currently, EDP is the major liberalized supplier in Portugal with a market share of

44% which increased from 40.1% last year48

. Other companies in Portugal

include Endesa and Iberdrola. In regards to the Spanish market, Endesa,

Iberdrola and GNF hold the leading positions and EDP ranks in fourth place49

.

Overall, this implies that EDP is number three in the entire Iberian market, behind

Endesa and Iberdrola50

.

Concerning Portugal, as of December 2012 EDP had 6.6 million consumers

(87% LRS) and supplied a total of 29,602 GWh (67% LRS). Those large

percentages are explained by the process of liberalization which is reaching its

final stage. The liberalization has two different paths to differentiate “large”

consumers (the ones with contracted power capacity equal or above 10.35KvA51

)

from “small” consumers. The transitory period for the large consumers started in

July 2012, and it will last until the end of 2014, demarking the termination of the

transitory tariffs established by ERSE. The small consumers only began the

48

ERSE, “Resumo Informativo Mercado Liberalizado – Eletricidade”, August 2013. 49

CNE, “Informe de Supervisión del mercado minorista de electricidad”, junio 2012. 50

EDP’s share regarding regulated supply was 31% and regarding liberalized supply 13%, as of December 2012. 51

KvA= 1,000 volt amperes, which is a unit of apparent power, where an ampere measures electrical current and volt

measures the electrical potential.

Table 9: Distribution in Spain Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 111 72 66 64 61 60 59 56


Other Adjustments (7) 24 0 0 0 0 0 0


CAPEX (95) (35) (38) (39) (44) (47) (49) (54)

∆ Operating NWC 12 (3) 2 1 0 (1) 1 1

Other LT Operating Assets and Liabilities (8) (6) (3) (0) (1) 1 (1) 1


FCF 47 84 65 65 61 60 61 60

PV FCF 274 t 30.00%

Terminal value (PV) 765 g 3.00%

Value Distribution Spain 1,039 0.09 per share WACC 6.01%

46.24 43.16 39.38

33.71 29.60

0

10

20

30

40

50

2008 2009 2010 2011 2012

Th

ou

san

ds

Chart 29: EDP's Supplied

Electricity in Portugal

(GWh)

LRS Liberalised

6.09 6.10 6.11 6.05 6.63

0

2

4

6

2008 2009 2010 2011 2012

Mil

lio

ns

Graph 28: EDP's number of

consumers in Portugal

LRS LiberalisedSource: EDP.

Source: EDP.


PAGE 19/33

transitory period in January 2013 which will have effect until 2015. By 2016 all

consumers have to be supplied by a liberalized provider. During the transitory

period ERSE updates tariffs every three months and applies a penalty to

encourage the change to a liberalized supplier. In December 2012, there were a

lot of consumers that had not yet changed, but this penalty initiated the transition

and in the first ten months of 2013 2.66 billion consumers contracted a liberalized

supplier, which weighted 70.7% of total market and represented one-third of

consumers in the LRS as of December 201252

. This denotes the rapid change in

the market.

Regarding the Spanish market, by December 2012 EDP had 1.05 million

consumers (74% in the liberalized market) and supplied 20,252GWh (96.50% in

the liberalized market). Contrary to Portugal, Spain started the liberalization

process much earlier and has fewer consumers in the regulated regime. In

addition, the Spanish regulated regime is not similar to the Portuguese since

consumers can only choose to be supplied in the regulated market if they are

considered lower voltage consumers53

, with no anticipated change to this regime.

LRS are determined by the Spanish government law. Overall, EDP’s market

share remained stable at around 9% in the liberalized market from 2009 to 2012.

Valuation

The key value drivers of this segment are estimated demand, evolution of market

share, consumers’ preferences, evolution of margins, and prices.

Consumption of electricity is strongly connected to economic growth, the Human

Development index (HDI), and energy prices. Since the variables are not

stationary and co-integrated, we relied on first differences and/or growth rates in

order to project consumption54

.

Since Portugal recently underwent an increase in the value added tax, from 6%

to 23%, we do not have sufficient observations to quantify its impact through

dummy variables. As such, this adjustment will be reflected in our underlying

price trajectory going forward. Regarding prices’ growth we estimate an average

increase per year of 2%55

in the long run. Given the historical high energy prices

in Portugal, initial price growth rates will be above this long run threshold but they

will slowly converge towards this equilibrium.

52

ERSE 53

Contracted power voltage lower that 10KW Consumers with contracted power voltage above this value have to buy

from a liberalized supplier since July 2009. 54 ; R

2=0.79

; R2=0.49

Data source: IMF, Eursotat, Pordata and INE. 55

“World Energy Outlook 2013”, Table A8, page 139, Energy Information Administration.

80.3%

64.9%

51.0% 41.6% 39.5%

11.3% 11.1% 11.4% 10.5%

0%

25%

50%

75%

2008 2009 2010 2011 2012

Graph 30: EDP's Market

Share

(Percent)

Portugal Spain

0

250

500

750

1,000

2008 2009 2010 2011 2012

Th

ou

san

ds

Graph 31: EDP's number of

consumers in Spain

LRS Liberalised

19.75 19.37 21.44 21.36 20.25

0

10

20

2008 2009 2010 2011 2012

Th

ou

san

ds

Graph 32: EDP's Supplied

Electricity in Spain

(GWh)

LRS Liberalised

29

.60

25

.88

20

.74

19

.32

17

.72

18

.22

18

.76

0

10

20

30

40

50

2012 2014 2016 2018

Th

ou

san

ds

Graph 33: EDP's expected

sales in Portugal

(GWh)

LRS Liberalised

Source: EDP.

Source: EDP.

