How Fast Will The Electric Industry Exit Coal?
What do Siemens, General Electric and Toshiba have in common— other than the obvious: they are global manufacturers of electrical equipment? The answer is that this year all three announced they would no longer construct coal-fired electric power generating projects. Regardless of how managements describe this action, we believe their reasoning is simple: they see little future in the coal business. Think of the impact of this decision as akin to what happens when a computer firm no longer wants to support a software program or operating system. Customers can keep using it but who will spend money to develop process improvements? How long with these manufacturers wholeheartedly support their legacy products? No doubt they will assure existing customers of their enduring fealty to old coal but we suspect users familiar with the problems caused by unsupported legacy products might start thinking about accelerating timelines for coal plant shutdowns.
Electric companies around the world have not abandoned coal fired power generation en masse, especially in places such as Poland and Germany, where local economies are heavily dependent on coal mining and industrial production. A similar dynamic exists in mining states in the US. Although it’s a declining industry. coal miners still earn relatively high wages, especially in rural areas where other opportunities are scarce. US state and local interests also heavily favor retaining these industries and jobs despite knowing that ultimately coal as a boiler fuel for power generation is finished. (Apropos of that point, Peabody Energy, the world’s largest private coal miner, says it may have to file for bankruptcy, for the second time in five years, due to the weak market for coal,)
Electric companies as businesses have a financial incentive to retain aging, polluting coal fired generating assets. because their existing investment in coal assets is not yet fully depreciated. The power companies ask, “Why close down facilities until consumers have fully paid for them?” Doing so entails asset write offs that would result in financial unpleasantness on both income statements and balance sheets at the same time, as a result of which bond rating agencies might increase their scrutiny. Consequently from a business perspective, utilities have an economic incentive to perpetuate the status quo with respect to coal.
This is where we believe there is a useful role for government policy. Regulators, especially at the state public utility commission level, have the means to allow power companies to recover all of their undepreciated legacy coal investments costs from consumers. Regulators can, with relative ease, authorize utilities to amortize these assets over an extended period and at relatively low cost to consumers. But this does require regulatory or administrative action which will likely face some opposition.
We also suspect that the unions working within the electric industry are less than thrilled about the trend toward renewables. Jobs in the renewables industry may be less unionized and pay lower wages. Close a unionized coal power plant and replace it with renewables and distributed resources and higher paying jobs dwindle. We cannot quarrel with that analysis when taken in isolation, but it may ignore offsetting factors.
We believe that the global electric utility industry faces two main challenges. The first is a typical asset replacement or modernization cycle. The twist here is that the transition that utilities desire, from coal to natural gas, is under fire on environmental grounds. More utility scale wind, solar and storage seems a likelier result. New gas plant construction will carry increased stranded asset risk going forward.