Key Takeaways
- The independent power producers that we rate in China can maintain their solid credit standing despite hefty debt-funded investments in renewable energy, even with a likely 20% rise in capex over the next two to three years.
- Returns on grid-parity renewable projects should remain viable, underpinned by robust power demand, improved utilization hours, and favorable tariffs.
- Tariff volatility is the key sensitivity factor that could destabilize cash flows of renewable operators, particularly when the trading mix in the spot market increases over time.
China is pushing ahead in its race for greener energy. The country aims to increase its renewables generation capacity by about 50% over the next three years, adding over 400 gigawatts of wind and solar power to the grid. But at what cost? The renewable developers we rate are mostly state-owned independent power producers, or IPPs, which are stepping up investments to meet Beijing's ambitious targets. And that means ramping up capex and debts, too.
For now, S&P Global Ratings believes the producers still have plenty of financial headroom despite recent losses in thermal segments. Most state-owned IPPs have relatively low funding costs and diversified refinancing channels.
Cash flow visibility for renewable developers is also improving, which will continue to support the credit resilience of IPPs. All new renewable projects now operate under non-subsidized tariffs--or grid parity--at a price not higher than the base tariff for local coal-fire tariffs. The central government is accelerating the repayment of these long-overdue subsidy receivables, which will help lower the burden on IPPs' working capital.
By 2030, merchant risks may increase when all renewable projects are operating under market-based trading. That's been happening for their coal power peers since last year. Operators may be exposed to both volume and pricing risks, given that their power sales contracts usually only last for less than one year. In other markets, such as in Europe, power purchase agreements (PPAs) may be signed for more than 10 years. In addition, tariffs can fluctuate based on supply-demand dynamics.
The impact on financial ratios remains limited for now, though, given market-based trading contributed just 1%-5% of overall generation in 2022.
Over the next decade, we believe wider application of affordable energy storage will balance real-time power supply and demand when renewables become more prominent in the energy mix. To achieve that, more policy support and government incentives for developing new technologies will be crucial.
Central State-Owned Enterprises To Lead The Green Transition
Table 1
| China's Key Carbon-Related Targets | ||||
|---|---|---|---|---|
| Policy | Target | |||
| Net Zero | 2060 | |||
| 2030 Emissions Commitment | Lower carbon emissions intensity by more than 65% from 2005 level | |||
| Peak Emission* | 2027 | |||
| Renewable Energy | Wind and solar capacity to reach 1,200 GW by 2030. To add 80GW hydro during 2021-2030 | |||
| Carbon Tax | None established | |||
| Carbon ETS | Nationwide ETS implemented in 2021, participants to be expanded from power generators to other industrial sectors | |||
| Coal Phase-Out | Only committed to phase 'down' | |||
| Electric Vehicles Penetration | 20% of newly sold private cars in 2025 | |||
| Source: S&P Global Commodity Insights, Global Integrated Energy Model March 2022 Reference Case. | ||||
We estimate that the capital expenditure (capex) of IPPs will rise more than 20% from 2023-2025, compared with 2020-2022. The increase mostly represents hefty investments in greener energy. Under China's energy targets, IPPs must ensure renewables form at least 50% of their energy capacity by 2025.
Rated companies will contribute about 280 GW of renewable energy installations over 2023-2025, roughly a quarter of the country's current capacity. China will also take a strong role in renewable development in the world, contributing nearly half of total global new additions.
We project the installation of additional renewables will reach 130 GW-140 GW a year over 2023-2025, assuming utilization hours remain stable for both wind and solar farms. Under its 14th Five-Year Plan (FYP) from 2021-2025 for the energy sector, China aims to achieve 3.3 trillion kilowatt hours (kWh) renewable power generation by 2025, up from 2.7 trillion kWh in 2022 (or a rise of 22%).
China targets non-hydro renewable (mainly wind and solar) to generate 18% of total national power generation by 2025, from 14% in 2022. The cumulative renewable capacity is likely to rise to more than 1,100 GW by 2025, from 758 GW as of end-2022. If these 2025 goas are effectively achieved, the 1,200 GW national target set for 2030 will therefore not be difficult to surpass.
The spending on installation will prevent the creditworthiness of IPPs from improving from current levels for the foreseeable future, given the majority will be debt-funded. This is despite the fact that the profitability of most of the IPPs' coal-power segments have improved, and EBITDA margins for the commissioned renewable projects remain high (see "China's Independent Power Producers Are Set To Break Their Losing Streak," published on RatingsDirect on Oct. 13 2022). We expect enhancements in technology to reduce construction and system costs, and therefore aid the energy transition.
