China’s coal-fired power producers set to play the ‘rebalancing’ game

Amid slow demand growth and capacity oversupply, the winners may be the country’s newer, more efficient and environmentally friendlier plants

PUBLISHED : Sunday, 17 April, 2016, 4:12pm
UPDATED : Sunday, 17 April, 2016, 4:12pm

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China’s coal-fired power generation sector is set to enter an era of “significant rebalancing” in the years ahead amid slow demand growth, capacity oversupply, tightening environmental regulations and policies that promote competition among generators.

Winners are likely to be companies that operate newer, more efficient, environmentally friendlier and better located plants, since they are more likely to survive amid falling power prices and rising environmental compliance costs, analysts said.

“Slowing demand growth and a large and possibly growing generation capacity surplus will intensify competition among generators as China gradually reforms its power plant dispatch [and procurement] policies,” said Hu Xinmin, senior manager at Hong Kong-based power industry consultancy Lantau Group, in a report.

“If China is to achieve its emission reduction objectives, new efficient capacity will need to continue to displace older less efficient capacity. Shutting down facilities becomes imperative. China’s power sector needs to enter an era of significant rebalancing.”

A series of policies announced in the past year have dimmed the profit outlook of coal-fired power generation, including the roll out of more pilot schemes in different parts of the nation for direct power sale and purchase between generators and big industrial users.

This involves negotiations between buyers and sellers on volumes and prices and the entering into of contracts on power sales, which generally results in lower prices.

The long-term goal is for market forces to determine producers’ wholesale power prices, replacing state-stipulated prices.

Listed Datang International Power Generation’s management told reporters earlier this month it expects its direct sales volume to double to 10 per cent of its total power sales this year from last year’s 5 per cent. Such sales are less profitable since they are traded at price discounts of at least 4.2 per cent.

Rival Huaneng Power International’s direct sales contribution could rise to 15 to 20 per cent this year and next year, from 12 per cent last year, and such sales attract price discounts of more than 10 per cent, according to a Credit Suisse research report.

“Tariff pressure should rapidly accumulate with the sector transitioning to a market-based mechanism as part of industry reform,” the bank’s regional head of utilities research, Dave Dai, said in a note.

Coal-fired generators also face the need to comply with Beijing’s so-called ultra-low emission and energy efficiency standard requirements, which require them to retrofit plants so that their emissions will not exceed standards of cleaner-burning natural gas-fired plants.

Beijing last year also announced to start a mandatory scheme for polluters to trade carbon emission rights next year, which will force polluters failing to meet emission standards to buy credits from those who exceed them. This means profitability of generators with older and inefficient plants will further diverge from those with newer and more efficient ones.

This comes as coal prices have stopped their multiyear falls as most miners are suffering from losses, limiting the room for coal-fired generators to further cut fuel costs that generally account for about 60 per cent of their operating costs.

The National Energy Administration has recently come up with a scheme to track the risk profiles of coal-fired generation industry in China, and found that it is in substantial oversupply in 28 of the nation’s 33 provinces and self-administered municipalities, with returns smaller than long-term government bond yields, mainland online media Energy Observer reported.

“In China’s possibly new normal of slower growth, the existing capacity surplus is likely to take years to be absorbed unless the older [coal-fired] plants are retired early,” Hu said.

The nation’s coal-fired power generating capacity addition has steadily fallen from nearly 90 gigawatt (GW) in 2006 to around 35GW in 2014 as more clean energy units were built, but rebounded a third to 64 GW last year after Beijing relinquished its projects approval power to local governments as part of its promise to reduce red tapes for businesses.

Developers jostled to build coal-fired plants, attracted by their rising profitability due to rapidly falling coal costs amid oversupply in 2013 and 2014.

If China is to achieve its emission reduction objectives, new efficient capacity will need to continue to displace older less efficient capacity
Hu Xinmin, Lantau Group

Local governments tend to focus more on local job creation, tax revenues and economic growth when approving projects, whereas Beijing is more concerned about the big picture of industry overcapacity.

Some 128 GW of proposed projects received environmental impact assessment approval from provincial governments in the first nine months of 2015, compared to 160 GW over the entire 2012-2014 period when the project approval resided with the central government, Hu noted.

Beijing last month banned new approvals in nine regions and slowed the approvals of new projects and the construction pace of those being built in 15 others.

One GW of capacity is enough to meet the demand of about 830,000 mainland Chinese households a year.

The nation had 990 GW of coal-fired capacity at the end of last year, accounting for two-thirds of the nation’s total power generating capacity.

China would need power demand to grow an extra 3.6 per cent annually until the end of the decade to absorb output from additional alternative fuel power plants, Hu estimated, based on Beijing’s stated plans to raise solar and wind power capacity by 226 GW and hydro and nuclear capacity by 108 GW between 2014 and 2020.

This is a challenge given Beijing is steering the focus of economic growth away from energy-intensive fixed-asset investment and goods manufacturing to consumption and services.

The China Electricity Council, which represents power producers, in February forecast the nation’s power demand growth to rise to 1 to 2 per cent this year from 0.5 per cent last year.

On the back of a pickup in construction activities amid a recovering property market and inventory restocking by manufacturers and distributors, power consumption growth rose to 5.6 per cent last month from 2 per cent in the year’s first two months, and negative 0.4 per cent in last year’s fourth quarter.

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