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Hinkley Point C could be delayed to 2031 and cost up to £35bn, said EDF last night (Bloomberg). The owner of Hinkley Point C has blamed inflation, Covid and Brexit as it announced the nuclear power plant project could be delayed by a further four years, and cost £2.3bn more
That's a delay of 3.2GW of low carbon capacity that's expected to generate 20-25TWh, it potentially puts pressure on the government to guarantee a bridging mechanism for biomass -in my opinion.
It is not just the funding - its how profitable the funding is.
1. BEIS (DECC as it was known then) has already been hoodwinked one (on biomass costs) hence the lucrative >GBP115/MWh CFD for the biomass unit under CFD (compare to a current biomass cost of circa £70 that's quite a windfall- ratepayer funded).
2. So will BECCS be able to offset the end of the CFD? (March 2027 is 75 months away, this is the bulk of the profits of Drax).
3. ROCs for Biomass also expire the same date.
So the key is can BECCs be such a give away that it will replace and boost the EBITDA lost due to the end of biomass subsidies.
Then there's another snag here. Drax keeps guiding to this aspiration of a GBP50 cost of biomass by 2027.
Two things when they rolled this aspiration out UK power forwards where way above 50 the idea was 'biomass is commercially viable without subsidies' but, power prices have fallen and are likely to come under further pressure (due to new wind capacity and new interconnections and lower demand due to covid).
Secondly and this is the worst part, this is done on a very very stale and outdated assumption of USD/GBP of 1.45 (tis always buried in a footnote the last trading update its footnote 5). Whilst they may have hedged cable not sure they have hedged it post March 2027 *that would be one very expensive hedge*
So the question becomes how feasible is that 50 specially if sterling weakens further and more material still how relevant is it if forwards fall and remain below 50 anyway?
Unsubsidised biomass post 2027 may (conditional) may be viable in winter peak demand periods - quite a difference from running baseload (as one can do when subsidised to the hilt under a CFD).
All the eggs are in the BECCs basket, but again the key consideration is can the BECCs giveaway be material enough to replace all the lost subsidies?
Key to think about is this:
Consensus sell side valuations for the business sold? Circa GBP1.8bn-2bn
Price they sold it for? c. GBP 2.8bn
So that's a delta of 0.8-1bn GBP, compare that then to the EV of Centrica (market value of equity and market value of debt)
Put the above together and you can see why shares have risen 20%
The SOP's (being reversed engineered as most analysts SOPs are) were clearly undervaluing US ops.
its the problem when you anchor a process (valuation) to a screen price (up or down).
For me the key story remains something analysts haven't focused much on, the 20% stake in Octopus (a loss making UK retailer) sold to an Australian firm earlier this year (2020), Octopus being 1/10 of Centrica (account wise) the valuations was circa GBP1.2bn => the read across in terms of the value of CNA's business was material.
Several things to note, on solar and wind my point was that the costs (to build) of solar and wind keeps falling (along with that of batteries). My second point is not so much that we won't have biomass, it is that it is difficult to foresee a repeat of DECCs' (now BEIS) blunder with that GBP116/MWh biomass CFD! (no clawback for excess rents, unlike Hinkley Point C, and even then the clawback at HPC came thanks to the EU who oversaw that CFD approval). So yes you may have biomass post 2027, but not printing money like today. If you read the Drax annual report you will find that the USD Fx hedge expires in 2024, management's objective of lowering biomass costs to GBP50 is for 2027 (the year the subsidies expire). You will also read that the 50 pound target is based on 1.45 USD Fx. Finally if you assume that forwards area at say 50/60/70 it would leave you with a profitability (based on short run marginal costs) of 0, 10 or 20 (Drax calls this the 'bark spread' , like the dark spread of coal or spark spread of gas). 0, 10 or 20 is not the same as 116 (CFD revenue) minus 75 (biomass costs), one unit is thus on an almost 40GBP bark spread today. The ROC supported units get a bit less but also may face a fall in profitability even if (conditionality) management brings down biomass costs to 50.
The only way out of an earnings cliff here is for the company to do what it does best: Lobby for subsidies. Without subsidies the future post 2027 looks bleak. Again having said that there have been times when the valuation of the actual and expiring subsidised cashflows, NPV'd to today has looked attractive. By the way the future energy system is not just wind and solar, and Drax, we also have existing nuclear, new nuclear build and gas plants - its a simple yet complicated story -
There is a difference, wind and solar don't produce particulates at source (like the combustion of biomass does), these can be detrimental to human health. Then there' the amount of time to recapture the carbon released when combusting biomass. Finally recall in April 2027 the CFD and ROC taxpayer support for biomass goes away, ends. Even if reinstated I doubt the government will be so generous as in the past (current biomass CFD for Drax is circa 116GBP/MWh vs a cost of 75), and yes whilst the company plans to reduce its cost of biomass to 50GBP (to try to make it viable without subsidies) this is based on a 1.45 dollar rate -according to Drax's 2019 annual report- (so a 14% headwind there already on current spot cable) furthermore the pressures to wholesale electricity prices are deflationary (because wind and solar are technologies whose cost keeps falling) so come 2027 technology should have placed even more downward pressure on power prices. Finally one could also expect the price/cost of batteries to fall and the integration of batteries with solar/wind to have increased (addressing he issue of intermittency). One to keep an eye on as there are levels at which the NPV of the expiring (in 80 months time) subsidies vs the EV of the company may look attractive.
People can short shares not necessarily because they think they are going down.
Example, two shares A and B - If I buy A and it goes up 20% and short B and it goes up 10% I have made a 10% return
£100 => £120 on A (a £20 profit)
-£100 => -£110 on B (a £10 loss)
In this example deploying £200 of capital has resulted in a £10 gain (5% return) whilst investing in a market neutral portfolio.
Fear not even the FT and The Economist are clueless about this point (that sometimes a HF manager may knowingly short a stock that he/she knows can go up)
Reuters reports this morning that Total has bought 2.5m B2C customers and 850MW of CCGTs from Portugal's EDP for an EV of roughly 1/2bn EUR - note these are Spanish customers.
Earlier this month a 20% stake in Octopus Energy was sold for a price that -if extrapolated- made Ocotpus a 'Unicorn' (=>1bn for the whole). I believe Octopus had access to 690,000 households at the end of 2019 (vs Centrica's 7m).
Both transactions have an interesting read across for Centrica - in my view-. Worth researching (homework) and comparing valuations. Caveat: draw your own conclusions.
Link to the Reuters article:
https://www.reuters.com/article/us-edp-m-a-total/french-group-total-buys-up-some-assets-from-portugals-edp-idUSKBN22U0LM
Link to the Octopus article:
https://www.energylivenews.com/2020/05/07/australian-energy-giant-acquires-20-stake-in-octopus-energy/