Risk Management Report

Risk Management Concept

The Board acknowledges that risk management can provide strong support and basic security for the highquality and sustainable development of the Group. In this connection, the Board regarded risk management as a proactive measure for creating efficiencies and promoted risk management responsibilities to the Board, the management and all staff members as well as its whole business process. The Board has established a risk management structure with three lines of defence, namely "Business, Support and Assurance", for the Group, under which the Group further emphasized that the key leaders of each of the business units and business departments shall be the primary responsible persons for risk management. The relevant accountability system was also put in place. The Board required risk management to be "comprehensive, focused, dynamic and continuous". As such, the Board regularly studies and clarifies the comprehensive risk indicator system in relation to the Group's operation through the Risk Management Committee. It has also took a dynamic approach to set up key risk checkpoints based on the changes in the Group's internal and external environment, which will be used to monitor the management's performance in carrying out their responsibilities in relation to dynamic monitoring and ongoing risk management and control during daily operating activities. The Board consistently works on building a risk culture of "prudent, aggressive and responsible" through proactive risk management activities with a view to ensuring the high-quality and sustainable development of the Group.

Risk Management Committee

The Risk Management Committee is delegated by the Board with responsibilities to oversee the Group's overall risk management framework and to advise the Board on the Group's risk-related issues. The Risk Management Committee is also responsible for approving the Group's risk management policies and assessing the effectiveness of the Group's risk controls. The details of the terms of reference of the Risk Management Committee have been posted on the websites of the Company and the Hong Kong Stock Exchange.

The Risk Management Committee held two meetings during 2017 and focused on the discussion on the following matters:

  • reviewed the risk management report for the year 2016 and risk management plan for the year 2017 prepared by the Company's Internal Audit Department relating to the Group's risk management framework, effectiveness of the risk management system, risk management policies which governs the identification, assessment, monitoring and reporting of the major risks faced by the Group;
  • reviewed and approved the "Human Resources Report of Internal Audit Department"; and
  • reviewed, discussed and approved the major and connected transactions in relation to the acquisition of certain clean energy project companies from SPIC and CPI Holding and the proposed rights issue to finance the said acquisitions in October and November 2017, and made recommendations to the Board.

 

Risk Management Framework

Pursuant to the standards regarding risk management framework of the COSO (including standards being updated on an ongoing basis), the Group has established a risk management framework with "three lines of defence":

  • 1st line of defence: Business risk management - During the course of business activities, each of the functional department and business unit as well as personnel holding the respective business position shall be the first responsible unit for handling matters within their terms of reference for risk identification and management.
  • 2nd line of defence: Oversight of and support for risk management - The Risk Management Committee under the Board and the functional departments for risk management, including functional departments such as internal audit, legal affairs, compliance, finance, human resources, safety and environmental protection monitoring, shall assist the front-line business departments to assume joint responsibilities for overseeing, inspecting and evaluating those works relating to the implementation of risk management.
  • 3rd line of defence: Independent assurance - The Audit Committee under the Board and the Group's Internal Audit Department shall be responsible for auditing the results of the risk management works done and issuing an audit report.

 

Risk Management Procedures

The risk management procedures of the Group comprise comprehensive risk management and specific risk management targeting major investing activities.

The procedures of comprehensive risk management are as follows:

Phase 1: Formulation of risk management policies, strategies and risk assessment standards - The Board shall determine risk policies in respect of the Group's governance, culture and development strategies, and shall take these policies into consideration when determining its business targets. The Risk Management Committee shall be entrusted by the Board to determine the risk management strategy of the Group, while the Group's Internal Audit Department shall establish common risk assessment standards and set up risk score sheet for the Group.

Phase 2: Comprehensively collect first-hand information for risk management and identify risks - Each department/business unit shall extensively and continuously collect internal and external information in relation to the risks of the Group and the risk management thereof and identify potential risks that may have impact on the key processes of their operations.

Phase 3: Conduct risk assessment and establish comprehensive risk management ledger - Each department/business unit shall assess and score the risks identified along with their impact on the business and the likelihood of their occurrence. All risks of the Group and its subordinated units shall be recorded in the risk management ledger.

Phase 4: Risk treatment and follow-up/update of risk management ledger on a quarterly basis - Based on the assessment, each department/business unit shall propose measure for monitoring and treatment of risk identified and determine the responsible person for the specific risk. All these information shall be recorded in the comprehensive risk management ledger and updated on a quarterly basis to ensure that the risks are controllable.