Chart 1
Technology Is Key In China's Renewable Expansion
In our opinion, technological advancements and economies could help offshore wind farms reach grid-parity in the next three to five years. Five offshore wind-generation bases have been approved in coastal provinces such as Jiangsu, Shandong, and Guangdong.
Under the Chinese government's 14th FYP, total capacity addition in 2021-2025 could reach 60 GW, compared with about 11 GW at end-2020. About 17 GW was installed in 2021, catching the last wave of tariff subsidies, while 3GW was added in 2022.
Among the peers we rate, China Three Gorges Corp. and China General Nuclear Power Corp. are actively securing and developing new offshore wind projects. China Longyuan Power Group Corp. Ltd. is one of the earliest developers of offshore wind farms.
The pace of expansion in China's renewable energy sector will be steady. Progress has already been made despite COVID-related construction delays. In 2022, the country added 37 GW of wind and 87 GW of solar power, slightly higher than the total installation of 102 GW in 2021.
In contrast, in the first two months of 2023, about 35 GW of wind and solar projects have been commissioned post restrictions: a year-on-year jump of 49.5%. In April 2023, the National Energy Administration (NEA) released a target for new additions of wind and solar capacity of 160 GW just for 2023, implying 29% growth from 2022.
The engines of China's renewable ambitions will be the mega-sized renewable bases. In 2021, the National People's Congress approved nine renewable bases across 12 provinces to develop utility-scale wind and solar farms in the nation's roadmap for 2025 and 2035. Total new projects to be built in these bases could reach 390 GW over the next three years. This would account for most of the total new additions for the country.
Green Trading Is A Plus For Grid-Parity Projects
In our view, the profitability of market incumbents should be stable over the next two to three years under the newly released rules for green electricity trading--or "green trading."
In early 2023, the National Development and Reform Commission (NDRC), the Ministry of Finance, and the National Energy Administration (NEA) released guidelines for renewable projects to participate in green trading, a type of market-based trading. All projects are encouraged to participate and a grandfather rule still applies. Under this rule, the existing subsidized projects would continue under a fixed feed-in tariff (FiT), and the revenue received from such green trading would not jeopardize their eligibility for subsidies.
If the green trading tariff is lower than the original FiT, the operator is still entitled to the amount of tariff subsidy due from the central government. On the other hand, if the green trading tariff is higher than the original FiT, the operator will receive a tariff premium as a substitute for the tariff subsidy.
Under either scenario, FiT projects will not lose the incentive to participate. This is different from the previous policy where operators had to forfeit their tariff subsidy if they opted to participate in green trading directly with the power users.
For grid-parity projects developed over the past few years, participation in green trading also adds value. This is because green electricity can be traded above the base tariff for coal power that those grid-parity projects normally receive. This is usually the case when demand for green electricity is steep among high-energy intensive industrials. The operating cash flow of grid-parity projects may therefore improve.
The tariff hike for coal power in the past year is also an example when renewable projects have benefited from grid-parity since their tariffs increased accordingly.
China's renewable sector is moving toward a more competitive and market-oriented environment. Over 2014-2021, the central government has gradually phased out the subsidy embedded in the FiT for wind and solar projects (see "China Power Sector: Regulatory Support To Stay As Subsidies Fade," Oct. 16, 2022).
We anticipate that by 2025 the volume of green trading will expand faster and that the grid-parity capacity will eventually outpace that of the FiT projects in the system. Until 2022, only a few grid-parity projects participated in green trading, with a premium of about Chinese renminbi (RMB) 20-RMB80/megawatt hour (MWh) over the base tariff for coal-fired power. By 2030, the government requires all renewables to trade through a market-based mechanism.
Chart 2
Chart 3
Utilization Hour To Remain Stable--The Key Risk Is Extreme Weather
We anticipate that utilization hours for renewables will be stable over the next two to three years, supported by robust power demand growth. Utilization hours for wind and solar farms have steadily improved for the past six years. This stems from lower curtailment rate, or the loss of potentially useful energy. But extreme weather poses a risk.
Curtailment rates for wind and solar farms will remain low, in our view. Grid connection is no longer a keen issue for renewable projects in recent decades, given both developers and grid companies (gridcos) have to ensure availability of transmission facilities before the project can be commissioned. Average curtailment rate for wind and solar projects was 3.3% and 1.8%, respectively, in 2022, an historical low.
