Source of opportunity
We main Buy on Huadian H-/A-shares. We expect Huadian to continue withcapex discipline by delaying or halting tentative gas-fired power units due toinadequate profitability and selectively growing coal-fired units. This helps tolift average ROE over 2013-2016E (15%) to much above that over 2005-2012(5%). On 2013 results, revised tariff and capacity forecasts, we raise 2014/2015net profit by 12%/5% and introduce 2016 estimates. We lower our 2014Etarget P/E multiples for H-/A-shares to 9X/10X from 10X/13X to reflect highercarbon risks and prevailing shrinking A-share premium trend. We revise ourH-/A-share 12-month P/E-based target prices by +8%/-8% to HK$5.2/Rmb4.5.
Catalyst
For 2014, we now assume the next potential tariff cut to be 3% effective July 1(formerly 1%, April 1) as we incorporate a higher safety margin in our forecastin light of record-high 2013 profit. We now expect unit coal costs to fall by 3%yoy (previously flat) and same-plant coal-fired utilization to grow by 1% yoy,both with favorable risks. We believe Huadian’s 2014 results would benefit fromincremental profits from its new coal-fired power units.
We now assume its shareholder-approved A-share issuance (to be fullysubscribed by its parent at Rmb3.12) to take place on July 1, 2014, pending finalregulatory procedures.
We expect Huadian’s net-debt-to-equity to fall almost by half in four year to244% in 2015. Similar to its peers, Huadian’s coal mining business has sufferedand we do not expect much recovery in the near term given the generaloversupply in thermal coal in China.
Valuation
On 2014E, Huadian (H) trades at 7X P/E (2014-2016E net profit CAGR: 7%), 0.9XP/B (which we view as undervalued vs. 14% ROE) and 5% dividend yield.
Key risks
Lower-than-expected tariff, spark spread, capacity, and utilization.