20160913-招商证券_香港_-Upstream_and_midstream_to_share_the_pain_of_gas_price_cut_17页_2mb_2mb

Industry Report Summary: Oil and Gas Sector in China

Core Content

This report analyzes the challenges and opportunities in China's oil and gas sector, focusing on the natural gas pricing mechanism reform and its impact on the value chain. It discusses the current pricing structure, the proposed reforms, and the implications for different segments of the industry, including upstream producers, midstream pipeline operators, and downstream distributors.

Main Points

• Gas Price Cut and Cost Savings:
  A potential RMB0.4/cu.m cut in gas price is expected, with upstream producers, midstream pipeline operators, and distributors sharing the burden. This could lead to up to RMB23.7bn in cost savings for downstream users.

• Pricing Mechanism Reform:
  The natural gas pricing mechanism has transitioned from a cost-plus model to a net-back method, aiming to reflect market dynamics. The reform has widened the pricing range and introduced a new transmission tariff pricing mechanism with a permitted investment return of 8%.

• Challenges in Negotiation:
  The current pricing mechanism faces limitations due to the benchmark city-gate price premium (37% over alternative energy prices), supply control by three major oil companies, and high transmission costs (50–70% of retail price in coastal areas), which reduce competitiveness.

• Impact on Different Segments:

  • Upstream Players: Would suffer more due to the price cut, with a potential RMB0.6/cu.m reduction needed to match alternative energy prices. If all the cut is borne by upstream players, their profit could decrease by RMB41bn.
  • Pipeline Operators: High return projects may face downward adjustments in transmission fees, while low return projects could benefit from the permitted return of 8%. A RMB0.1/cu.m cut is estimated, leading to a RMB6.6bn profit reduction.
  • Gas Distributors: May experience margin squeeze, especially in coastal and northern areas. A RMB0.1/cu.m cut in distribution fee is estimated, leading to a RMB3.3bn profit reduction.

• Demand Outlook:
  Despite the price cut, natural gas demand is expected to maintain a solid CAGR of 13% from 2015 to 2020, driven by potential rebounds in demand.

Key Information

Pricing Mechanism Changes

• Net-back Method: Introduced in 2013, replacing the cost-plus model.
• Widened Pricing Range: Further implemented in 2015.
• Transmission Tariff Reform: Proposed in August 2016 with a permitted investment return of 8%.

Financial Impacts

• Upstream Players:

  • Expected to bear RMB13.7bn of the RMB0.4/cu.m cut.
  • If all the cut is borne by upstream, profit could reduce by RMB41bn.
  • PetroChina is expected to suffer the most due to its significant market share in gas production and imports.

• Pipeline Operators:

  • Expected to bear RMB6.6bn of the RMB0.4/cu.m cut.
  • High return projects may face downward adjustments, while low return projects could benefit from the permitted return.

• Gas Distributors:

  • Expected to bear RMB3.3bn of the RMB0.4/cu.m cut.
  • Face margin pressure in coastal and northern areas due to higher distribution costs.

Sector Performance

• Rating: NEUTRAL
• Stocks Mentioned:
  • CNOOC (883 HK): BUY, Target Price HK$12.80, Upside 36%
  • Sinopec Kantons (934 HK): BUY, Target Price HK$4.90, Upside 30%
  • SSC (1033 HK): NEUTRAL, Target Price HK$1.40, Upside -8%
  • COSL (2883 HK): SELL, Target Price HK$4.60, Upside -25%

Investment Thesis

• Defensive Players: Sinopec Kantons is highlighted as a key beneficiary due to its lower return projects and potential for long-term benefits under the new pricing mechanism.
• Market Trends: Natural gas demand growth has slowed, but is expected to remain robust at 13% CAGR through 2020.

Figures and Data Highlights

• Figure 1: Shows the relationship between calculated gas price and city-gate price for non-residential users.
• Figure 2: Illustrates the premium/discount of natural gas to alternative energy prices.
• Figure 3: Highlights the slowdown in natural gas consumption growth in 2Q16.
• Figure 4: Demonstrates the earnings impact of potential price/tariff cuts in 2017E.
• Figure 5: Analyzes natural gas price and transmission tariff for industrial users in August 2016.
• Figure 6: Shows the regulations on natural gas prices through the value chain.
• Figure 7: Natural gas price and transmission tariff for industrial users in August 2016.
• Figure 8: Natural gas price and transmission tariff for residential users in August 2016.
• Figure 9: Adjustments in city-gate gas price for non-residential users.
• Figure 10: Gas price premium (discount) to alternative energy prices.
• Figure 11: Summary of local distribution fee adjustments in key provinces.
• Figure 12: Local distribution fee (price gap between provincial city-gate price and retail price for industrial users) in August 2016.
• Figure 13: Retail gas price by users in Shanghai in August 2016.
• Figure 14: Value chain of the domestic natural gas market.
• Figure 15: China natural gas consumption growth slowdown in 2Q16.
• Figure 16: Earnings impact of potential price/tariff cuts in 2017E.
• Figure 17: Earnings impact on upstream producers for a RMB0.2/cu.m cut in city-gate gas price.
• Figure 18: PetroChina's import loss increased in 1H16 due to the domestic price cut.
• Figure 19: Unit import loss for PetroChina's gas sourced from Central Asia rose to RMB0.5/cu.m in 1H16.
• Figure 20: Global gas trade movement in 2015.

Conclusion

The natural gas pricing mechanism reform is progressing, but challenges remain, particularly due to the premium of city-gate prices and the monopolistic control of supply by three major oil companies. The expected RMB0.4/cu.m cut in gas price will affect all segments of the value chain, with upstream players facing the most significant impact. However, the reform could lead to long-term benefits for low return pipeline projects. Sinopec Kantons is highlighted as a top pick due to its favorable financial metrics and potential to benefit from the new pricing mechanism.