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A National Meltdown

Discordant global-warming solutions may end up burning utilities.

Fortnightly Magazine - October 2006

the company’s report says.

The true test of the Northeastern carbon program will come in the next few months, as regulators and legislators review the final model set of regulations. RGGI claims that the program will increase household bills by approximately $3 to $21 annually, but one analyst, who has asked not to be identified, says that there are too many details yet to be resolved before figures can be determined.

Meanwhile, in the West

The same problems and unknowns plaguing the RGGI are vexing Schwarzenegger in California. There is much speculation as to what will happen to coal-fired power in the West. California accounts for 40 percent of the Western coal load. The California PUC has prohibited the state utilities from signing long-term contracts for electricity if the emissions exceed those of the cleanest gas-driven plants.

One might conclude that the result will be less coal-fired power plants built in the region, and more reliance on high-priced natural gas region-wide.

Environmentalist V. John White told the Herald Tribune recently that he believes the proposed sale of a stake in the coal-fired Granite Fox power station in Nevada by San Diego Gas & Electric and Sempra Generation was a result of California’s new policy, which is clearly reaching beyond borders.

Furthermore, in September, Arizona unveiled a climate-change strategy without knowing how well it might integrate with California’s.

All of these new developments raise a much bigger question: Will investors’ valuations reward or penalize utilities for having coal resources? Until now, the financial community has taken a wait-and-see attitude. But that may be changing now that these carbon programs are to have the force of law.

The Carbon Discount

It long has been known that utilities with predominantly coal-fired power would be the obvious losers in a carbon- constrained world. But with new gasification technologies and sequestration technology, and with vague carbon program details, some utility executives optimistically believe they can remain competitive under such conditions.

However, a significant divide has opened in the industry over the establishment of a national carbon program, which some say is driven by resource competition among utilities. Last April, Exelon Corp, Duke Energy Corp., PNM Resources, and Sempra Energy urged Congress to impose mandatory restrictions on carbon, while Southern Co., AEP, and the Edison Electric Institute urged a voluntary program. Whether Congress will be spurred to action due to recent developments in California is anybody’s guess, but some financial experts are starting to make grim predictions.

An executive with a top New York investment bank, who asked to remain anonymous, says that valuations may change significantly for utilities with extensive coal holdings. “Valuations are going to be a function of who pays for climate change. If ratepayers cover the higher costs to utilities from meeting tough global warming programs, utilities’ valuations will be unchanged,” he says.

But if there is no regulatory guarantee and utilities must pay more for carbon reductions, and if a program like Schwarzenegger’s goes national, he says the analysis changes dramatically.

“A back-of-the-envelope calculation, looking at the dark spread, indicates that [Earnings before