Source: EDP.

Source: EDP.


PAGE 20/33

When limited to 4 times per year, changes in supplier will not impose costs on

consumers which implies a higher propensity for changes in providers and

stronger market competitiveness. Nowadays companies offer integrated packs of

electricity and gas, and even if a particular company has a worse option for an

individual service it can offer a better option for packages of services. This impact

will be included in the estimations of margins and sales.

Due to ERSE’s penalty in transition tariffs we believe that only a residual part of

consumers will remain in the regulated market and by 2016 all consumers are

supplied in the liberalized regime. Note that in Portugal a marginal part of

population (estimated in less than one percent) will remain in the regulated

supply.

In Portugal prices charged to small consumers are very stable with changes in

invoices of about 1.5%. However, the change for large consumers is wider and

EDP is not able to offer competitive prices56

. Regarding Spain, according to CNE

EDP has offered the lowest prices in the first six months of 2012. This is also true

for smaller companies and EDP has managed to detain between the third and

fourth position for large consumers57

.

Changes in consumer’s preferences will take into account the change in

propensity to use electric cars and electronic devices. We believe consumers will

be more demanding when choosing electronic devices and choose the ones with

lower electricity consumptions. However, there is the opposite tendency to use

more and more electronic devices (electric intensity of the economy58

). The net

effect is an increase in demand but at a slower pace. According to a recent study

about forecasts of evolutions of electric vehicles in 202059

, during 2012 Portugal

counted with 1.862 electric vehicles and Spain with 787 which represented 1%

and 0.4%, respectively, from all electric vehicles in the world. By 2020 it is

estimated that 307,692 electric vehicles will be available in Portugal and 692.307

in Spain which represent 5.3% and 12% from total cars estimated in 2020. Even

if electronic vehicles correspond to a market with high potential, large

developments are not expected in the near term. Still some companies have

launched much more appealing prototypes, with better technology60

and lower

production costs, effectively reaching a higher portion of the population.

56

NOVA Research Team simulation through ERSE’s resources. 57

«Informe de Supervisión de las ofertas del Mercado minorista de gas y electricidad recogidas en el comparador de

ofertas de la CNE» primer semester de 2012, CNE. 58

According to “Electricity consumption forecasting in Italy using linear regression models” by Vicenzo Bianco,

Oronzio Manca, Sergio Nardini, energy 34 (2009) p.1423-1421. 59

“Global EV Outlook- Understanding the Electric Vehicle Landscape to 2020”. International Energy Agency. April

2013, page 10. 60

EIA.

20

.25

20

.08

20

.16

19

.38

20

.40

20

.70

23

.45

0

10

20

30

40

50

2012 2014 2016 2018

Th

ou

san

ds

Graph 34: EDP's expected

sales in Spain

(GWh)

LRS Liberalised

Source: EDP.

Changes in consumer’s preferences: more demanding consumers and increasing use of electric vehicles


PAGE 21/33

Table 11: Supply in Spain Valuation

(millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 1 10 15 8 4 2 1 0


Other Adjustments 0 1 0 0 0 0 0 0


CAPEX (8) (9) (7) (8) (10) (13) (15) (18)

∆ Operating NWC 14 (175) 65 30 20 26 28 10

Other LT Operating Assets and Liabilities (130) (131) (5) 42 49 14 12 (1)

Cash Flow from Investing Activities (124) (316) 53 64 58 27 25 (8)

FCF (116) (296) 75 79 73 42 41 9

PV FCF 225 t 30.00%


Value Supply Spain 226 0.02 per share WACC 6.85%

There is an increasing competition that led to a decrease in margins and as a

response companies are trying to increase market shares. For instance, EDP

has launched campaigns targeted at consumers who prefer electronic means of

communication. In addition, EDP has the advantage of being the incumbent as a

large proportion of people, who are often adverse to change, were supplied by

the EDP group61

. EDP has to position itself as a dynamic corporation who is

willing to adjust to consumer requirements in order to face the increased threat of

new entrants. A particular example lies in the DECO auction won by Endesa

which has united around 600 thousand consumers and offered a 5% discount

over the consumption of electricity. As a result EDP offered lower prices through

discounts for both consumption and contracted power capacity, with reductions

ranging from 5.8% to 7% depending on consumptions. Furthermore, as the

market becomes more liberalized, further efforts will be required. Lower

investment is expected since consumers will be keener to use electronic support

in detriment of physical stores. As competitiveness increases, we expect lower

margins.

61

“Power to choose: An Analysis of Consumer Bahavior in the Texas Retail Electricity Market”, Ali Hotaçsu, Seyed Ali

Madanizadeh and Steven L. Puller, September 2011. The main conclusions are that consumers continue to be supplied

by the incumbent even though they might obtain great advantages from other suppliers and that this market share

advantage diminished over time.

Table 10: Supply in Portugal Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT (24) (20) 3 (7) (10) (8) 0 1


Other Adjustments (8) (9) 0 0 0 0 0 0

Cash Flow from Operations (17) (5) 18 11 10 15 27 31

CAPEX (12) (25) (16) (17) (20) (22) (25) (28)

∆ Operating NWC 17 (94) 32 30 24 14 3 0

Other LT Operating Assets and Liabilities (72) (69) 15 41 17 12 13 12

Cash Flow from Investing Activities (67) (188) 32 53 21 4 (10) (15)

FCF (84) (193) 50 64 31 19 17 16

PV FCF 136 t 29.50%


Value Supply Portugal 148 0.01 per share WACC 6.93%

As competitiveness increases, we expected lower margins.


