As a natural gas (NG) retail platform under China National Petroleum Corporation (CNPC) and a domestic leading NG distributor, Kunlun Energy has posted NG shipment growth far higher than the industry average. The Company boasts multiple advantages, such as resources, customers, location, and a holistic value chain. We expect it to fully benefit from the accelerated implementation of policies such as increasing NG reserves and output and market-oriented pricing. Besides, the profit margins of the NG business are likely to pick up further along with rising shipments. We forecast its 2023E/24E/25E EPS to be Rmb0.70/0.81/0.92 (HK$0.82/0.95/1.08). By combining both the PE and PB valuation methods, we assign a target price of HK$8 and reiterate the "BUY" rating.
Kunlun Energy is the NG retail platform of CNPC.
Kunlun Energy started off with oil and gas development and later expanded its operations to cover the whole NG value chain. Eventually, the Company shifted its focus to NG sales, becoming a leading NG distributor in China. By the end of 2022, its annual NG sales reached about 45 billion cubic meters (bcm), accounting for 12% of the national total. From 2018 to 2022, its revenue CAGR stood at 13%, the attributable net profit (ANP) CAGR of continuing operations was 16%, and the revenue CAGR of the NG business was 23%, with the revenue contribution rising from 61% to 77%.
Kunlun Energy enjoys strong growth visibility.
NG is a clean energy source that aligns with the strategy of carbon neutrality.
In China, the apparent consumption of NG exhibited an 11% CAGR during 2010-22. Currently, NG accounts for 9% of primary energy consumption in China, indicating significant potential for growth compared to developed countries. According to SIA Energy, a consulting firm, China's NG demand may peak at 660bcm in 2040. Kunlun Energy has demonstrated a sales growth rate above industry average, achieving a CAGR of 20% over 2018-22.
Additionally, its market share has increased from 8% to 12% during this period. Under the neutral scenario, we expect its NG sales growth to maintain at 12%, resulting in sales volume of 50.4bcm/56.4bcm/63.2bcm in 2023/24/25.
Upstream supply remains affordable and stable, while the implementation of the market-oriented pricing policy is accelerating.
To secure China's NG supply and reduce excessive reliance on imports, the China Natural Gas Development Report (2023) released by the National Energy Administration (NEA) stressed the importance of increasing storage and production, aiming to maintain a minimum NG self-sufficiency rate of 50%.
As a subsidiary of CNPC, Kunlun Energy enjoys significant advantages in accessing safe and stable gas sources. Since 2023, the Chinese government has vigorously promoted the cost pass-through pricing policy (ie a practice that allows sellers to pass on costs and sell NG at prices higher than their purchase prices instead of selling below cost) to ensure reasonable profits along the NG supply chain and alleviate cost pressures faced by NG companies.
With continuous optimization of the customer mix and location advantages, the price spread is set to improve.
From 2018 to 1H23, the proportion of retail volume of industrial and commercial customers of the Company increased by 15ppts from 62% to 77%, making it the industry leader. Given smoother cost pass-through to industrial and commercial users, the Company developed distinct price differential advantages with enhanced profitability. Furthermore, the geographical distribution of the Company's NG business presents competitive advantages compared to other NG companies given its geographical strengths in the central and western parts of China, which possess abundant and cost-effective resources. Through the combined efforts of upstream and downstream operations, Kunlun Energy has been able to buck the trend and boost its price differentials. We expect that the price spread will further recover to Rmb0.51/0.52/0.535 per cubic meter in 2023/24/25.
A comprehensive presence in the NG supply chain positions Kunlun Energy as an integrated leader.
Kunlun Energy possesses high-quality assets including Tangshan and Rudong liquefied natural gas (LNG) receiving stations, which consistently operate at an average load rate of nearly 90%. In addition, the Company has strategically established a new LNG receiving station in Fujian to develop a robust NG industry chain and enhance the distribution of NG sources in the southeastern region of China. The LNG plants are gradually generating profits, while the liquefied petroleum gas (LPG) business remains stable. As part of its strategic focus, the Company intends to gradually spin off its exploration and development business so as to concentrate on its core NG sales operations.
New business ventures are propelling Kunlun Energy towards an integrated green energy supplier.
In the context of carbon neutrality, the development of emerging non-gas business is an important direction of the strategic transformation of NG companies. Kunlun Energy has embraced this direction by carrying out value-added business encompassing “the internet, energy, and life” based on the main operations and actively exploring comprehensive energy business such as gas-fired power plants, new energy power generation, and multiple application scenarios across gas, power, cooling, and heating, to build a visionary long-term strategic presence.
Potential risks: Downside risks to macroeconomic growth; geopolitical risks; policy implementation missing expectations; customer expansion missing expectations; project construction progress missing expectation; safety accidents in production and operation.
Investment recommendation: Considering that the Company fully benefits from the increase of NG reserves and production and the acceleration of the NG market-oriented pricing policy, we expect its profit to gradually recover. At the same time, the Company has a premium customer base, and the growth rate of NG sales is significantly higher than the industry, offering visible growth prospects over the next three years. We forecast its 2023E/24E/25E attributable net profit (ANP) to be Rmb6,054mn/6,987mn/7,960mn, corresponding to EPS forecast of Rmb$0.70/0.81/0.92 (HK$0.82/0.95/1.08). We choose ENN Energy (02688.HK), CR Gas (01193.HK), Towngas Smart Energy (01083.HK), and China Gas (00384.HK) as comparable companies. Combining the PE and PB valuation methods, we estimate that the reasonable 2023E share price should be HK$8-9, corresponding to 9.9x PE and 1.0x PB. Out of prudent considerations, we assign a 2023E target price of HK$8 and reiterate the "BUY" rating.