Tokyo Electric Power: It's Time To Be Patient

Aug.28.13 | About: Tokyo Electric (TKECF)

The current market valuation of Tokyo Electric Power Company (OTCPK:TKECF) represents an interesting case study of uncertainty and fear. Last time I checked, stock price at the Tokyo Stock Exchange was 473 yen per share (or $4.72 in the OTC market), 21% down in the past 30 days. In other words, the market cap of Tokyo Electric (TEPCO) is roughly 760 billion yen. It is worth less than one quarter of Yahoo! Japan (OTCPK:YAHOF), and just 10% more than Japanese game maker GungHo.

For those investors who don't find this surprising, remember that Tokyo Electric is a monopoly in charge of providing electricity to more than 44 million people in the third largest economy of the world.

How can this company be valued just $7.6 billion?

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A month full of bad news

It's no secret that, for good or bad, TEPCO's stock price is highly sensitive to any news related to the Fukushima plants.

The 20% decline in stock price can easily be explained from this perspective. In the past month, several unfortunate news caused market sentiment to turn extremely negative.

The good news is that TEPCO also reacts extremely well to positive news. For example, when Abe (who is in favor of using nuclear energy) won the elections, TEPCO's shares rallied more than 100% in one month. Unfortunately, there have not been good news for a while.

New worries

Last week the following new issues emerged:

1. A radioactive water leak was found in a storage tank at Fukushima Dai-ichi. This leak was probably caused by deteriorating rubber seams.

2. 300 tons of tainted waiter had vanished from inside the tank. This is the fifth and probably worst leak since March 2011.

3. The Nuclear Regulation Authority stated it would raise the severity of the incident from one to three on the eight-point scale. Later, attempts by TEPCO to deal with leaks of toxic water were called a game of "whack-a-mole" by the Minister of Industry.

4. More Fukushima evacuees will sue TEPCO: 74 people representing 27 families that were forced to evacuate by the nuclear disaster will file a lawsuit against TEPCO with the Osaka District Court on September 17th.

They are seeking approximately ¥15 million per head for several damages suffered from the Fukushima disaster. The 27 households lived near Fukushima Dai-ichi but were forced to move to the Kansai region. The overall amount the group is asking amounts to ¥1.11 billion, or $11.3 million dollars.

What comes next?

After 2 years of the disaster and nuclear crisis, uncertainty, leaks and lawsuits still remain a strong possibility. We'll probably see more of these news in the medium-run.

Personal lawsuits are bound to happen. The main worry here is the possibility of further leaks. Apart from the obvious ecological damage inflicted, leaks can ultimately lead to very expensive compensation and decommissioning fees, and to stronger discontent and nuclear energy refusal feelings in a population already highly sensitive to using nuclear power as a source of energy. TEPCO is already in the middle of a very complex political process. If such feelings were to get stronger, the company may not be able to restart operations in Kashiwazaki plant in the medium run. And as Marc Peckner pointed out, restarting operations in Kashiwazaki is a fundamental step in TEPCO's come-back-to-profitability process, because it will help the giant to reduce its cost base by relying less on expensive, volatile crude oil. Furthermore, these leaks make the long-term possibility of restarting operations in Fukushima Daini plant even more remote.

In the worst scenario, if a massive leak or ecological scandal is to happen or be discovered, TEPCO won't be able to restart operations at Kashiwazaki and Daini even in the next 5 years, no matter what the stress tests say. That could make the path towards positive EPS even longer. The government, which by injecting more than 1 trillion yen can own more than 50% of the company, could end up this story by fully-nationalizing the company. Due to high uncertainty, it's hard to make an estimate of how much investors would obtain out of such deal.

The best scenario? This is the last leak ever. TEPCO would still need to deal with more than 330,000 metric tons of contaminated water stored in pits, and to stop the flow of groundwater at Fukushima Dai-ichi, a very expensive and challenging process. But in the long run, by transmitting a more stable, no-leaks image to the population, the company could have both its Kashiwazaki and Fukushima Daini plants operational before 2017.

In this long-run scenario, with Fukushima under control and operational nuclear plants constantly being monitored, there wouldn't be any reason to believe TEPCO is worth less than the value it had before the 2011 earthquake. This scenario implies that the current stock price of TEPCO will quadruple.

The bottom line

TEPCO is probably the most risky investment in the whole Nikkei 225 because the distance between the outcomes of worst and best case scenarios is huge. More than 2 years have passed after the earthquake and we still find signals of poor crisis-management.

If you are going to be long TEPCO, forget about the investment until your children go to school, because the extreme short-term volatility and, specifically, the recent negative market momentum could make anybody sell-off.

There is, though, a possibility that things will turn right in the long run. That's keeping me and most of my fellow investors long.

Disclosure: I am long OTCPK:TKECF. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.