China coal sector:Thermal

Event

    We lower our 2014/15E thermal coal price forecasts by 5%/4% to RMB550/530 per tonne. We see a short-term rebound in late 2Q and believe the pricewill likely fluctuate around the cost curve in the medium term.

    We cut our 2014E coking coal price forecast by 7% to RMB1,000/t (-12%y-y)but retain our previous y-y growth forecast in 2015-18E. The oversupplysituation appears much worse than our already bearish view.

    Impact

    Thermal coal - a mild rebound in late 2Q: The domestic thermal coal pricehad dropped 16% to RMB530/t as of 8 April. Current price is well below themarginal cost and we see limited downside given some production cut starts(Inner Mongolia 2M14 output -12% y-y). We expect a mild price recovery inlate May/early June given the slowdown of coal imports, post Daqin railwaymaintenance and IPP pre-summer stocking.

    Medium-term price to fluctuate at or slightly below marginal cost: Weexpect demand growth to slow to 2-3% in 2014-16E; while supply growth isalso under constraint becase of the weak price. We see oversupply continuingat 125-137mnt from 2013-16E. Meanwhile, the cost curve is likely to graduallyshift down thanks to fee clearance and lower transportation costs.

    Contract sales price help to stabilise ASP: Shenhua’s contract prices areset quarterly, and if quarterly spot price less than 5%, contract price will notchange. For China Coal, 40% of total coal sales are fixed at a RMB560/t.

    More bearish in coking coal given large supply growth from Shanxi andseaborne; the slowdown in steel demand growth; and the fact that price has nothit marginal cost yet (ie, unlikely to see meaningful supply cuts). China HCC(Liulin No.4) has corrected 20% YTD and we expect it to remain weak in 2014.

    Stock pick

    Shenhua (1088HK, N, PT: HK$24): We lower Shenhua 2014/15E EPS by6%/13% on ASP cut. It is our most preferred coal name thanks to itsintegrated model and the strong growth from non-coal business(power/railway) largely offsetting the weak coal price. However, we suggestthat investors wait for better entry points.

    China Coal (1898HK, N, PT: HK$4.2): We cut 2014/15E EPS by 34%/42% butkeep our DCF-based PT at HK$4.2 on lower capex assumptions. We keep ourcautious view given its high sensitivity to the weak coal price. We see it as betaplay this year. Suggest profit-taking in the wake of the 12% rise since its earnings.

    Yanzhou Coal (1171HK, UP, PT: HK$5): We cut 2014 EPS by 29% but raise2015 EPS by 17%. Sell given its 24% exposure to low-quality coking coal andthe big cost cut in 2013 may be hard to repeat in 2014. With >50% 2014 EPSdrop, 3% ROE, the current valuation of 20x mid-14/15 PER is demanding.

    Yitai (3948HK, N, PT: HK$9.5): Maintain Neutral; We remain cautious on itsproduction growth, large capex plan and low stock trading vol. Fushan (639HK,UP, PT: HK$2): Maintain Underperform on limited output growth and pureexposure to very weak coking coal price; Hidili (1393HK, UP, PT: HK$0.4):likely loss-making until 2016 with high gearing concern; maintain Underperform