SDIC Power:An overlooked A-share hydro name

Better earnings stability than a thermal peer, more upside than hydro peers

    Positive tariff outlook, better capex discipline, improving free cash flow SDIC enjoys higher earnings visibility, as well as stability, than thermal power peers, due to its 57% capacity exposure to hydropower. Over 2016-1H17, almost all the earnings came from the hydro segments. Meanwhile, SDIC’s thermal business can also benefit from accelerating supply-side reform and year-end tariff hikes. We expect SDIC to turn FCF positive starting in 2018, thanks to earnings recovery and better capex discipline, indicating potential upside to our assumed 35% payout ratio and dividend yield of 3%. Relative to Yangtze Power, SDIC is an overlooked A-share hydro name, with an attractive valuation and similarly strong hydro capacity pipeline. Reiterating Buy.

    Positive tariff outlook, better capex discipline, improving free cash flow

    SDIC’s 1H17 results were slightly below expectation, with a 13/37% yoy decline in reported/recurring net profit, but still much better than thermal peers, which are near breakeven. Thermal tariff recovered by 7.5% yoy, due to a lower DPS discount. Hydro tariff dropped 6% yoy in 1H17 but the declining trend slowed in the second quarter. Management expects the discount to narrow going forward, with less competition from peers. Furthermore, its inter-provincial hydro power sales tariff should benefit from the thermal tariff hike in July and potentially another round at year-end. In response to supply-side reform, SDIC is delaying three coal-fired generation units (total 3GW) and plans no other thermal capacity additions over 2017-19E. We expect its free cash flow to reach c.Rmb8.0bn in 2018/19E, supporting a stable dividend outlook.

    Earnings revisions

    We revise down our 2017/18/19E net profit forecasts by 14%/4%/1% to reflect higher fuel cost, delay in thermal projects, higher thermal tariff due to a lower DPS discount and July tariff hike, and lower hydro tariff due to higher discount.

    Valuation and risks

    Our TP is based on DCF with WACC of 7.0% and zero TGR. SDIC is trading at 12x 2018E P/E and 1.5x P/B, well below Yangtze’s 17x P/E and 2.3x P/B. Risks: lower-than-expected thermal tariff hike, weaker water flow, higher coal prices.