WASHINGTON - Some of the world's largest power companies are facing a major financial threat and could face costs equivalent to over 10 percent of 2002 earnings if they fail to take steps to prepare for upcoming global warming regulation, according to a new World Wildlife Fund report released at the London Stock Exchange.
The independent report Power Switch: Impacts of Climate Policy on the Power Sector (PDF format) -- commissioned from international financial analysts Innovest Strategic Value Advisors -- analyzes the financial risks and opportunities that 14 major international electric utilities -- including three U.S. utilities, American Electric Power (NYSE: AEP), Southern Company (NYSE: SO) and Duke (NYSE: DUK) -- face from existing and expected global and national climate policies, and illustrates how their responses to this risk could impact their bottom line.
Key findings of the report include:
- While policies vary from region to region, their general effect will be, for the first time, to make utilities internalize the cost of their CO2 emissions.
- For firms that have switched to cleaner fuels, such as natural gas and renewables, maximized efficiency, or plan to do so in the near future costs can be reduced and even turned into profit.
- Large quantities of CO2 emissions can be reduced cost-effectively if firms proactively plan a switch to cleaner fuels and increased efficiency. Waiting to implement such measures will be more expensive.
As policies make polluters internalize the cost of their CO2 emissions, electric utilities are likely to be among the most affected firms because the power sector is responsible for 37 percent of global emissions. This is borne out by the report, which shows how legislation already in place can significantly raise firms' production costs. In countries that have not passed national policies, such as the United States, the report shows similar impacts for existing state regulation and potential national policy scenarios. Recently, the first-ever vote in the U.S. Senate on mandatory limits on global warming pollution received 43 Senate votes in its favor which demonstrates that the issue can no longer be sidelined in U.S. clean air and energy debates.
"Eventually, we will have legislation that limits the emission of greenhouse gases. This report discusses how utilities can either see competitive benefits, or face financial risks depending on how they prepare for future emissions limits. The key is to realize that it's better to act sooner than later," Senator McCain (R-AZ) said.
The most affected company in the United States -- in pure cost terms under a moderate carbon reduction scenario -- is AEP with possible additional costs of approximately nine percent of 2002 earnings. In the European Union, E.ON and Scottish Power could see increased cost increases of over four percent of their 2002 earnings, while for Canadian TransAlta these grow to almost 16 percent.
With solution technologies readily at hand, the report also shows that these costs can be reduced and even turned into profit by firms that have switched to cleaner fuels, such as natural gas and renewables, maximized efficiency or plan to do so in the near future. Iberdrola in Spain for instance has geared up its investment in wind energy, thus reducing its overall CO2 emissions; in a costly carbon market this will greatly reduce the company's financial exposure and improve its competitive position. In many cases, the overall result in terms of net earnings will be positive. Firms with proactive and well thought-out carbon management strategies, therefore, will be the most likely winners in the new operating environment.
"This WWF report is a wake-up call to the power sector and those who invest in it," said Katherine Silverthorne, director of WWF's U.S. Climate Change Program. "Financial analysts clearly need to factor climate policy and the adequacy of management response into their assessment of power companies. Active management of CO2 emissions and a shift to clean renewable-based generation needs to be at the heart of business strategies over the next decade. With responsible planning, both shareholder value and the Earth's climate can be protected."
A crucial remaining question is the apparent reluctance of the power sector to act in advance of regulation in order to mitigate this risk. Currently, most companies appear to be just as unprepared for carbon related regulation as they were for electric deregulation. A key conclusion of the report is that, while large quantities of emissions can be reduced cost-effectively, this depends to a great extent on the willingness of firms to take proactive steps to change. Investors and analysts therefore need to engage with utilities at the earliest opportunity to ensure that low-carbon investment strategies are in place. There is already evidence of growing shareholder concern. During the past year, 29 resolutions were filed by shareholders seeking disclosure of the financial risks associated with CO2 emissions. Nearly 27 percent of AEP's voting shareholders voted in support of such a measure in April.
Note: Innovest revised the WWF-commissioned report, Power Switch: Impacts of Climate Policy on the Power Sector (PDF format), on November 19, 2003.
The companies covered in the WWF report Power Switch: Impacts of Climate Policy on the Power Sector are: AEP, Southern, Duke (United States); TransAlta (Canada); TEPCO and Kansai (Japan); E.ON, RWE, Scottish Power, Scottish and Southern Electricity, Iberdrola, Endesa, Enel and MVV (European Union).
This report, managed by Mark Kenber and Rebecca Eaton of WWF, was written by Dr. Martin Whittaker of Innovest Strategic Value Advisors, and. Climate Change Capital provided advice and technical input during its preparation and the following experts reviewed the report:
- Daan Dijk, manager, Sustainable Energy and Environmental Markets, Rabobank
- Rich Hunter, managing director, Global Power, FitchRatings
- Lawrence H. Linden, advisory director, Goldman Sachs & Co
- Nick Robins, head of SRI Research, Henderson Global Investors
- Tessa Tennant, chair of ASRIA-Association for Sustainable and Responsible Investment in Asia
Review of the report does not imply endorsement-personal or institutional-of its contents. The information and opinions contained in this report are the sole responsibility of the authors and of WWF.
For a limited time, reporters can listen to a replay of a phone briefing from the morning of November 12 on 1-800-247-5110 (USA), code: 35017.