Last year, amid rising coal prices and soaring demand, China’s independent power producers (IPPs) found themselves in a bind. The government, more interested in power as a socio-political tool than a profitable business, was keeping end-user prices low even as coal prices soared. The National Development and Reform Commission introduced tariff increases, but these did little to improve profitability at the IPPs.
Datang International Power Generation (0991.HK, 601991.SH) saw its profits plunge 85% in 2008, including a US$2 million loss in the first nine months of the year. The other big IPPs – Huadian Power International Corp (1071.HK, 600027.SH), Guodian subsidiary GD Power Development (600795.SH), China Power Investment Corp, parent of China Power International Development (2380.HK), and Huaneng Power International (0902.HK, 600011.SH) – have fared little better.
Now, with coal prices falling, China’s power producers, including Datang, may be among the few firms to benefit from the downturn. However, Datang’s aggressive diversification strategy means it may not see as big a boost as its competitors.
"They’re obviously in a better position compared to last year," said Alan Chan, an analyst with the Daiwa Institute of Research in Hong Kong, who gives the stock an "Outperform" rating. "Fuel costs are a huge percentage of the cost structure of IPPs, [about] 72-80%."
Song Xiaoming, an analyst at Standard & Poor’s who covered Datang until the company requested that coverage be discontinued earlier this year, says that coal plants account for about 90% of the company’s total generation capacity. Plants located at mines – intended to reduce shipment costs – make up approximately one-third of total plants.
Throughout 2008, Datang invested heavily in projects to ensure long-term success in the face of rising energy prices. As well as securing its own coal mines and pursuing non-coal projects, it has been developing coal conversion projects to diversify its portfolio beyond power.
"Datang is more vertically integrated [than other IPPs]," said Pierre Lau, an analyst at Citi in Hong Kong, who has given Datang a "Buy" rating. However, Lau notes the firm is not Citi’s top pick in the sector because of that integration and diversification. Companies like Huaneng are more likely to benefit from falling coal prices in the short term, he says. Datang’s coal mines, a major strength in times of rising prices, are now something of a liability.
Lau says there is also a danger in overstating the importance of Datang’s investments in non-coal power production – including wind power, hydro and nuclear. While the company wants to expand hydro to 15-20% of its portfolio, it doesn’t plan on reaching this goal until the middle of the next decade. Similarly, Datang’s involvement in a nuclear project in Fujian is not expected yield results until at least 2013.
If the firm cannot expect to see the immediate benefits of falling coal prices, its diversification may at least give it greater stability than other IPPs. Still, it has to contend with financial burdens that the others have avoided.
"With the amount of projects that they have in the pipeline, they have certainly leveraged up quite significantly compared to their peers," said Chan at Daiwa. "Datang has indicated its intention to place A-shares this year, but it’s too early to guess if it will be successful."