China Gas Utilities：Headwinds from gas tariff hike near term,Buy BJE/ENN on weakness

Deutsche Bank Markets Research Asia China Utilities Utilities Industry China Gas Utilities Date 28 June 2014 Forecast Change Headwinds from gas tariff hike near term; Buy BJE/ENN on weakness Gas tariff hike remains likely in the near term ________________________________________________________________________________________________________________Deutsche Bank AG/Hong Kong Deutsche Bank does and seeks to do business with companies covered in its research reports. Thus, investors should be aware that the firm may have a conflict of interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision. DISCLOSURES AND ANALYST CERTIFICATIONS ARE LOCATED IN APPENDIX 1. MCI (P) 148/04/2014. Eric Cheng, CFA Research Analyst (+852) 2203 6202 eric-ct.cheng@db.com Michael Tong, CFA Research Analyst (+852) 2203 6167 michael.tong@db.com Key Changes Company Target Price Rating0392.HK 81.00 to 83.00(HKD) -1193.HK 22.20 to 23.50(HKD) -2688.HK 60.80 to 64.00(HKD) -0135.HK 14.00 to 12.50(HKD) -1083.HK 8.70 to 9.70(HKD) -Source: Deutsche Bank Top picks Beijing Enterprises (0392.HK),HKD72.80 BuyENN Energy (2688.HK),HKD55.85 BuySource: Deutsche Bank Companies Featured Beijing Enterprises (0392.HK),HKD72.80 BuyENN Energy (2688.HK),HKD55.85 BuyTowngas China (1083.HK),HKD9.09 HoldCR Gas (1193.HK),HKD24.00 HoldKunlun Energy (0135.HK),HKD12.74 HoldChina Gas Holdings (0384.HK),HKD15.46 HoldSource: Deutsche Bank This report changes ratings target prices and/or estimates for several companies under coverage. For details, please see Figure 15. We continue to expect a gas tariff hike in the near term; we estimate the city-gate tariff for “base volume” gas will increase by c.Rmb0.4/cm. Although this is in line with the NDRC’s target to liberalise natural gas pricing, the expected tariff hike would still be a short-term negative for gas demand (reduces the pricing gap with other alternative fuels) and gas sales margins (due to delays in pass-through). Within the sector, we prefer Beijing Enterprises (BJE) and ENN but are cautious on China Gas after the recent share price run and on Kunlun with 2014-15E earnings at 11-12% below consensus. 1H14E volume growth on track; slowdown in 2H14E after gas tariff hike We forecast 13-25% yoy distribution volume growth in 2014 for the China gas utilities under our coverage (with ENN likely to deliver the fastest growth of 25% yoy), a pick-up in gas transmission volume for Kunlun/BJE’s pipeline business (10-15% yoy growth, particularly faster yoy growth at high-teens in 1H14E due to the low base effect in 1H13), and a relatively stable connection revenue. With some slowdown in the pace of LNG refueling station construction, we expect LNG refueling stations’ utilisation to witness gradual improvement, but low utilisation for Kunlun’s newly commissioned LNG liquefaction factories. If city-gate gas tariffs increase, we see slower gas demand growth in 2H14E and city gas utilities would need to deepen their marketing efforts to attract new customers to offset such impact. 5M14 apparent demand up c.9-10% yoy; 2015 target remains challenging China’s apparent demand for natural gas increased 9-10% yoy in 5M14, based on data released by the NDRC. This looks low compared with the 17% 2013-15E CAGR implied by China’s 2015 target of 230bcm, and such target looks challenging without a significant volume pick-up in later 2014 and 2015 (looks tough considering a gas tariff hike which would have an adverse impact on demand). Our 2014 natural gas apparent demand forecast is 185-190bcm (+10-13% yoy), below the 193bcm target. Some reforms in the midstream pipeline but unlikely to be radical PetroChina has announced plans to allocate some gas pipeline assets for open bidding, in response to the government’s call for asset privatisation and open pipelines for third-party access. Kunlun may participate in the pipeline sales by PetroChina but the possibility remains low at this stage, in our view. The 38bcm gas supply from Russia is a positive for sentiment, but it would only be available in 2018 at the earliest and is unlikely to fully ramp-up before 2021/22. Buy Beijing Enterprises and ENN Energy; Kunlun’s earnings may disappoint We have a Buy on BJE, considering its: (1) accelerating gas sales volume growth in 2H14 and 2015; and (2) better earnings quality longer term without any con