China Resources Power launches pre-marketing

Pre-marketing begins today (Tuesday) for a $300 million to $350 million IPO.

Sole sponsor Morgan Stanley and joint bookrunner BOCI are beginning to soft market a Hong Kong IPO of the power assets of the China Resources group. Roadshows for a roughly 900 million share offering in China Resources Power (CRP) are provisionally scheduled to begin on October 20, with final pricing set for Monday November 3. Alongside the leads, co-leads are CICC, CLSA, HSBC and ING.

Unlike recent benchmark Hong Kong IPO's, there will be no POWL (public offering without listing) in Japan and also no involvement by a strategic investor. This latter point is hardly surprising given most global IPP's have been actively selling off their Asian investments to pay down debt, with CRP quick to mop up their Chinese assets (Sithe and Mirant).

The deal will be an all primary share offering, with an expected 25% freefloat, plus the standard 90%/10% split between the institutional placement and retail offering. There will be no dividend in 2003, although the company has indicated it will start to pay one from 2004.

Early indications suggest CRP will be pitched at roughly 9.5 times to 11 times 2005 earnings. Investors say the leads are using 2005 figures because this is the first year CRP will record "normalised" financials after a period of rapid build-out.

For the year ended December 2003, analysts are predicting net income of about HK$300 million, with expectations of 180% profit growth during 2004 and 60% over 2005.

At the bottom end of the provisional range, this will see CRP price at a slight discount to the sector average and at the top end, roughly flat. The main benchmarks are the three HKSE listed IPP's of the five national IPPs recently crafted by the Chinese government as part of its ongoing sector reform. They are Huaneng Power International (HPI), Beijing Datang and Shandong International Power Development (SIPD).

According to analysts, SIPD currently trails the sector on a P/E ratio of 9.6 to 11 times 2003 earnings depending on who you speak to. For 2005, analysts are currently estimating a range of roughly seven to 12 times. It has a dividend yield of 2.5%

Beijing Datang is next on an estimated P/E ratio of 12.5 to 14 times 2003 earnings and 8.5 to 11 times 2005. Its dividend yield is currently 2.1%.

HPI, the dominant player of the three, has a much larger installed capacity base of MW14,780 and wider geographical operating platform. As a result, it commands a premium and is currently forecast at 13.5 to 15.9 times 2003 P/E and a 12.5 to 14.9 times 2005 P/E. Its dividend yield is 3.25%.

By 2005, CRP is hoping to have installed capacity of MW4,500 up from 1,500 currently (a CAGR of 63%). At this point it will be roughly the same size as Beijing Datang and SIPD were at the end of 2002.

But the lead's main focus will not be size, but operational efficiency. The three IPP's all operate as State Owned Enterprises.

CRP, by contrast, is said to be run along private sector lines, characterised by higher quality management. It has not only retained employees from some of the former international projects under its umbrella, but is also the first Chinese IPP to institute an employees stock option plan.

As a result, analysts are predicting it will record a much higher ROE (Return on Equity) than its counterparts. Investors say the leads believe CRP will stand at least a couple of percentage points higher than the whole sector by 2005.

UBS research, for example, forecasts that HPI will record an ROE of 14.2% in 2005 up from 13.6% in 2002. It forecasts that SPID will drop from 14.1% to 10.9% over the same time period.

Most analysts are fairly neutral about the short-term prospects for the power sector, given most stocks have more than doubled in price over the course of the year. Over the long-term, however, everyone remains bullish.

The main reason is a severe supply/demand imbalance, which is unlikely to be rectified over the next couple of years despite a strong expansion in capacity. According to the National Bureau of Statistics electricity generation was up 15.4% during the first three quarters of 2003 compared to real GDP growth of 8.2%. However, 19 provinces experienced shortages over the summer and rates had to be increased in the affected areas to try and curb consumption.

The government says national capacity will jump from 353,000MW in 2003 to 430,000 by 2005. This will reverse the low capacity growth rates of recent years. For most of the 1990's, installed capacity was growing each year from a low of 8.7% to high of 9.9%. Since 1999, however, growth has dipped to a low of 4.2% in 2002 from 6.9% in 2000.

Analysts believe the de-regulation of the power industry will greatly benefit CRP, which will be able to combine organic growth with accelerating M&A. But one of the main risks investors will have to consider is how adept it will to be at purchasing quality assets at low multiples.

Lead managers are likely to argue that it will not face the same legacy issues as its SOE counterparts and the prospect of low-yielding asset injections. Crucially it also has a lot more flexibility and does not need to seek government approval to complete any international fundraising initiatives.