Phase 5: Risk reporting and monitoring - Each department/business unit shall monitor their own risk mitigating works and summarize the comprehensive risk management condition and report the same to the Risk Management Committee bi-annually, so that the committee can keep abreast of the distribution and changes of comprehensive risks on a continuous basis, evaluate the effectiveness of the risk management works and suggest measures for improvement. The Risk Management Committee submitted risk management report to the Board annually.

The risk management procedures targeting major investment projects are as follows:

  • Project Establishment and Feasibility Study Stage: Business departments and all supporting departments for risk management shall conduct work such as feasibility study and due diligence for their investment projects, so as to fully identify and assess the risks of the investment projects and the risk cost thereof, and put forward strategies and measures against material risks.
  • Investment Decision Stage: Before making investment decisions, the departments shall prepare risk assessment report for specific project based on the feasibility study and due diligence with a view to disclosing the risks of the investment project and the impact of the risk factors, and suggest preventive measures.
  • Construction Stage: The departments shall conduct risk analysis on the conditions for commencement of construction, including analysis on compliance risk relating to aspects such as land, environment and energy conservation, technical risk relating to engineering design plan, risk relating to engineering management, etc.. Construction work will be commenced after establishing feasible responsive measures and passing the compliance evaluations.

 

A closed-loop tracking mechanism will be implemented for the risk analysis and evaluation conclusion for each of the above stages to ensure all risks are controllable and under control.

In 2017, apart from conducting the above risk management works on a continuous basis, the Group also placed strong emphasis on the building of an information platform for compliance management for the Group. Information technology will be used to manage the compliance review and assurance procedures for decisionmaking, contract and capital management. In addition, the Board also attached great importance to prevention and control of risks in relation to internet security. It has established system and working mechanism to enhance internet security management and the safety protection management of its power monitoring system.

Pursuant to the risk assessment for 2017, the major risks of the Group are as follows:

Group's Top Risks Target Risk Trend 2017 Key Response Plan(s)
Risks relating to market changes - With the accelerated power system reform in the PRC, the level of marketization has also increased gradually. The power production quota obtained by power plants and the tariff thereof were determined by the market to a larger extent, and the power generation companies were thus confronted with intensified competition in the market. The Group will accelerate its strategic transformation and development. It will accelerate the development of clean energy to transform itself from carbon-heavy to low carbon generation; accelerate the development of integrated energy to transform itself from a power generation enterprise into an energy supply and service enterprise; accelerate the development of intelligent technology to transform itself from an industrial enterprise into a digital enterprise. The Group will continue to optimize its power supply structure and strive to increase its dispatching electricity. Firstly, the Group will strengthen its work in relation to inter-regional power transactions with a view to increasing the volume of power output. Secondly, the Group will actively participate in works in relation to power transactions in the market, striving for profitable electricity supply in the market. Thirdly, the Group will strive for basic electricity supply incentives through supporting policies of the PRC government for specific type of basic electricity supply, such as energy-saving power supply and the development of heat supply market. Fourthly, the Group will formulate effective marketing strategies to enhance the market competitiveness of its power generating units and increase the proportion of electricity supply obtained through market transactions. Fifthly, the Group will strengthen its work in relation to the replacement of energy. For instance, the Group will start to replace coalfired electricity with electricity generated from wind power and photovoltaic power and reduce the abandonment rate of new energy such as wind power and photovoltaic power.
Risks relating to funding - As the Group increases its effort in project development, financial adequacy will have an increasing impact on the Group's operations and development. The Group will further leverage its access to the domestic and overseas markets to optimize its financing sources, lower its financing costs and secure funding. Cost-saving and efficiency enhancement initiatives have been adopted in the Group's business management to lower administrative and operating expenses.
Risks relating to policy changes - The Group's power plants are regulated by the regulations of the PRC government and the power grid. As China is intensifying the power system reform, there is a risk of decreasing on-grid tariffs for coal-fired power. Meanwhile, the intervention and implementation of government measures such as elimination of overcapacity of the coal industry, the uncertainties existing in the coal market and the fluctuations in coal supply will bring risks to fuel cost control of the Group's coal-fired power generation. The Group will continue to closely follow the national policies and actively communicate with relevant competent government departments and regulatory departments to formulate reasonable and standardized operation plans for transactions in the power market or other trading strategies. It will also strive for selfdetermining prices by negotiations and prevent transactions with tariff that brings zero marginal revenue. The Group will continue to promote energy saving and emission reduction, strive for ultra-low emission tariffs and clean energy power price premium. The Group will also strengthen its efforts in developing quality electricity users and enhance the collaborative marketing among power generation enterprises.