PAGE 22/33

7. Gas in Iberia

Portugal and Spain do not possess natural gas wells and therefore their activity

consists in storage, distribution and supply, being the second player in the Iberian

market. Similarly to electricity, the gas activities are regulated in what concerns

storage and distribution, and are liberalized in supplying. Additionally, this

segment is also evolving in terms of integration of the Iberian market to create

the MIBGAS62

, in which ERSE and CNE are working in.

In Portugal, EDP operates through EDP Gás Distribuição, EDP Gás Universal,

and EDP Gás Propano, having supplied 7.46TWh to 318,552 consumers in 2012,

which corresponds to a market share of 16.2% in commercialization. ERSE is

responsible for regulating the distribution and the last resort supply of gas. In the

current regulatory period, which ranges from 2013 to 2016, the remuneration of

these activities will be indexed to the 10Y Portuguese bond yield with a floor and

a cap of 7.83% and 11.00%, respectively63

. During its first year the pre-tax rate

was fixed at 9.00% and we expect a downward revision in the following years

due to a decrease in the 10Y bond yield.

The sector has passed through a liberalizing process64

and since mid-2012 there

has been a transitory period similar to the electricity case, where the schedule for

the removal of the regulated tariffs was established in DL 74/2012, March 2012.

This transition began in June 2012 for consumptions between 500 m3 and 10.000

m3, and December 2012 for consumptions below 500 m

3. There is also a

transition period until 2014 for the first consumers and until 2015 for all others.

Regarding the Spanish market it is organized in LRS, established by government

and liberalized suppliers65

. EDP operates under Naturgas Energía (NGE), and

during 2012 it supplied 55,79TWh with 1,008 thousand distribution points and

10,320 km of network which is used for both transportation and distribution.

Recently, EDP finished the disposal of the transmission assets detained to

Enagás for an EV of €258 million, which represent an average of €26.5 million of

regulated revenues per year in 2011 and 2012. On the other hand, EDP acquired

62

The Iberian Market for Natural Gas. 63

“Parâmetros de Regulação para o Período dos anos gás de 2013-2014 a 2015-2016”, June 2013, ERSE, page 183. The

minimum corresponds to an average yield of 2.5% and the maximum to an average of 21.5%. 64

There is a Directive from the European Counsel and Parliament – 2009/73/CE July 2009 – that establishes the need to

increase the competition and the liberalization of the segment. The directive was later transposed to a law in DL

77/2011, June 2011. 65

Regulated through Hydrocarbons Act 34/1998 from October 1998; RDL 949/2001 from August 2001; and RDL

1434/2002 from December 2002. More recently, the Act 12/2007 from July 2007 modified Hydrocarbons Act and

adopted the ED 2003/55/EC, later repealed by Directive 2009/73/CE.

201.0 221.4 245.3

271.6 318.6

0

100

200

300

2008 2009 2010 2011 2012

Th

ou

san

ds

Graph 35: EDP's Consumers

in Portugal

Regulated Liberalized

Source: EDP.

Source: EDP.

Source: EDP.

Source: EDP.


PAGE 23/33

another 5% in NGE with an implicit multiple EV/EBITDA of 9.4, which amounted

to 95% of NGE’s capital66

.

Valuation

To value this segment it is crucial to analyze the evolution of demand, market

share and prices.

Total Iberian demand has evolved according to chart 40 in which we can see

that the biggest part of demand came from conventional demand (households

and industrial clients) and that demand for electricity generation has been

decreasing exponentially since 2006. According to REN the conventional

demand is expected to growth at an average rate of 2.2% from 2013 to 2023 and

the total demand is expected to grow at an average of 4% per year in the same

period67

. However, according to EIA 2013, the consumption of natural gas is

expected to be much lower, at just a 1.3% per year until 2040.

Regarding prices, we can see that they remain historically low, although we

expect an increase of 3.4% per year on average until 204068

. In what concerns

market shares, as we have seen in graph 02, they have been relatively stable

since 2009 for EDP despite losing its third position to Galp in 2012. We do not

expect great changes in the market share of EDP, despite a slight decrease in

the short term.

For the sake of the valuation, CAPEX will be considered equal to depreciation

and the new tax of 0.85% of assets will be taken in consideration.

66

EDP currently detains 99.87% of HC Energía (and consequently 95% of NGE) because Liberbank S.A. had a put

option of its 3.13% capital in HC which exercised the selling of 3%, for which EDP has to pay €106 million – the price

is indexed to EDP’s share price. Liberbank still possess the option to sell the remaining 0.13% until December 2017. 67

“Cenários de Evolução da Procura de Gás Natural, Período 2013-2023”, from REN Page 15. 68

EIA 2013, table A1, page 122.

Table 12: Gas Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 254 191 202 224 210 237 303 237


Other Adjustments (58) (2) (63) (69) (65) (72) (92) (72)


CAPEX 73 (110) (63) (64) (66) (63) (73) (74)

∆ Operating NWC 9 (181) 56 20 (6) 23 46 (24)

Other LT Operating Assets and Liabilities (157) (140) 4 27 25 7 14 42


FCF 193 (130) 201 200 162 199 267 181

PV FCF 1,129 t g WACC

Terminal value (PV) 1,803 Portugal 29.5% 3.0% 7.2%

Value Gas 2,932 0.25 per share Spain 30.0% 3.0% 7.2%

4%

12%

20%

28%

36%

44%

2009 2010 2011 2012

Chart 41: Iberian Market

share in gas

(Percent)

Gas Natural Fenosa

EDP

Iberdrola

Endesa

Galp

Source: EDP.

Source: REN.

Source: EDP.