However, power dispatching remains challenging across different provinces, particularly those linking long-distanced mega-sized renewable bases to users. To ensure stable and reliable power supply and facilitate the recalibration of energy mix in the power system, the onus will be on gridcos to build more interprovincial transmission lines and equip existing facilities with smart grid facilities to enhance the distribution efficiency. The commissioning of new ultra high-voltage (UHV) lines will consequently improve transmission capacity. As such, we expect curtailment rates in the new mega bases to be low.
China's power consumption growth is underpinned by post-COVID economic recovery and wider electrification, which in turn support steady utilization hours for power generators. Technology upgrades may help to improve turbine utilization.
The launch of green trading and spot market trading also add opportunities for operators to supply more electricity, albeit at a relatively lower tariff under normal circumstances. Examples include a plan by the NEA to encourage the use of green energy for oil and gas exploration and production through the 14FYP.
More extreme weather can be a key risk to the operation of renewables. Wind turbine and solar panel utilization largely depend on local wind speed and intensity of solar radiation conditions. Prior to 2030, the intermittency renewable power can be compensated by fossil fuels (mainly coal power), which still account for more than 70% of the generation mix. When renewables become more prominent in the system, likely beyond 2050, power storage and other new technology such as hydrogen, may be the ultimate solution.
Chart 4
Chart 5
Table 2
| Minimum Utilization Hours For Different Regions In China | ||||||||
|---|---|---|---|---|---|---|---|---|
| Region | Description | Full-life minimum utilization hour | Average annual minimum utilization hour | |||||
| Class I wind resouce area | North of Xinjiang, west and mid of Inner Mongolia | 48,000 | 2,400 | |||||
| Class II wind resouce area | East of Inner Mongolia, North of Gansu | 44,000 | 2,200 | |||||
| Class III wind resouce area | Mid and south of Xinjiang, south of Gansu, Ningxia, part of Heilongjiang and Jilin | 40,000 | 2,000 | |||||
| Class IV wind resouce area | Rest of China | 36,000 | 1,800 | |||||
| Offshore wind power | All offshore wind power eligible | 52,000 | 2,600 | |||||
| Class I solar resouce area | North of Xinjiang, west and mid of Inner Mongolia, north of Gansu, north of Qinghai, Ningxia | 32,000 | 1,600 | |||||
| Class II solar resouce area | Mid and south of Xinjiang, south of Qinghai, south of Gansu, north of Shaanxi, north of Shanxi, north of Hebei, Liaoning, Jilin, Heilongjiang, Sichuan, Yunnan | 26,000 | 1,300 | |||||
| Class III solar resouce area | Rest of China | 22,000 | 1,100 | |||||
| Source: government websites, S&P Global Ratings. | ||||||||
More Lines Mean Better Dispatch
State Grid Corp. of China (SGCC) has dedicated about 10% of total annual capex to the construction of long-distance UHV lines. SGCC will allocate about 60% of capex to upgrading local provincial grids and distribution systems to accommodate more distributed projects, such as rooftop photovoltaic systems, as well as demand-side management.
We anticipate both SGCC and China Southern Power Grid Co. Ltd. will maintain high-level annual capex over 2023-2025. This may constrain any improvements to their financial ratios and undermine their stand-alone creditworthiness. A potential lower trend for transmission and distribution tariffs in the coming regulatory resets may also weigh on their cash flow leverage ratios. That said, the regulated tariff-setting mechanism enhances transparency.
As of 2022, 17 UHV direct current (DC) lines operate under SGCC and CSG. Four UHV DC lines are under construction and seven more lines are in the pipeline for commissioning by 2025.
We estimate the total transmission capacity could double by end-2025, compared with the transmission volume in 2021, assuming the four new lines are commissioned on schedule and annual utilization is 75% for all 21 lines. The incremental transmission capacity should largely match the increase in generation capacity in such a case.
Rated Renewable Developers Will Feel Impact Of Changes
The ability of renewable development to hum along derives partly from the funding advantage of state-owned IPPs. Creditors view favorably their alignment with the central government's energy-transition goals. The cash flows from the IPP projects are typically stable, leading to one of the lowest average financing costs of any sectors, at or below 4%. Nonetheless, interest rate hikes can still negatively affect cash flows for all operators, particularly those with U.S. dollar borrowings.
IPPs are resourceful with fundraising, which may temper the pressure for high debt-funded capex. For example, many have injected assets into listed subsidiaries to raise equity capital. Past cases include China Three Gorges and China Longyuan. Some are now conducting separate listings of their renewable subsidiaries, such as China Huaneng Group Co. Ltd. and China Resources Power Holdings Co. Ltd. Others have considered REITs structure as a channel.
