Volatile markets call for alternative financial models.
How is the financial crisis affecting the power sector? In short, in a big way. The electric power industry is second only to financial services in terms of reliance on credit markets and is second only to railroads in capital intensity. Of course, the huge fixed-cost structure of the power industry stems from the need to invest billions of dollars each year in generation, transmission, and distribution assets.
For the past decade, the power industry enjoyed broad access to plentiful and cheap capital from an assortment of investors, including banks, mutual funds, pension funds, insurance companies, hedge funds, and credit default obligations. But the credit crisis has virtually dried up capital or made it extremely expensive, especially for the merchant-power sector. Even after the current crisis resolves, structural changes on Wall Street that require lower debt levels (de-leveraging) and maintenance of tighter capital costs likely will permanently increase the yield spreads and debt costs for the industry.
Should the power industry adapt its approach to capital markets in this environment? The answer, of course, is yes.