CSCI-Utilities-CGN Power (1816 HK)：Earnings eroded by rising minority interests - 20180830

Earnings eroded by rising minority interests

• We have revised down our FY18E/19E recurring EPS forecasts by 6.3%/12.6% to RMB0.18/0.20 from RMB0.20/0.22 respectively, to reflect the company’s rising minority interests.
• With recurring profits having dropped 10.8% YoY in 1H18, we expect the company’s profitability growth to recover by 17.4% YoY in 2H18 thanks to the commencement of commercial operation of Yangjiang 5 and Taishan 1, as well as the low comparable base of 2H17.
• We reiterate our BUY rating on CGN and price target of HKD2.60. We have kept our PT unchanged in light of the continuously improving free cash flow on the rising operating cash flow and comparatively stable CAPEX of the company during 2H18-2020.

Rising minority interests eroded earnings. CGN’s recurring profit has largely reduced 10.8% YoY to RMB4.3bn in 1H18, which was below consensus estimate. We attribute the below consensus results to the substantial increase in the minority interest share of profit after tax (PAT) to 35.9% in 1H18 from 22% in 1H17, after the transfer of equity interests of Yangjiang Nuclear to CLP and that of Fangchenggang Nuclear to Shenzhen Guotong in Dec 2017. Going forward, we estimate  the minority interest share of PAT will likely inch up to c.37.4% in 2H18, c.37.5% in 2019, and c.38% in 2020, as the newly built nuclear power units have comparatively large ownership of minority interests (refer to page 2 for detailed minority interests).

We expect steady, though slowing on-grid volume growth in 2H18. We estimate that CGN’s on-grid volume to increase by 11.6% YoY in 2H18, to be mainly driven by Yangjiang 5 and Taishan 1. It is worthy to note that, as the comparable base grows, the on-grid volume growth rate will continue to decelerate in future. Thus, we expect the on-grid volume will increase by c.12% YoY in 2018, slowing down from 19.2% YoY in 2017. This is slightly higher than our previous forecast of 10% YoY at the beginning of the year, due to the faster-than-expected growth of China’s power consumption.

Stabilising on-grid tariffs on a HoH basis. As the share of direct power supply (DPS) rose to 35% in 1H18 from c.10% in 1H17, the implied on-grid tariff (excl. tax) dropped to RMB353/MWh in 1H18 from RMB367/MWh in 1H17. Going forward, we expect the share of DPS to drop to 20% by the end of 2018 to meet the company’s target. Thus, we expect the implied on-grid tariff to reach RMB352/MWh in 2018, stabilising from the level of 1H18, but still come down slightly from RMB359/MWh in 2017.

Depreciation to accelerate in 2H18 on operation commencement of new plants. Driven by the commencement of commercial operation of Yangjiang 5 and Taishan 1, we estimate the depreciation expense to increase largely by c.19.3% YoY in 2018, higher than 5.5% YoY in 1H18. As Taishan 1 is the third generation nuclear power unit, with capital expenditure estimated to triple that of the second generation, we used 40-year useful life in our calculation.

Attractive valuation. We believe CGN has been oversold, given its ROE 18E 12.2% and PBR 18E 1.0x and rising FCF. Thus, we reiterate our BUY rating and price target of HKD2.60, which implies 1.4x/1.2x FY18E/FY19E PBR.