Wider competition among power suppliers may increase earnings volatility. By 2030, the renewable operators will be fully exposed to merchant risks when all renewables enter into market-based trading. For IPPs with significant coal power assets, their profitability will also be affected by the pass-through of cost and costs associated with the upgrade or retirement of old coal power plants.
For those dominated by wind and solar power, average renewable tariffs may trend downward and fluctuate according to supply demand dynamics. Mitigants for income can be derived from sales of green credits and carbon credits, which are still at an initial stage.
We tested the sensitivity of our rated IPPs to changes in average tariffs of renewable segments. We estimated that a 10% tariff discount can lead to 3%-18% drop in the ratio of funds from operations (FFO) to debt, and a 2%-14% drop in FFO interest coverage. These are the two key financial ratios for assessing utilities companies.
Among all rated issuers, pure players, such as China Longyuan and Beijing Energy International Holding Co. Ltd., may feel the impact from tariff fluctuations more than others.
Table 3
| Our Sensitivity Test For Rated IPPs | ||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Wind and solar power utilization hour (%) | Wind and solar power tariff (%) | Capex (%) | Funding cost (%) | |||||||||||||||
| Percentage change in 2023e-2025e credit ratios | +10 | (10) | +10 | (10) | +10 | (10) | +10 | (10) | ||||||||||
| FFO/debt | ||||||||||||||||||
| Pure renewable IPPs | +12~+20 | (12)~(18) | +12~+20 | (12)~(18) | (4)~(6) | +5~+7 | (3)~(8) | +3~+8 | ||||||||||
| Comprehensive IPPs | +3~+11 | (3)~(11) | +3~+11 | (3)~(11) | (1)~(7) | +1~+9 | (2)~(5) | +2~+5 | ||||||||||
| Grid operators | N/A | N/A | N/A | N/A | (3)~(7) | +4~+8 | (1)~(2_ | +1~+2 | ||||||||||
| FFO cash interest coverage | ||||||||||||||||||
| Pure renewable IPPs | +7~+15 | (6)~(14) | +7~+15 | (6)~(14) | (2)~(4) | +2~+4 | (9)~(9) | +11~+11 | ||||||||||
| Comprehensive IPPs | +2~+8 | (2)~(8) | +2~+8 | (2)~(8) | 0~(4) | +0~+5 | (7)~(9) | +8~+11 | ||||||||||
| Grid operators | N/A | N/A | N/A | N/A | (2)~(5) | +2~+6 | (9)~(9) | +11~+11 | ||||||||||
| e--Estimate. N/A--Not applicable. Source: S&P Global Ratings. | ||||||||||||||||||
Table 4
| Peer Comparison Of Rated China IPPs | ||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Issuer name | Issuer credit rating (ICR) | Stand-alone credit profile (SACP) | Downside trigger | Upside trigger | Likelihood of government support | Entity status within group | ||||||||
| Pure renewable IPPs | ||||||||||||||
|
China Longyuan Power Group Corp. Ltd. |
A-/Stable | bbb- | ICR downgrade if FFO to debt <9% and FFO cash interest coverage <3.0x | SACP upgrade if FFO to debt >20% | N/A | Strategically important | ||||||||
|
Beijing Energy International Holding Co. Ltd. |
BBB+/Stable | b+ | SACP downgrade if FFO cash interest coverage <1.75x | SACP upgrade if FFO to debt >9% | N/A | Highly strategic | ||||||||
| Comprehensive IPPs | ||||||||||||||
|
China Huaneng Group Co. Ltd. |
A-/Stable | bb+ | ICR downgrade if FFO cash interest coverage <2.0x | ICR upgrade if FFO cash interest coverage >4.0x and FFO to debt >12% | Very high | N/A | ||||||||
|
Huaneng Power International Inc. |
A-/Stable | bb+ | ICR downgrade if China Huaneng Group's ICR downgraded | ICR upgrade if China Huaneng Group's ICR upgraded | N/A | Core | ||||||||
|
State Power Investment Corp. Ltd. |
A-/Stable | bb+ | ICR downgrade if FFO cash interest coverage <2.0x | ICR upgrade if FFO cash interest coverage >4.0x and FFO to debt >12% | Very high | N/A | ||||||||
|
China Huadian Corp. Ltd. |
A-/Stable | bb+ | ICR downgrade if FFO cash interest coverage <2.0x | ICR upgrade if FFO cash interest coverage >4.0x and FFO to debt >12% | Very high | N/A | ||||||||
| China Resouces Power Holdings Co. Ltd. | BBB+/Stable | bbb- | SACP downgrade if FFO to debt <12% or FFO cash interest coverage <4.0x | SACP upgrade if FFO to debt >30% | N/A | Core | ||||||||
|
Guangdong Energy Group Co. Ltd. |