PAGE 24/33

8. Brazil

EDP operates in Brazil through a 51% equity share on Energias do Brazil, S.A., a

company with activities throughout the entire value chain: production, distribution

and supply. Brazil has a highly regulated environment where the electricity

segment is regulated by ANEEL69

and Ministério de Minas e Energia (MME).

EDP is present in five states of Brazil: São Paulo, Mato Grosso do Sul, Espírito

Santo, Tocatins e Ceará.

In what concerns production, the Brazilian market is marked by a strong

presence of hydro installed capacity, although its share of installed capacity in

the country has decreased from 76% to 66% between 2006 and 2012. On the

other hand, thermal installed capacity has increased its proportion which more

than doubled from 2006 to 2012. Production follows the same pattern with hydro

losing its share in total production but still representing more than ¾ of the total.

This indicates high dependency of hydro production which has led to a few

problems during dry seasons (e.g.: 2001-2002). However, we can already see a

few strategies towards diversification such as the one in DL 3371/2000, identified

as the Priority Thermal Power Program.

EDP exhibits the same trend with an installed capacity of 2,058 MW in 2012, of

which 87.2% is in hydro power plants, 4.0% is in wind power plants70

and 8.8% is

in thermal power plants. However, 2012’s production was almost all from hydro

because Pecém, the new thermal power plant, only began operations in

December which is almost one year later than predicted with negative impacts for

EDP.

PPAs awarded to plants assume an average level of availability of plants and

when these are not fulfilled, the owning company is subject to penalties.

Furthermore, the company is still required to provide that amount of electricity

and given its own inability to produce it, this energy has to be acquired at market

prices from other parties. Given the problems in Pecém, where the first turbine

only began in December 2012, EDP had a negative impact of R$ 86.6 million in

gross revenues and additional negative impacts in fees71

for not complying with

June’s deadline. Additional negative impacts were experienced as the second

turbine only began operations in May 2013.

69

“Agência Nacional de Energia Elétrica” (ANEEL) is the brazilian regulator for the sector of electricity, equivalent to

ERSE in Portugal. 70

For the purpose of valuing the segment, the wind production will not be taken into account. 71

ANEEL postponed the deadline from January 2012 to June 2012; however, the company was penalized by not

fulfilling the deadlines of June.

96

.6

10

0.4

10

4.1

10

6.2

11

3.7

11

6.5

12

1.1

0

30

60

90

120

2006 2007 2008 2009 2010 2011 2012

Chart 42: Total Installed

Capacity in Brazil by Source

(GW)

Nuclear Wind Biomass and Waste Other f

412.7

437.8 455.2 458.7

506.9

530.7

360

400

440

480

520

560

0%

20%

40%

60%

80%

100%

2006 2007 2008 2009 2010 2011

Tho

usa

nd

s

Chart XX: Production in GWh by sorce. Source: EIA

Hydro Thermal

Nuclear Wind

Biomass and Waste Total Generation

Sources: EIA and ANEEL.

412.7

437.8 455.2

458.7

506.9

530.7

360

400

440

480

520

560

0%

20%

40%

60%

80%

100%

Tho

usa

nd

s

Chart 43: Brazil Production of electricity by source

(GWh)

Biomass and Waste Wind

Nuclear Thermal

Hydro Total Generation

Source: EIA.


PAGE 25/33

In what concerns distribution, EDP operates in two states under the distributors

Escelsa (state of Espírito Santo) and Bandeirante (state of S. Paulo), having

distributed 24.9 TWh in 2012 which represents a marginal increase of 2.1% in

four years. As a highly regulated activity, ANEEL is responsible for determining

the RAB and RRAB for each regulatory period. At the end of each period

parameters are often adjusted through inflation updates. For example, the current

formula includes a parcel A with non-controllable costs and a parcel B with

controllable costs, where both are updated by inflation72

.

For Bandeirante, ANEEL recently approved a 10.36% tariff increase73

, which is

inflation plus a factor X established at 1.08% (productive component of 1.08%

and zero for efficiency component and for quality of service component)74

.

Regarding the RAB it is currently at R$3 billion in gross values and R$1.5 billion

in net values. The new regulatory period will start on October 2015 and will last 4

years. Bandeirante owns a concession until 2028.

For Escelsa, ANEEL approved a tariff update of 4.12%75

. This distributor has

started a new regulatory period of 3 years starting on August 2013 with a defined

gross RAB of R$2.8 billion, a net RAB of R$1.6 billion and a RRAB of 7.5%

(revised downward from 10%), where the concession will last until 2025.

Regarding supply, EDP operated through Enertrade having supplied 11.1 TWh

in 2012, corresponding to a market share of 8.2% which has continuously

decreased since 2009.

72

The update is performed through the IGP-M index. 73

The approval was given on October 2013 and will be in place for a year. 74

EDP and ANEEL 75

The revision was in august 2013 and the updating is in place for a year.

0%

10%

20%

30%

40%

50%

60%

70%

EU27 EDP

Iberia

Brazil EDP

Brazil

Cemig CESP EU27 EDP

Iberia

Brazil Cemig

Hydro Termal

Chart 44: Load Factors Comparison

2009 2010 2011 2012

Source: NOVA Research Team.

Brazil's PPA PlantsInstalled

Capacity (MW)End of PPA

In-use Plants 2,514

Peixe Angical 499 2016

Mascarenhas e Suiça 227 2016

Pecém(*) 720 2026

Lajeado 903 2030

Mihi-hydro 165

New Intalled Capacity 592

Jari (2015) 373 2044

Cachoeira-Caldeirão (2017) 219 2047

Total 3,106

* in 2012 only 50% of its capacity was working.