To strengthen cost control, the Group will actively cooperate with large coal mining enterprises, enter into annual key coal purchase contracts, stabilize coal supply and achieve preferential unit purchase prices. The Group will constantly open up procurement channels, increase efforts in the centralized procurement of coal and reduce coal-fired power fuel costs by capitalizing on the economy of scale. The Group will strive to reduce its logistic costs by optimizing the transportation methods, such as decreasing or waiving transportation or miscellaneous fees and increasing the amount of direct transportation. It will also study the market trends to make procurement at an accurate timing, thereby maximizing the effect of staggering coal inventories.
Risks relating to approvals of power plant development or investment - The Group's continued success depends on its ability to secure, in a timely and cost-effective manner, the required PRC government and other approvals for its power plant projects. Any delay or failure to secure any of the required approvals, licenses or permits may increase costs or delay or prevent the commencement of operation or integration of the affected power plant. The Group has made strategic adjustments in accordance with the government policies to optimize the industrial structure. Firstly, the Group actively accelerated the development of clean energy to control and slow down the development of coal-fired power, thereby transforming itself into a low-carbon generation enterprise. It has also make substantial investments in clean energy projects supported by the State. For instance, two photovoltaic "Top Runner" projects located in Shanxi Ruicheng and Shandong Xintai, respectively have commenced operation as planned, and a jointlydeveloped wind power project of 100MW has commenced in Shanxi Yangqu in a view to actively exploring offshore wind power resources. Secondly, the Group has accelerated the development of integrated energy to transform itself into an intergrated energy supply and service enterprise. By capitalizing on the advantages of regional location and presence, the Group actively entered the local independent electricity sales and distribution business and vigorously developed integrated energy. The focus is put on investing in the economic development zones emphasized by the State with strong power consumption capacity, which is thus able to guarantee the reliability of project revenue. For instance, the Heifei Airport Demonstration Project has been approved; the project in Chengdu Hi-Tech Industrial Development Zone has commenced construction in compliance with the highest standards; and other projects such as those in Guangdong Jiangmen and Sichuan Deyang have been progressing steadily.
Risks relating to natural factors - The level of power generation and financial performance of our hydropower business are particularly affected by natural factors such as season and climate changes (for instance, rainfall and temperature changes), which may increase costs or delay revenue and affect profitability. The Group has been strengthening the management of riverflows, leveraging the cascade watershed dispatchment advantage and continuously stabilizing hydropower generation for the full year to reduce the negative impact brought by seasonal and rainfall changes.
Risks relating to environmental protection policy - The environmental protection laws and regulations are getting stricter in China. In particular, the PRC government focuses heavily on the control of smog weather and consistently takes strict precautions against the pollution sources. Rigid management of processes and severe punishments are exerted in enforcement. For the power generation industry, investment in environmental protection will further increase as more stringent requirements will be imposed on the operation of environmentally friendly facilities. The Group has always been placing a great emphasis on environment protection from a corporate sustainable development perspective and is currently in full compliance with the requirements of the environmental protection laws and regulations. The Group has completed the ultra-low emission and integrated energysaving upgrades of all its coal-fired power generating units.
Risks relating to foreign exchange rate - The Group principally operates its business in the Mainland China with most of its transactions denominating in RMB. Apart from certain cash, bank balances and borrowings, the Group's assets and liabilities are mainly denominated in RMB. The Group also held borrowings denominated in USD and JPY. Increased fluctuation in the exchange rate of RMB against USD and JPY will result in the increase in fluctuation of the Group's exchange gain/loss, which will in turn affect its financial position and operating results. As of 31 December 2017, the Group held borrowings denominated in USD of approximately USD540 million (equivalent to approximately RMB3,500 million). As the exchange rate of USD against RMB continued to decrease since last year, no exchange rate hedging has been carried out. The Group will closely monitor the trend of USD exchange rate and make judgement on the impact on the Group from time to time and will timely take required actions to hedge against the exchange rate (if necessary).
Risks relating to management - On the extraordinary general meeting held on 8 November 2017, the independent Shareholders considered and approved the acquisition of companies locating in five provinces and autonomous regions, namely Guangdong, Guangxi, Anhui, Hubei and Shandong, by the Group. These companies are principally engaged in power generation by using clean energy, including hydropower, natural gas power, wind power and photovoltaic power. The continuous growth of asset and operation scale also brought about challenges for management. The Group has actively formulated various plans and policies to comprehensively integrate the newly acquired companies with the Group, including the linkage of information system, reporting and communication models, operation and development strategies, capital management, staff training (especially knowledge about corporate governance and regulatory requirements of listed company), etc.. The management of the Group is fully prepared for the integration of the acquired business.