Shenzhen Gas:China A-share Conference 2016takeaways

Still relatively high upside for organic growth in Shenzhen.

    The natural gas penetration rate among residents in Shenzhen is lower than that inmature markets, eg, Beijing and Shanghai, with only c50% of homes having access tonatural gas. With faster renovation of the old town area, the company signed contractswith 200k new users in H116. We estimate it will provide natural gas access to 40k-50khomes per year.

    LNG imports have high profit potential; demand growth is key.

    As investment in the liquefied natural gas (LNG) peak shaving facility was onlyRmb1.6bn, with cRmb100m of operating expenses, we estimate the company willmake a sizable profit, assuming the spread between the spot LNG price and the price ofLNG transported in the second West-East gas pipeline remains Rmb0.7/m3, with thefacility reaching its designed storage capacity of 1bn m3. Based on the current dynamicsof LNG trading in the Pearl River Delta, we think the market is big. Consideringinterconnection between pipelines, the company guided it is very likely for the facility toreach designed capacity in three years.

    Cost monitoring required, but current return has not reached upper limit.

    The National Development and Reform Commission has required tighter monitoring ofup- and midstream gas transmission cost and downstream gas distribution cost, but wecontinue to believe the company faces relatively low regulatory risk: 1) With a totalasset return of c6%, the company has not reached the regulatory threshold of 8%;2) Shenzhen does not have connection fees, and residential and non-residential naturalgas prices in the city are largely the same; and 3) Guangdong province’s economicstructure has a relatively high acceptance level for natural gas.

    Valuation: Maintain Buy rating.

    We maintain our Buy rating on Shenzhen Gas and derive our price target of Rmb11using DCF-based methodology (6.3% WACC), implying 26.8x 2017E PE.