20180620-广发证券_香港_-Power_Sector_Long-term_contracts_to_reduce_fluctuations_in_costs,_positive_on_ROE_enhancement_for_thermal_power_companies_in_the_mid_long-term_2页_337kb

Power Sector Summary

Core Content

This report provides an analysis of the power sector, with a focus on thermal power companies in China. It highlights the impact of coal prices on profitability, the role of long-term supply contracts in cost control, and the potential for ROE (Return on Equity) improvement in the medium to long term. Additionally, it includes valuation insights and risk factors relevant to the sector.

Main Points

• Profit Determinants: The profitability of thermal power companies is primarily influenced by three factors: electricity prices, coal prices, and utilization hours.

  • Electricity Prices: These are mainly driven by policy. While there was a price hike in July 2017, the report suggests limited variability in electricity prices due to policy constraints.
  • Utilization Hours: These have been increasing due to strict control on thermal power capacity installation and strong demand, but their impact on profit is limited.
  • Coal Prices: The most significant factor affecting profit, as coal accounts for 60–70% of operating costs for thermal power companies. Fluctuations in coal prices directly impact earnings performance.

• Long-Term Contracts:

  • In 2016, coal companies signed long-term contracts with five major thermal power generators at a price range of Rmb535/tonne.
  • The NDRC has issued regulations to promote the implementation of long-term contracts through specific requirements on purchase volume, contract completion rate, price guidance, and reward/penalty policies.
  • As of 2017, the proportion of long-term contracts among major thermal power companies was still 75% below the NDRC's proposed level.
  • The report suggests that as coal prices approach long-term contract prices and the proportion of long-term contracts increases, thermal power companies will have better control over fuel costs.

• ROE Improvement:

  • Based on Huaneng Power International's estimated 2018 net profit of Rmb2.727bn, a Rmb10/tonne decline in coal prices would result in an increase in EPS of Rmb0.04 and a rise in ROE by 0.8 percentage points.
  • The report expects that, due to market-oriented reforms in the power sector, earnings at thermal power companies will return to a reasonable level over the medium to long term.

• Valuation Potential:

  • Historically, when profitability reached 8–10%, the average P/B (Price to Book) ratio of Huaneng Power International (902 HK) was 1.2–1.3x, and for Huadian Power International (1071 HK) it was 1.0x.
  • Currently, Huaneng Power International has a P/B of 0.89x / 1.3x (H-share / A-share), and Huadian Power International has a P/B of 0.67x / 0.9x (H-share / A-share), indicating room for valuation re-rating.

Key Information

• Thermal Power Companies: Face significant pressure from fluctuating coal prices, which are the core determinant of their profit margins.
• Policy Impact: The government's control over capacity installation and the introduction of long-term contracts are expected to stabilize costs and improve profitability.
• Valuation Outlook: Thermal power companies may see a re-rating of their P/B ratios as ROE improves and coal prices stabilize.
• Recommended Watchlist: Huaneng Power International (600011 CH, 902 HK) and Huadian Power International (600027 CH, 1071 HK) are highlighted for potential valuation improvements.

Risks

• Demand and Supply Imbalance: Worsening structure in the electricity market could lead to downward adjustments in electricity prices.
• Coal Price Increases: A substantial rise in coal prices could negatively impact the profitability of thermal power companies.

Rating Definitions

Rating	Definition
Positive	Sector expected to outperform the benchmark by more than 10%
Neutral	Expected sector relative performance ranges between -10% and 10%
Cautious	Sector expected to underperform the benchmark by more than 10%

Analyst Certification

The views expressed in this report accurately reflect the personal opinions of the analysts, and no part of their remuneration is directly or indirectly linked to the specific recommendations in the report.

Disclosure of Interests

• GF Securities (Hong Kong) and its affiliated companies do not hold shares in the securities mentioned.
• No investment banking relationships with the companies discussed in the past 12 months.
• Analysts and their associates have no financial interests in the securities mentioned.

Disclaimer

• This report is for informational purposes only and does not constitute an offer to buy or sell securities.
• The report is intended solely for use by GF Securities (Hong Kong) clients.
• No liability is accepted for losses arising from the use of this report, unless excluded by law.
• Investment involves risk, and past performance does not guarantee future results.

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