The slowdown in economic growth has not effectively alleviated the pressure on coal prices.
In the past economic cycle, the slowdown in the growth of M2 money supply has led to a drop in coal prices, which is conducive to the profitability of Chinese independent power producers. But this did not happen. The problem is that as the coal production rate of the traditional coal-producing provinces declines, the emerging coal-producing areas will leave a certain percentage of coal in the area for self-use, and coal supply growth will be lower than coal production growth. The UBS mining team believes this problem will continue to exist. Moreover, we estimate that it is very difficult for the electricity regulatory system to improve significantly and that it cannot significantly reduce the pressure on independent power producers.
It is expected that the price of electricity will be raised differently; the medium-term rate of return is expected to be lowered.
We expect that the electricity prices in some inland provinces and Shandong Province will be raised (0.02 yuan/kWh) in 2011 compared to the coastal provinces (0.01 yuan/kWh). However, if the price of electricity is not raised further or if the price of coal does not drop significantly, we estimate that the return on invested capital of independent power generators may remain low (below 5%). We have reduced the mid-term rate of return assumption from 6.75% to 6.40% accordingly.
The Yangtze River power is preferred; thermal power companies are optimistic about Huadian Power International.
We prefer Yangtze Power because the company does not have coal price risk and can benefit from the recovery of unit utilization in the second half of 2010. Huadian Power has more than 50% of its electricity generation in 2011 from Shandong, and more than 20% from Central China. We believe its electricity price increase may exceed the national average.