Note: Mascarenhas was repowered, adding 4.5MW of capacity

Source: EDP

Table 13: EDPB's Installed Capacity

13.40% 15.49%

12.83%

8.34% 8.28%

0%

5%

10%

15%

20%

2008 2009 2010 2011 2012

Graph 45: EDPB (Enertrade)

market share

(Percent)

Brazil (Enertrade)

Source: EDP.


PAGE 26/33

Valuation

The key value drivers are inflation expectations, demand, prices, economic

developments, exchange rates and CAPEX.

Regarding Demand, we relied on estimates from Empresa de Pesquisa

Energética (EPE)76

which assume an average increase in total consumption of

electricity of 4.7% until 2022.

The major portion of investment relates to expansion strategies given Brazil’s

growing market. During 2012 the Brazilian activities displayed that only 7% of

CAPEX was related to maintenance, with similar developments in 2013. For the

new installed capacity of the company, Cachoeira-Caldeirão implies an

investment of R$1.1 billion, and S. António do Jari an investment of R$1.4 billion.

In regards to the Brazilian total investment, PED 2022 predicts R$200 billion in

generation until 2022 in order to comply with the increasing demand. Another

R$60 billion will be needed for transmission.

According to the evolution of installed capacity the hydro will still represent the

major source of production but its share decreases from 71% in 2012 to 65% in

2022. Renewable sources increase from 12.8% in 2012 to 20.8% in 2022, while

non-renewable sources decrease its share.

Regarding Exchange rates, we have used current spot rates for the appropriate

term of cash flows. For inflation we have used the long term rate of 4.5% as

higher levels of inflation are characteristic of emerging economies. Finally, in

regards to economic growth the IMF identifies an average real GDP growth rate

of 3%. For the future we can expect high potential in Brazil as it possesses a

growing market with foreseeable energy demand increases in the following

years. This is the main reason why our valuation for the segment is higher than

what many investors claim to be the fair value.

76

Brazilian entity that performs researches in the energy sector.

Table 16: Brazil Valuation

(€ millions) 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 344 294 498 459 492 484 474 488


Other Adjustments 66 77 11 9 8 7 7 6


CAPEX (205) (56) 603 (58) 19 65 37 34

∆ Operating NWC (11) (36) (113) (1) (2) 4 16 1

Other LT Operating Assets and Liabilities (7) (7) (15) (2) (7) (4) 11 (5)

Cash Flow from Investing Activities (223) (99) 475 (60) 10 65 64 30

FCF 327 353 1,103 513 616 659 642 614

PV FCF 1,635 t 34.00%


Value Brazil 6,232 0.53 per share WACC 8.15%

2012 2022 ∆ (%)

Hydro 84.8 119.0 40%

Wind 1.8 17.5 867%

Other Renewables 13.5 20.7 53%

Non-Renewables 19.4 25.9 34%

Total 119.5 183.1 53%

Installed Capacity (GW)

Table 14: Installed Capacity in Brazil Forecast

Source: Plano Decenal de Expansão de Energia (PDE) 2022, in

Empresa de Pesquisa Energética(EPE)

2013 2017 2022 CAGR

Consumption (TWh) 520.0 625.8 785.1 4.7%

Installed Capacity (GW) 129.5 152.6 183.1 3.9%

Hydro 88.7 102.2 119.0 3.3%

Thermal 20.0 21.0 22.5 1.3%

Wind 3.9 12.1 17.5 18.1%

Nuclear 2.0 2.0 3.4 6.1%

Other 14.8 15.4 20.7 3.8%

Investment (R$ billion)

Hydro

Thermal

Nuclear

Other Renewables

200.0

Source: Plano Decenal de Expansão de Energia (PDE) 2022, in Empresa

de Pesquisa Energética(EPE), (2013)- page 38, 99, 125

108.7

6.7

3.5

81.1

Table 15: Electricity Forecasts



PAGE 27/33

9. Renewables

EDP holds 77.53% of EDP Renováveis (EDPR), which is focused in the

renewable sources of production such as wind and solar generation. EDPR went

public in 2008 and currently operates in eleven countries including: USA, Iberia,

Canada, Brazil, UK, Poland and Romania. EDPR’s installed capacity amounts to

8,145 MW from which 7,558 MW are wind capacity.

From 2008 to 2012 total generation has increased at an average per year of

23.93%, and installed capacity has increased at an average rate per year of

16.07%.

The initial strategy of CTG included acquiring minority stakes in the renewable

sector for a total of €2 billion. By the end of 2012, EDPR received €170 million for

selling a 49% stake on 599MW of installed capacity on wind power plants to

Borealis. More recently, EDPR has reached agreements related to two other

transactions. The first one is related to the selling of a 49% stake in EDP

Renováveis Portugal, S.A., for €359 million, and the second one is related to the

sale of a 40% stake on ENEOP, a company focused on the wind generation

which is expected to be completed in 2015. According to some analysts (BESI

and BP) the second transaction is expected to have a positive impact on EDPR’s

share price.

EDPR recently began pursuing solar generation of electricity in Romania with an

installed capacity of 39M. Additionally, in December 2013 it announced a

guaranteed financing for EDPR for a wind project of 80 MW installed capacity in

Poland77

, which reinforces the strategy to invest in this type of countries.

According to EIA renewable capacity is expected to increase by 49.5% until

2040. This implies an increase of 3 percentage points in the share of renewables

that shall represent 6% of total capacity in 2040. Therefore, EDPR still has

potential as the market environment will tend towards the EU target for 2020 and

the economy shifts towards “low-carbon”. This segment is valued at market

values at the business day before the date of the report.

77

Source: Diário Económico newspaper.

