[公用]IPP - Low-wattage impact from tariff adjustments

    Tariff adjustmentsOVERWEIGHT sector call unchanged. The National Development and ReformCommission’s (NDRC) electricity tariff hikes for non-residential users and selectiveadjustments of on-grid tariffs are not expected to dim power usage. We remainOVERWEIGHT on the sector. We think that any impact from the new measuresshould be absorbed by the increase in power demand arising from the recovery ofindustrial activities. CRP and CPI remain our top picks in the sector. CRP’s earningssensitivity to the tariff changes is low while CPI has limited exposure to provinceswhere tariffs may be cut.

　　The newsYesterday, NDRC announced new electricity tariffs which take effect today:(1) Retail electricity tariffs for non-residential users are lifted by Rmb0.028/kWh.

　　(2) Retail electricity tariffs for residential users are unchanged.

　　(3) The on-grid tariffs of 10 provinces, including Shaanxi, will be raised by Rmb0.002-0.015/kWh.

　　(4) The on-grid tariffs of seven provinces, including Zhejiang, will be lowered byRmb0.003-0.009/kWh.

　　(5) The tariff subsidy for renewable energy will be increased.

　　(6) The tariff subsidy for desulphurisation in some regions will be increased.

　　The intention of the tariff adjustments is to reduce the operating loss of the state grid,which has been burdened by heavy costs since the increase of on-grid tariffs in Aug08. The adjustments also aim to promote power saving, reduce pollution and improvethe operating environment for the renewable energy sector.

　　CommentsLimited impact from on-grid tariff cuts. NDRC’s announcement did not list theprovinces affected by its latest measures. We think the provinces where on-grid tariffswill be raised are probably Shaanxi, Gansu, Qinghai, Qinghai, Ningxia, Henan, Hunan,Hubei, Jiangxi and Guizhou, which have low tariffs currently or saw minimal tariff hikesin Aug 08. The announced Rmb0.002-0.015/kWh increase in tariff represents 0.7-5.3% of the existing average tariff of these provinces.

　　We expect tariff cuts for Zhejiang, Jiangsu, Shanghai, Shandong, Guangdong andFujian, which are major coastal provinces enjoying a sharper decline in coal price sofar this year. The announced Rmb0.003-0.009/kWh cut in on-grid tariff represents 0.7-2.0% of their existing average tariffs. However, as the pollution problem is serious inthese coastal industrial regions, we also expect these provinces to enjoy higherdesulphurisation subsidies, alleviating the negative effect of tariff cut.

　　Huadian and Huaneng are more vulnerable to tariff hike than peers. A highportion of Huadian’s earnings may be vulnerable to tariff cuts because 62% of itspower is generated in Shandong and Yangtze River Delta where tariff cuts are likely.

　　Huaneng is also vulnerable to tariff cuts as 56% of its power is generated inShandong, Pearl River Delta and Guangdong. For CRP, the effect of tariff hikes inYangtze River Delta and Guangdong could be alleviated by the potential tariffincrease in Henan and Hunan. Datang and CPI should be least affected as they havelimited exposure to the coastal provinces.

　　Listed IPPs have limited exposure to wind power. The increase in tariff subsidy forrenewable energy will not have much impact on the listed IPPs as their exposure towind power is small relative to their sizeable coal-fired power portfolios. Just 0.2-0.3%of the power generated by Datang and CRP comes from wind power. For the otherthree IPPs, wind power is negligible.

　　Good news for wind power plays. However, the increase in tariff subsidy forrenewable energy is definitely good news for companies involved in wind farmoperations and wind power equipment manufacturing, including China High SpeedTransmission (658 HK, Outperform) and China WindPower (182 HK, Not Rated). Theincrease in subsidy is a sign of the government’s promotion of the wind power sectorand eliminates market worries over potential government measures to cool down thesector’s growth.

　　Valuation and recommendationMaintain OVERWEIGHT. We remain OVERWEIGHT on the IPP sector. Although thehigher retail tariffs will increase the burden for non-residential users which account for87% of total power consumption, we do not expect electricity demand to be affectedgiven that most industrial activities are recovering to full strength after the globalfinancial turmoil. The higher energy cost can be easily absorbed by higher productprices and production quantities.

　　CRP and CPI are top picks. We maintain our earnings forecasts for the five listedIPPs as the details of the tariff adjustments are unknown. There should be little impacton Datang and CPI as they have limited exposure to provinces where tariffs may becut. We also expect limited impact on CRP given its more balanced exposure toprovinces with tariff hikes and tariff cuts. Moreover, it is less sensitive to tariffs relativeto other IPPs – a 1% change in tariff would have a 5% change in earnings. Wemaintain our Outperform call on CRP due to its strong fundamentals and strongerbenefits from the recovery of electricity demand in the industrial sector. CRP’s DCFbasedtarget price of HK$23.00 (WACC 9.8%) is unchanged. We also maintain ourOutperform call on CPI due to its cheap valuation and high exposure to hydropower,which makes it less vulnerable to coal price fluctuation. CPI’s target price remains atHK$2.61 (WACC 7.8%).

　　The tariff adjustments may lead to lower earnings for Huadian and Huaneng. Weestimate that, in the worst case where tariff is raised by 2% for 60% of their powergeneration, i.e. around 1.2% increase in their average tariff, FY10-11 earnings wouldbe cut by 16-18%. This would lift FY11 P/E from 8-10x to 10-12x, which is still notexpensive.联昌国际证券有限公司