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Morningstar | Falling Coal Price Will Be a Key Growth Driver for Huaneng in 2019

Huaneng Power International is a leader among Chinese coal-fired independent power producers, or IPPs, in terms of installed capacity, production, and revenue. At the end of 2017, the company owned and operated power plants with total attributable capacity of 92 gigawatts, making it one of China’s largest independent power producers. Coal-fired generation accounted for more than 90% of total power output. However, the power price is set by the government and is subject to regular reviews, while the coal price is floating, meaning there is considerable volatility in margins.Huaneng’s power plants are mostly located in eastern and southern China, which are China’s most economically developed regions, with sustainable and robust power demand. These favorable locations help Huaneng to maximize the utilization of its plants, which have consistently outperformed the broader Chinese average historically. The company continues to promote energy saving and emission reduction. In 2017, the average coal consumption rate per unit of power sold was 306 grams per kilowatt-hour, well below the Chinese average.Despite fluctuations in the Chinese economy, Huaneng has consistently delivered strong top-line growth, averaging 22% annually between 2002 and 2012. However, during that same period, net income hardly budged, increasing just 0.2% per year on average. This was the accidental byproduct of the combination of a coal price rally and China’s flawed coal power pricing mechanism: The government-controlled on-grid tariffs are usually slow to respond to coal price movements, which has historically caused coal-fired generators to earn below their cost of capital. Nevertheless, the decline of the QHD 5,500 Kcal spot coal price to CNY 588 per tonne as of Dec. 21 from CNY 696 at mid-June reaffirms our view that coal prices should have peaked. We maintain our midcycle coal price forecast of CNY 565 per tonne and expect coal prices to fall another 6%-8% in 2019, which should drive decent earnings recovery for coal-fired power plants.