Table 17: EDPR’s Installed

Capacity (MW)1\

By Geography

USA 3637

Spain 2310

Portugal 1005

Romania 378

Poland 320

France 314

Brazil 84

Belgium 57

Italy 40

Total 8145

Source: EDP.

1\2012 data

7.8

10.9

14.4

16.8 18.4

4.4 5.6

6.7 7.5 8.0

0

250

500

750

1,000

1,250

0

5

10

15

20

2008 2009 2010 2011 2012

Graph 46 - EDPR Key data

Production (TWh)


Revenues (m€)

Net Income (m€)

Source: EDP.


PAGE 28/33

10. Multiples’ Valuation

We have decided to rely on multiples in order to compare how the market is

currently valuing EDP with our how fair value estimates. For this purpose we

have used three major multiples that are highly regarded in literature:

EV/EBITDA, P/E, and EV/Revenues.

.

Table 18: Multiples' Valuation Summary

EDP

Current

Multiple

Market

Average

Price/

Share

EV/EBITDA 8.69 7.91 2.36

P/E 9.93 14.81 3.11

Value /Revenues 1.86 3.00 2.41

Target Price 2.86

Sources: Bloomberg and Nova Research Team

2.86

2.36

3.11

1.7

1.9

2.1

2.3

2.5

2.7

2.9

3.1

3.3

3.5

Jan

-13

Feb

-13

Mar

-13

Ap

r-1

3

May

-13

Jun

-13

Jul-

13

Au

g-1

3

Sep

-13

Oct

-13

No

v-1

3

Dec

-13

Jan

-14

Feb

-14

Mar

-14

Ap

r-1

4

May

-14

Jun

-14

Jul-

14

Au

g-1

4

Sep

-14

Oct

-14

No

v-1

4

Dec

-14

Chart 47: Target Price 2014YE

SoTP EV/EBITDA P/E Value/Revenues EDP


PAGE 29/33

Appendix 1 – Financial Statements

Table 19: Consolidated Balance Sheet

(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

Assets

Property, plant and equipment 20,324 20,708 20,905 20,487 19,823 20,097 19,336 19,313 17,785

Intangible Assets and Goodwill 9,963 10,128 9,860 9,544 9,444 9,315 9,179 9,065 8,938

Trade Receivables and Assets from commercial act. 1,556 2,217 2,834 3,164 2,952 2,838 2,772 2,774 2,576

Other Non-Current Assets 1,365 1,258 1,649 1,753 1,831 1,851 1,877 1,901 1,924

Total Non-Current Assets 33,207 34,311 35,249 34,949 34,051 34,101 33,164 33,052 31,223

Inventories 357 346 378 342 396 409 424 468 469

Trade Receivables and Assets from commercial act. 4,115 3,539 4,332 4,523 4,057 4,192 3,950 3,925 3,694

Cash and cash equivalents 1,588 1,732 1,695 2,058 1,745 1,766 1,786 1,833 1,796

Other Current Assets 1,222 1,353 975 785 922 920 936 944 920

Total Current Assets 7,282 6,970 7,379 7,709 7,121 7,288 7,096 7,170 6,879

Total Assets 40,489 41,281 42,628 42,658 41,171 41,388 40,260 40,223 38,102

Equity

Share capital 3,657 3,657 3,657 3,657 3,657 3,657 3,657 3,657 3,657

Treasury stock (116) (111) (104) (92) (92) (92) (92) (92) (92)

Share premium 504 504 504 504 504 504 504 504 504

Reserves and retained earnings 2,731 2,936 3,123 3,256 3,570 3,902 4,214 4,735 5,038

Consolidated net profit attributable to equity holders of EDP1,079 1,125 1,012 742 888 924 920 1,130 930

Total Equity attributable to equity holders of EDP 7,855 8,110 8,192 8,066 8,526 8,894 9,203 9,934 10,037

Non-controlling Interests 2,930 3,277 3,239 3,250 3,302 3,356 3,407 3,490 3,537

Total Equity 10,785 11,387 11,432 11,316 11,828 12,251 12,610 13,423 13,574

Liabilities

Financial debt 14,887 15,786 16,716 15,033 15,246 15,708 12,921 12,432 10,320

Trade and other payables from commercial activities (NCL)1,416 1,289 1,263 1,466 1,453 1,529 1,583 1,690 1,622

Other Non-Current Liabilities 5,671 5,419 5,314 5,466 5,533 5,595 5,650 5,738 5,831

Total Non-Current Liabilities 21,974 22,495 23,293 21,965 22,232 22,831 20,154 19,860 17,773

Financial debt 3,004 2,999 3,808 5,433 3,307 3,354 3,456 2,714 2,611

Trade and other payables from commercial activities (CL)3,489 3,297 3,221 3,067 2,974 2,127 3,222 3,406 3,333

Other Current Liabilities 1,236 1,103 875 877 830 825 818 820 813

Total Current Liabilities 7,730 7,399 7,903 9,377 7,111 6,307 7,496 6,939 6,756

Total Liabilities 29,704 29,894 31,196 31,342 29,343 29,138 27,650 26,799 24,529

Total Equity and Liabilities 40,489 41,281 42,628 42,658 41,171 41,388 40,260 40,223 38,102


PAGE 30/33

Table 20: Consolidated Income Statement

(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

Gross Profit 5,405 5,436 5,428 5,504 5,796 5,970 6,079 6,261 6,140

Other operating income / (expenses) (1,792) (1,681) (1,800) (1,890) (1,812) (1,831) (1,835) (1,780) (1,881)

EBITDA 3,613 3,756 3,628 3,614 3,985 4,140 4,244 4,481 4,258

Provisions,Dep.&Amort&Impairments&Others (net) (1,550) (1,488) (1,485) (1,636) (1,672) (1,754) (1,808) (1,870) (1,907)

