Coal-fired power remains challenging business despite clearer pricing mechanism

PUBLISHED : Sunday, 10 January, 2016, 8:11pm
UPDATED : Sunday, 10 January, 2016, 8:11pm

Beijing’s recent revision of the pricing mechanism for coal-fired power generators’ regulated on-grid selling prices as part of wider energy price reform has made price setting more transparent and predictable, but analysts say operating conditions for generators remains challenging amid weak demand and oversupply.

Combined with ongoing liberalisation measures to make electricity prices more market-oriented, rising competition will see the most efficient generators gain market share from weaker ones.

“While the new tariff [setting mechanism] provides more clarity and certainty to [coal-fired] power producers, Fitch believes [they] will continue to face challenges with weakened [plant] utilisation hours due to low power consumption growth and the addition of large amounts of thermal and renewable power capacity in the medium term,” said analysts at the rating agency.

Mainland China’s power demand grew 0.7 per cent in last year’s first 11 months as the economy continued to shift away from fixed-asset investment-led growth to one driven by consumption.

If the rate is maintained in December, it would be the weakest annual demand growth in at least 37 years.

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With installed power generation capacity having grown 9.7 per cent year on year in the 11 months, the average plant utilisation hours dropped 7.9 per cent, dampening profitability as more fixed costs are borne by each unit of power sold. Coal-fired power accounted for 75 per cent of total power generation.

Industry regulator National Development and Reform Commission (NDRC) has this year launched a revised version of the so-called coal cost pass-through mechanism for setting power prices. Launched late 2004, the mechanism allowed power producers to pass on 70 per cent of cost increases or declines if coal prices jumped or fell more than 5 per cent year on year over a six-month period.

But Beijing refrained from passing on much of the coal cost hikes to power users between 2008 to 2011 amid soaring coal prices to protect consumers against inflation, resulting in major losses for generators.

When coal prices did ease from late 2011, it has also held back from cutting power prices as much as would be warranted by the coal cost decline.

Late 2012, Beijing revised the mechanism so that 90 per cent of coal cost hikes or falls would be absorbed by power generators, but has lengthened the power price review period from six to 12 months.

Under the latest revision that came into effect at the start of this year and will run until 2020, coal cost hikes or savings will be passed on to users through power price adjustments once a year if the annual average coal price changes between 30 and 150 yuan a tonne from the previous year. Changes less than 30 yuan and above 150 yuan will not be passed on.

READ MORE: China’s coal-fired power producers face tougher times after record profits this year

The proportion of coal costs to be passed through ranges between 80 and 100 per cent at different tiers of coal cost movements.

Credit Suisse’s regional head of utilities research Dave Dai said that under the new mechanism, power producers will not enjoy profit margin expansion even if coal prices fall further moderately.

Still, rating agency Standard & Poor’s credit analyst Apple Li said mainland Chinese coal-fired power producers will face growing pressure from competition on operational efficiency, as a greater proportion of power will be sold outside regulated power prices that follow the coal cost pass-through mechanism.

The proportion of power sold via direct contract sales to large industrial customers and via the proposed trading centres to be established in Beijing and Guangzhou is set to rise from less than 10 per cent currently.