A-/Stable | bbb- | ICR downgrade if FFO cash interest coverage <3.0x | ICR upgrade if FFO to debt >30% | Very high | N/A | ||||||||
|
Shenergy (Group) Co. Ltd. |
A/Stable | a- | SACP downgrade if FFO cash interest coverage <5.0x; ICR downgrade if FFO to debt <20% and FFO interest coverage <4.0x | ICR upgrade if FFO to debt >60% | Very high | N/A | ||||||||
|
China General Nuclear Power Corp. |
A-/Stable | bb+ | ICR downgrade if FFO cash interest coverage <1.75x | ICR upgrade if FFO to debt >13%, SACP upgrade if FFO cash interest coverage >3x | Very high | N/A | ||||||||
|
China Three Gorges Corp. Ltd. |
A/Stable | bbb+ | SACP downgrade if FFO to debt <15% | SACP upgrade if FFO to debt >23% | Extremely high | N/A | ||||||||
| Grid operators | ||||||||||||||
|
State Grid Corporation of China |
A+/Stable | a+ | SACP downgrade if FFO to debt <25% | N/A | Extremely high | N/A | ||||||||
|
China Southern Power Grid Co. Ltd. |
A+/Stable | a | SACP downgrade if FFO cash interest coverage <6.0x | N/A | Extremely high | N/A | ||||||||
| N/A--Not applicable. Source: S&P Global Ratings. | ||||||||||||||
Technology Breakthrough Is The Ultimate Solution
We expect power storage facilities to increase substantially beyond 2030. The firming of renewable power (making it less interruptible) through hybrid, pumped and battery storage is a prevailing trend across many countries transitioning into renewables. Green hydrogen and carbon capture will likely play a meaningful role beyond 2030.
In the meantime, China's IPPs must install power storage facilities to match 10%-20% of power generation capacity with a usage duration of about two hours starting from 2023. Unit development costs for wind and solar projects will increase by about 10% on average as a result. But government compensation for storage facilities has been limited due to a policy lag.
Pumped hydro remains the prevailing storage technology in China, mainly developed by the two gridcos, SGCC and CSG. The country aims to add 88 GW by 2030. Other than pumped hydro, China targets storage technology such as batteries to reach at least 30 GW by 2025, up from 8.7 GW in 2022, implying a compounded annual growth rate of 51%. This may require the gridcos and IPPs to invest more than RMB20 billion over 2023-2025.
Central state-owned enterprises are well placed to lead China's transition to a greener future. The market-based trading shows signs of greater efficiency. And the country's development of mega-bases and long-distance transmission lines are crucial steps in ensuring robust and reliable recalibration of energy mix. This may require the gridcos and IPPs to invest more than RMB20 billion over 2023-2025.
What's left is to manage the risk of seasonal fluctuation and extreme weather. Effective and efficient energy storage will still need to evolve for a true long-term fix.
Editor: Lex Hall
Designer: Evy Cheung
Related Research
- China's Independent Power Producers See A Way Out, April 12, 2023
- EU's Proposed Energy Market Redesign Mitigates Merchant Risks And Accelerates Renewables, April 4, 2023
- Asia-Pacific's Different Pathways To Energy Transition, March 30, 2023
- China Resources Power To Tap Equity Market For Renewables Funding, March 24, 2023
- Beijing Energy International Holding Co. Ltd. Assigned 'BBB+' Rating; Outlook Stable , Dec. 20, 2022
- China Southern Power Grid co. Ltd., Dec. 19, 2022
- China Three Gorges Corp., Nov. 24, 2022
- China Longyuan Power Group Corp. Ltd., Nov. 17, 2022
- China Huaneng Group Co. Ltd., Nov. 2, 2022
- China Power Sector: Regulatory Support To Stay As Subsidies Fade, Oct. 16, 2022
- China's Independent Power Producers Are Set To Break Their Losing Streak, Oct. 13 2022
- State Grid Corp. of China, July 4, 2022
This report does not constitute a rating action.
| Primary Credit Analysts: | Apple Li, CPA, Hong Kong + 852 2533 3512; apple.li@spglobal.com |
| Miranda Wang, Hong Kong +852 25328054; miranda.wang@spglobal.com | |
| Secondary Contacts: | Guodong Song, Hong Kong +852 2532 8011; guodong.song@spglobal.com |
| Christopher Yip, Hong Kong + 852 2533 3593; christopher.yip@spglobal.com |
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