EUR 850.00 For Business Accounts Only

Morningstar | Improving Returns in Mainland China a Long-Term Growth Driver for HKCG

Founded in 1862, Hong Kong and China Gas, or HKCG, is the oldest public utility company in Hong Kong and has an unregulated, monopoly position in the Hong Kong distribution and retail gas markets. It produces and distributes town gas to about 1.9 million customers through its 3,500-kilometer pipeline network in Hong Kong, branded Towngas. The extensive pipeline network and 150 years of operating experience are its key strengths. The unregulated monopoly in Hong Kong means the company enjoys returns exceeding its cost of capital. The high-quality, unregulated assets in Hong Kong underpin our view that the company enjoys a narrow economic moat.Armed with resilient earnings and robust cash inflows of more than HKD 2 billion annually from the Hong Kong business, HKCG expanded to mainland China. By the end of 2018, HKCG had 131 joint ventures across 26 Chinese provinces. HKCG is leveraging its brand, expertise, track record, and strong financial position to grow, and is the largest single gas distributor in mainland China. Historical top-line growth in China has been strong, with 13% average annual growth since 2010. Returns are improving, with city gas assets returning about 11% to 12% over the last five years. We expect further improvements in the returns on invested capital for the company’s mainland city gas business as volumes increase and the capital base shrinks through depreciation.HKCG's expansion into new energy will underpin further growth. The strategy is to turn low value feedstock into higher value products. We are cautious over higher development and operational risks, and exposure to commodity prices. To compensate, the internal rate of return benchmark is 25% for the division, compared with 15% for city-gas projects and 8% to 12% for gas storage projects. The company has shown some success with its Zhangjiagang plant turning fatty acid such as palm acid and used cooking oil into Hydrotreated Vegetable Oil, or HVO, which was sold on to European clients. In the medium term, we expect the new energy business to deliver high profit relative to its core distribution business in Hong Kong and China.