EBIT 2,063 2,267 2,143 1,978 2,313 2,385 2,436 2,611 2,351

Gains / (losses) on the sale of financial assets 61 21 3 0 0 0 0 0 0

Financial Income net of financial expenses (485) (715) (705) (743) (762) (787) (839) (755) (734)

Share of profit in associates 23 19 24 26 27 28 29 29 30

Profit before income tax 1,662 1,592 1,464 1,261 1,578 1,626 1,626 1,886 1,647

Income tax expense (427) (260) (283) (417) (545) (551) (555) (579) (572)

Gains / (losses) sale of discontinued op., net of tax 0 0 0 0 0 0 0 0 0

Net profit for the year 1,235 1,332 1,182 843 1,033 1,075 1,070 1,307 1,075

Attributable to:

Equity holders of EDP 1,079 1,125 1,012 742 888 924 920 1,130 930

Non-controlling Interests 156 207 170 101 145 150 150 176 145

Net profit for the year 1,235 1,332 1,182 843 1,033 1,075 1,070 1,307 1,075

Table 21: Consolidated Cash Flow Statement

(€ millions) 2010 2011 2012 2013 E 2014 E 2015 E 2016 E 2017 E 2018 E

NOPLAT 1,516 1,666 1,575 1,323 1,514 1,577 1,604 1,809 1,535

Depreciation and Amortization (1)1,447 1,452 1,469 1,615 1,652 1,734 1,788 1,850 1,887

Other Adjustments (2)94 187 115 13 10 11 11 11 10

Cash Flow from Operations 3,057 3,306 3,159 2,951 3,176 3,321 3,402 3,670 3,432

CAPEX (1,673) (2,037) (1,399) (881) (888) (1,878) (890) (1,713) (232)

∆ Operating NWC (2,268) 313 (798) (196) 167 (981) 1,315 174 172

Other LT Operating Assets and Liabilities (1,196) (794) (656) (133) 197 188 119 105 129

Cash Flow from Investing Activities (5,138) (2,517) (2,853) (1,210) (525) (2,671) 543 (1,434) 69

Cash Flow from Non-Operating Activities (110) (1,214) (949) 126 (16) 57 52 55 74

Free Cash Flow to the Firm (2,191) (425) (644) 1,867 2,635 708 3,998 2,291 3,575

Net Financial Debt 2,589 903 1,657 (438) (1,616) 471 (2,721) (1,295) (2,193)

Net financial Income (485) (715) (705) (743) (762) (787) (839) (755) (734)

Interests * Corporate Tax (Tax Shield) 129 190 187 246 263 267 287 232 255

Capital Increases (cash) (535) (349) (896) (959) (520) (653) (711) (493) (925)

Other 493 397 401 27 (1) (7) (14) 20 23

Cash Flow from Financing Activities 2,191 425 644 (1,867) (2,635) (708) (3,998) (2,291) (3,575)

Free Cash Flow (2,191) (425) (644) 1,867 2,635 708 3,998 2,291 3,575

(1) Includes Compensation of Depreciation and Amortization

(2) Includes Impairment of Goodwill, Provistions and Adjustments in taxes


PAGE 31/33

Appendix 2 – Comparables

Name Ticker

Market

Capitalization

(billion EUR)

P/E P/B ROE ROA D/E Net D/EEV/ EBITDA

(12M)

AES TIETE SA-PREF GETI4 BZ 2.23 9.85 4.08 44.8% 20.5% 62.9% 38.77 5.42

CENTRAIS ELETRICAS BRAS- ELET6 BZ 2.89 N.A. 0.12 -15.6% -7.3% 49.5% 33.22 N.A.

CIA ENERGETICA DE SP-PRE CESP6 BZ 2.24 11.73 0.63 4.8% 3.0% 18.9% 8.63 3.86

CIA ENERGETICA MINAS GER CMIG4 BZ 5.65 4.16 1.36 32.3% 12.5% 72.3% 36.88 5.74

DUKE ENERGY INTL GERACA GEPA4 BZ 1.84 N.A. 2.13 12.9% 8.1% 39.1% 17.11 7.86

ELECTRICIDADE E SERVICOS EKTR4 BZ 1.03 N.A. 1.00 10.2% 4.8% 69.6% 47.65 N.A.

ENERSIS SA ENERSIS CI 10.80 12.48 1.26 11.7% 4.3% 42.1% 18.83 5.64

RENOVA ENERGIA SA-UNITS RNEW11 BZ 1.17 N.A. 3.79 -2.3% -0.9% 200.3% 176.32 38.13

TRANSENER S.A.-B TRAN AR 0.07 N.A. 1.25 -15.1% -4.4% 183.9% 165.69 N.A.

E.CL SA ECL CI 0.97 40.92 0.79 2.1% 1.2% 43.0% 31.95 8.12

EDF EDF FP 49.14 9.59 1.47 11.0% 1.4% 157.2% 90.41 5.82

IBERDROLA SA IBE SM 27.83 9.89 0.81 8.0% 2.9% 90.6% 76.73 9.66

PAMPA ENERGIA SA PAMP AR 0.33 8.19 1.24 5.5% 1.0% 116.3% 86.47 4.08

VERBUND AG VER AV 5.38 9.96 1.10 12.6% 4.7% 71.3% 70.46 4.74

TERNA SPA TRN IM 6.96 12.90 1.00 N.A. N.A. N.A. N.A. N.A.

