The pandemic has sharply focused the importance of certain sectors to our communities. Health and the supporting medical sciences are at the centre of our struggle to protect citizens. In a world of lock-down the communications sector has allowed many to work remotely, to remain in touch with friends and relatives and to ease isolation. Public services and postmen, supermarkets and surgeries have bravely soldiered on.
But almost invisible behind them, and taken for granted, are the utilities who have maintained their services, without which hospitals, home working and much else would simply cease to function.
However, utilities are not immune from the impacts of the coronavirus. Investors need to ask how the pandemic has altered the landscape for the electricity sector. What opportunities will there now be in the UK power sector post COVID-19?
The electricity sector remains at the forefront of the Government’s policy response to climate change. It needs to be fully decarbonised over the next 30 years to meet the net-zero target. But in a world of weaker economies, less electricity demand, cheaper fossil fuels and lower power prices, there will be market failures, winners and losers. Government will want to encourage investment in clean generation but is likely to be diverted by multiple priorities and hamstrung by weak public finances and huge indebtedness.
Nonetheless, there will be opportunities for those that look beyond the immediate future. On the supply side, some technologies will continue to find favour while others will retreat into the background. There are three broad groups: the more mature low-carbon technologies; those that rely on fossil fuels; and newer technologies that have yet to be deployed.
Those focused on renewables will continue to find opportunities. The Government has recently indicated that onshore wind and solar are back in favour; many of the excellent projects being developed before the Government signalled that it would not support further deployment of onshore wind around five years ago, will now be revisited and may participate in forthcoming auctions. But our planning regime will continue to be a major obstacle, particularly with weaker power prices.
The fossil sector will continue to fall away; coal is a pariah in the west and while existing gas generation will be needed to provide system attributes and peak response during the transition period, new gas power station investment at scale will be deterred for fear of stranded assets.
It is in everybody’s interest - government, the nuclear industry, and consumers - that the existing nuclear fleet continue to operate for as long as possible; the UK needs the low-carbon generation. However, plant lives are finite and power prices will likely remain low for the foreseeable future. Government may well have to consider ways to avoid elective closures where safe operation is still feasible.
New nuclear build, involving large or small reactors, beyond those that already have contracts and are under construction, will be problematic. There will need to be compelling reasons for the Government to encourage such investment; climate change provides part of that reason, but the industry will have to bring down its costs significantly, and Government will have to provide appropriate incentives or intervene. Persistent low interest rates make Government borrowing for infrastructure much cheaper, so direct involvement in the funding of such capital-intensive projects is potentially attractive and possible.
The emerging technologies - hydrogen, and gas or biomass coupled with Carbon Capture and Storage (CCS) - are also in a difficult situation in the post-COVID world. No solutions are easy or cheap.
Hydrogen may be clean but producing it cheaply as a fuel is not. Making hydrogen requires electrolysis (which needs low-carbon power from nuclear or renewables to be green) or splitting natural gas (blue hydrogen) and disposing of the carbon dioxide waste. That drives a need for CCS, giving a route for the UK gas sector to become zero carbon. If Government believes it is important to maintain a UK gas industry for strategic and employment reasons, incentivising CCS may be one way of achieving this.
The argument for biomass fitted with CCS is that it delivers negative carbon emissions over the very long-term but for many the use of biomass for power generation is not viewed as sustainable.
Both the wholesale and retail electricity sectors are under pressure for different reasons. The pandemic has caused the demand for fossil fuels to plummet. This has led to very low prices; in the pre-COVID period this would have made fossil generation more competitive. But demand for electricity is now lower than before, and renewable generation is subsidised and thus incentivised to run if available; this makes it difficult for the traditional technologies like fossil and nuclear to compete on a level-playing field, despite the latter benefitting from a carbon price on fossil generation. The wholesale electricity market in the post-COVID world will continue to be difficult for participants until such time as the economy recovers and demand follows suit, with some older plants finally closed.
Retail prices are relatively stable in comparison to wholesale prices because the price paid by consumers has several components and some of these see little change: the cost of energy and its transmission and distribution, unbilled volumes due to system losses, environmental and social obligation costs, supplier operating costs, and lastly, the supplier’s profit; in the UK there is also a cap on the price charged to some customers. This is a difficult market for suppliers and following a period in which new entrants flooded into the market, competition and wholesale price volatility has led to consolidation with some suppliers, small and large, exiting the market. This will likely continue; Government may well have to provide some relief to maintain the liberalised markets it has so painstakingly encouraged.
The coronavirus emergency has stress-tested much of the economy; many organisations have proved resilient while others may not survive. The economy will be in the doldrums for a while, perhaps years, but electricity demand will recover as the economy recovers, and to service new needs: the electrification of domestic heat and transport and to support the emerging digital world.
The pandemic has reinforced the critical importance of the electricity sector, alongside health and communications and in quietly maintaining secure supply; it has enhanced its reputation. Its future is assured and opportunities for investors abundant.
At Opportuneo , we would be delighted to help you to respond to the challenges of the post-COVID era. Please contact us at info@opportuneo.org if you would like to discuss this .
Chris Anastasi and Olivier Carret - May 2020