News Column

Exelon Might Feel a Bit Winded

Sept. 19, 2012

Julie Wernau

wind

Four years ago, Exelon Corp. was a utility powerhouse.

Its stock was at its zenith, and its chief executive was pushing to pass climate change legislation that would make the company's massive fleet of nuclear power plants even more profitable. There was even a plan to do the unthinkable - build one of the first nuclear plants to be licensed in the U.S. in 30 years.

Fast-forward: Climate change legislation never materialized, and the company's stock has dropped by half. As a result of record-low natural gas prices and a glut of low-priced wind power, the idea of building nuclear plants is no longer viable for Chicago-based Exelon.

Moreover, the company, once hailed as one of the largest producers of wind power, last week was booted out of the country's largest wind lobbying group for its opposition to the renewal of a wind tax credit set to expire this year.

This is the new Exelon that Christopher Crane took over in March. Last week, he shared his strategy for the parent company of electric and natural gas utilities that serve 6.6 million customers in three states.

"If you go back five years, the economy was growing, our customer base and our product was in much higher demand," said Crane, 53, who has shied from interviews and public appearances, a stark departure from his predecessor, John Rowe.

Rowe was known for his showy office filled with rare historical artifacts, including, at one point, a sarcophagus. In contrast, the easygoing and down-to-earth Crane prefers to stick to business. He has moved into Rowe's old office, but his personal effects are sparse, contained to a single wall the width of his desk. Instead of a sarcophagus, a man-size replica of a nuclear fuel assembly - a bundle of long metal tubes used to store nuclear fuel pellets - fills a glass case.

Last week, Exelon's stock hit an eight-year low as analysts at Citigroup and UBS slashed their ratings for the stock, which is down about 15 percent year to date versus the utility sector as a whole, which has experienced gains of about 3 percent during the same period.

And, according to analysts, Exelon may face a greater storm ahead.

Standard & Poor's expects the company to hit its lowest point in 2014, losing $500 million for every $5 per megawatt-hour decline in power prices. If natural gas production continues to drive down prices and more environmental regulations are delayed, the company could be hit even harder, the ratings agency said.

In the meantime, investors are being paid to hold on. Crane says the company plans to continue to pay a generous $2.10 dividend even if it means putting off investments or taking on debt.

"We have many options before we get to the point of a dividend being cut," Crane said. "We've maintained a very strong balance sheet as an entity, one of the strongest in the business during the high times. So what we're able to do is give ourselves time and margin in a downturn in the economy."

Exelon's profit margins are also being hurt by wind, which has driven down electricity prices in many of Exelon's markets. Nuclear plants can't just be turned on and off at the whims of the market; it costs money to keep them running, while wind turbines cost next to nothing to operate once they're built.

Crane, who came under fire last week for his company's opposition to the extension of a production tax credit of 2.2 cents per kilowatt-hour of electricity produced by wind turbines, said states need to a take a second look at the goals they've set for renewable energy. If the goal was to reduce emissions, he said, states are well on their way with coal plants going offline or switching to less-polluting natural gas.

"The wind subsidies have been good," Crane said. "They have taken, in 20 years, a business that didn't exist and made it a pretty large-scale business. But 20 years is enough for a subsidy," he said. "We're asking that the government stop picking energy sources and let the market stabilize."

He said 30 states have mandated that renewable energy such wind and solar make up large portions of their electricity production within 15 years. Many are meeting that goal by purchasing renewable energy credits, not by building wind farms in their states. Instead, those wind farms are being built where there is ample wind and the wind companies are being paid to produce electricity even when electricity prices are so low that it otherwise wouldn't make economic sense to keep the turbines running.

Most of Exelon's nuclear plants serve the same markets, and the abundance of wind power is driving down the price Exelon receives for its electricity, which is hurting its profit margins.

Some say Exelon's cries to end the production tax credit for wind, over concerns about unfairly rewarding one form of energy over another, are hypocritical. They note that every form of energy in Exelon's portfolio has reaped the benefits of government intervention.

The company has been an advocate for tightened clean air rules, which largely affect competitors in the Midwest and Mid-Atlantic that burn coal to generate electricity. Only two years ago, the company estimated it could earn an extra $400 million a year as coal plants shut in the face of expensive environmental retrofits to meet tightened federal air pollution regulations.

In September 2011, Exelon acquired the rights to a $646 million loan, guaranteed by the Energy Department, to build a 230-megawatt solar project in Los Angeles County. Exelon has said that with the number of subsidies the project is receiving from all levels of government, it expects its construction costs to be covered.

Exelon's natural gas plants benefit from special tax deductions and policies that reward natural gas producers with access to cheap sources of capital. And Exelon's wind portfolio benefits from the same production tax credit the company is trying to end.

Since 1957, the company's nuclear plants also have benefited from a government intervention that limits its liability in the event of a nuclear disaster.

