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Preparing for a Nuclear Exchange

Three ways to value nuclear power plants for buyers and sellers.
Fortnightly Magazine - May 2004

Thus, ownership of several nuclear plants can reduce this risk somewhat, as companies can use the expertise of their engineering staff to operate the plants more efficiently. One element of risk is the high operating cost of a plant during an outage, even one for scheduled maintenance. When a nuclear plant is not generating electricity, nuclear energy still is being consumed. This is because, unlike other types of plants that stop consuming fuel during an outage, a nuclear reaction cannot be stopped once it starts.

Catastrophic accident is also a risk incurred by owners of nuclear plants. Such an event could shut down a plant permanently, because the costs to rectify the problem, repair the damage, and pass the resulting scrutiny of the NRC likely would be prohibitive.

Additionally, nuclear plants are viewed unfavorably by some sectors of the public, and resulting social pressure could also force an operating plant to cease operation.

The Income Approach

The next indicator of value is based on future income realizations. The income approach is the tool most frequently used by buyers and sellers in the marketplace. The primary difficulty with the income approach is forecasting the future. Therefore, buyers and sellers use a matrix of income approaches to test their forecasts in as many different ways as possible, providing information regarding a range of values for use in negotiating sessions.

Items to be forecast in the income approach include electricity production, prices of electricity, energy costs (enriched uranium), operating expenses, future capital expenditures and sustaining capital requirements, additions to the decommissioning trust fund, and the capitalization or discount rate. Forecasts for prices of electricity are frequently available from various published sources, but the primary source for appraisers or consultants is the Energy Information Administration (EIA), part of the Department of Energy (DOE).

Many consultants forecast electricity prices on an hourly basis, based on computer models and supply and demand relationships. Past prices are frequently available on the Internet from the independent system operator Web sites. Electricity production and capacity factors can be forecast by reviewing past performance and the future budget for the plant. Operating expenses can be projected by reviewing operations over the last three to five years. Future capital expenditures are commonly budgeted by plant management for three-, five- or 10-year periods.

Beyond the budget, 2 to 3 percent of the replacement cost is necessary for sustaining capital, which keeps the plant in safe operating condition. It is especially important to review the decommission trust fund and also the decommissioning cost forecast. It is most common to develop a discounted cash flow, rather than just capitalizing one year. The industry typically is not stable enough to forecast a one-year normalized income stream. Participants in the market develop after-tax, debt-free cash flow streams that reflect the income level received by equity and debt holders. Depreciation also is calculated using modified accelerated cost recovery system or MACRS tables to reflect the buyer's new tax basis.

The discount rate to be applied to the after-tax, debt-free cash flow stream is developed utilizing a weighted average cost