ENBW ENERGIE BADEN-WUER EBK GR 7.61 49.06 1.47 2.5% 0.4% 104.7% 43.02 6.18

ENDESA SA ELE SM 21.93 10.62 0.99 9.0% 3.3% 33.2% 2.83 4.23

GDF SUEZ GSZ FP 39.76 38.32 0.67 1.6% 0.5% 75.0% 59.21 5.18

NATIONAL GRID PLC NG/ LN 33.40 10.89 2.50 24.5% 5.0% 236.2% 197.41 10

RWE AG RWE GR 16.45 179.63 1.53 0.7% 0.3% 128.6% 77.87 3.02

ENAGAS SA ENG SM 4.55 10.76 2.12 19.4% 4.9% 235.6% 164.02 7.99

FLUXYS BELGIUM FLUX BB 1.90 29.17 2.54 9.5% 2.5% 214.0% 178.44 10.37

GAS PLUS GSP IM 0.21 12.97 1.00 7.3% 2.6% 50.4% 47 4.86

SNAM SPA SRG IM 12.78 13.44 2.22 16.5% 4.1% 224.3% 224.22 8.96

REPOWER AG-BR REPI SW 0.38 15.42 0.54 4.2% 1.6% 59.2% 30.34 5.81

DRAX GROUP PLC DRX LN 3.67 11.27 1.77 14.0% 9.1% 13.6% -15.56 10.7

SECHILIENNE-SIDEC SECH FP 0.00 10.93 1.63 15.4% 3.9% 146.6% 124.66 7.98

EDP RENOVAVEIS SA EDPR PL 3.27 24.77 0.58 2.5% 1.0% 62.8% 57.37 7.17

FERSA ENERGIAS RENOVABL FRS SM 0.05 N.A. 0.41 -42.1% -14.7% 154.1% 136.18 8.57

GOOD ENERGY GROUP PLC GOOD LN 43.23 11.57 2.62 15.6% 5.1% 81.2% 66.83 N.A.

ELIA SYSTEM OPERATOR SA ELI BB 1.99 12.19 0.94 7.7% 2.6% 148.3% 131.75 10.65

FEDERAL GRID CO UNIFIED FEES RM 2.39 N.A. 0.12 -0.8% -0.6% 25.1% 20.85 3.66

LECHWERKE AG LEC GR 2.25 17.31 2.68 14.6% 7.0% 2.3% -55.76 12.5

RED ELECTRICA CORPORACIO REE SM 6.10 10.47 2.81 26.5% 5.9% N.A. N.A. N.A.

REDES ENERGETICAS NACIO RENE PL 1.19 10.41 1.12 11.0% 2.4% 282.9% 245.18 7.36

UNITED UTILITIES GROUP P UU/ LN 5.25 6.98 2.10 35.1% 6.7% 285.5% 282.96 10.59

Enea Sa ENA PW 1.67 8.48 0.61 6.6% 5.0% 7.4% -9.21 3.57

E.ON SE EOAN GR 27.13 10.29 0.74 6.7% 1.7% 62.2% 46.62 4.83

EDP-ENERGIAS DE PORTUGA EDP PL 9.75 10.00 1.15 12.3% 2.4% 177.9% 161.69 8.67

ENEL SPA ENEL IM 29.23 60.67 0.82 1.0% 0.2% 121.7% 106.36 6.11


PAGE 32/33

Appendix 3 – Sensitivity Analysis

-15% -10% -5% 0% 5% 10% 15%

Reg. Prod.

Lib. Prod

Dist. PT

Dist. SP

Supply PT

Supply SP

Gas

Brazil

Reg. Prod.

Lib. Prod

Dist. PT

Dist. SP

Supply PT

Supply SP

Gas

Brazil

WA

CC

EB

ITD

A

Sensitivity Analysis: Tornado Chart


PAGE 33/33

Disclosures and Disclaimer

Research Recommendations

Buy Expected total return (including dividends) of more than 15% over a 12-month period.

Hold Expected total return (including dividends) between 0% and 15% over a 12-month period.

Sell Expected negative total return (including dividends) over a 12-month period.

This report was prepared by Ana Rita Miranda, a student of the NOVA School of Business and Economics, following the Masters in Finance Equity Research – Field Lab Work Project, exclusively for academic purposes. Thus, the author, which is a Masters in Finance student, is the sole responsible for the information and estimates contained herein and for the opinions expressed, which reflect exclusively his/her own personal judgement. This report was supervised by professor Rosário André (registered with Comissão do Mercado de Valores Mobiliários as financial analyst) who revised the valuation methodology and the financial model. All opinions and estimates are subject to change without notice. NOVA SBE or its faculty accepts no responsibility whatsoever for the content of this report nor for any consequences of its use. The information contained herein has been compiled by students from public sources believed to be reliable, but NOVA SBE or the students make no representation that it is accurate or complete, and accept no liability whatsoever for any direct or indirect loss resulting from the use of this report or its content. The author hereby certifies that the views expressed in this report accurately reflect his/her personal opinion about the subject company and its securities. He/she has not received or been promised any direct or indirect compensation for expressing the opinions or recommendation included in this report. The author of this report may have a position, or otherwise be interested, in transactions in securities which are directly or indirectly the subject of this report. NOVA SBE may have received compensation from the subject company during the last 12 months related to its fund raising program. Nevertheless, no compensation eventually received by NOVA SBE is in any way related to or dependent on the opinions expressed in this report. The Nova School of Business and Economics, though registered with Comissão do Mercado de Valores Mobiliários, does not deal for or otherwise offers any investment or intermediation services to market counterparties, private or intermediate customers. This report may not be reproduced, distributed or published without the explicit previous consent of its author, unless when used by NOVA SBE for academic purposes only. At any time, NOVA SBE may decide to suspend this report reproduction or distribution without further notice.

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