Exelon said in a statement that it now "believes the playing field should be leveled for all energy sources by phasing out all subsidies for utility-scale generation projects."

Exelon's lobbying efforts have not always gone smoothly.

In 2008, Rowe was leading a movement to tax carbon emitters. Had the legislation passed, Exelon would have added $1 billion annually to its cash flow, according to a filing by the company, whose nuclear fleet doesn't produce carbon emissions. Restrictions on carbon would have increased costs for other power producers.

The legislation never surfaced, under pressure largely from Republican legislators who said taxing carbon would lead to plant closures and wide-scale job losses.

In fact, Exelon under Rowe was so pro-nuclear that in 2008 it applied for a license to build a nuclear plant in Texas while pushing for larger government loan guarantees to finance the construction. Legislators in Washington, though, instead favored subsidies and loan guarantees for renewables.

Last week, Crane said he doesn't see more nuclear plants in the company's future.

"We cannot see in the next 20 years, under these market conditions, the reality that you would be a merchant nuclear plant," he said.

The company dropped its plan for a new reactor last month, citing cheap natural gas prices as a reason it couldn't finance the project.

Crane said that in order for a new nuclear plant to be viable in a competitive market, natural gas prices would have to rise to $14 per million British thermal units from about $3 today or carbon, which is not taxed now, would have to be taxed at about $25 per ton. He noted that the four nuclear units under construction in the U.S. are being built in regulated markets where the costs can be absorbed by ratepayers rather than investors.

"We don't see the appetite in Washington right now to address the carbon issue," he said.

Still, Crane expects the company's nuclear fleet to remain a hefty part of its portfolio.

"Nuclear is still the lowest-cost generating assets in the base load suite of generating assets," Crane said, referring to the cheap cost to run nuclear plants compared with other forms of power that aren't intermittent. "So what we could continue to do is evaluate our investments in those assets to make sure that they continue to have a positive return. The day you wake up and say, 'No, I can't get the return,' that's when you retire the unit early."

Exelon will continue to diversify its portfolio, he said, adding that the company has no plans to retreat from renewables and that a healthy mix of various technologies, including natural gas, wind and solar-powered energy, is important to maintaining a sustainable business.

The company's acquisition of Constellation Energy helped diversify a mix of generating assets with an output that was 92 percent nuclear before the merger; the mix is now more diverse, although the exact output won't be known until year-end.

That diversity was further bolstered by Exelon's acquisition prior to the merger of a new natural gas plant.

Then again, that thesis of ongoing diversification could change.

"A lot can happen in three decades," Crane said. "Economics could change. Technology could advance. Who knew shale gas was coming?"

Exelon also hopes to squeeze more profits from its regulated utilities. It is spending billions on smart meter build-outs in three states that ultimately will enable the company's utilities to reap larger returns on its lines to customers.

Currently, about half of Exelon's revenue stream comes from its three utilities: Commonwealth Edison Co., which serves 3.8 million customers in the Chicago area; Peco Energy Co., which serves 1.6 million electric customers and 494,000 natural gas customers in southeastern Pennsylvania; and Baltimore Gas and Electric, which serves more than 1.2 million electric customers and 650,000 gas customers in Baltimore and the surrounding area.

With a glut of natural gas and wind pummeling its generation business, sending profit margins down nearly 40 percent on a dollars-per-megawatt-hour basis, any upside from its regulated arm would be beneficial.

With the help of $400 million in federal grants under the 2009 American Recovery and Reinvestment Act, the company is installing smart grid technology at its Illinois, Baltimore and Pennsylvania utilities.

Exelon has said it intends to spend $250 million on smart grid technology this year, an additional $400 million in 2013 and $475 million more in 2014 across its three utilities. The company's plan calls for a steady return on those investments, paid for by ratepayers.

Crane said the investments are more than just a way to make money.

"We don't just go lay poles or lay switches or lay meters just to make money," said Crane, who has not shared the impact those investments will have on earnings.

The smart grid investments, he said, also will benefit consumers because they'll face less frequent and less extensive outages and have more control over their electricity usage. The technology will allow ComEd to pinpoint where outages have occurred. Currently, that only happens when a customer calls.

"It's not efficient taking 1940s technology and running very qualified technicians up and down the road in a very expensive truck to find out where the outage is," he said.

Exelon continues to sell noncore assets it acquired in the Constellation deal and is putting off certain investments. In August, Exelon sold five biomass-based power facilities in California it said didn't fit the company's long-term plan. Exelon also is deferring a costly upgrade of its LaSalle nuclear plant in Illinois by two years, which analysts estimate will free up $400 million through 2014.

That said, Crane expects to see a recovery in the markets.

"We believe they have to recover. If we can't produce and thrive in this marketplace with the lowest-cost generating assets, who else is going to make it? Nobody has a portfolio like us," he said.



Source: (c)2012 Chicago Tribune Distributed by Mclatchy-Tribune News Service.


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