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New European air pollution limits, known as BREF, offer progressive utilities a strategic opportunity to break with their coal generation legacy, and move forward with plans to build a renewable-dominated electricity delivery system, shows an IEEFA study we published last week.
BREF stands for “Best Available Techniques (BAT) reference”, and refers to new limits on air pollutant emissions from industrial installations including power plants. The new limits were agreed in April this year, for implementation from 2021.
Our IEEFA study focused on one European utility, Italy-based Enel, and in particular its Spanish subsidiary, Endesa. We focused on emissions of the pollutants SOX and NOX, both of which are implicated in serious human health problems, including lung and heart disease.
We found that Endesa’s coal fleet has much higher SOX and NOX emissions than Enel’s power plants in Italy.
The blue bubbles in the chart below represent Enel’s Italian power plants, and the orange and red bubbles represent Endesa’s in Spain. The size of the bubble relates to the emissions rate.
Endesa’s power plants are all above the BREF limits (shown in green) and Enel’s Italian power plants are all below.
In this chart, the vertical axis represents flue gas volume (cubic metres), and the horizontal axis NOX emissions in milligrams per cubic metre of flue gas. The BREF upper limit is 175 mg/Nm3, with a lower limit of 15o mg applicable to Endesa’s power plants.
Source: IEEFA interpretation of EEA emissions data
Endesa plans to invest €400 million to clean up three of these power plants, shown in orange in the chart above: Alcudia, AS Pontes and Litoral, to comply with BREF and the Industrial Emissions Directive.
We question the sense in this investment, for three reasons.
First, Endesa’s strategy of investing in old coal power plants does not fit with its parent, Enel Group, whose focus is investment in renewables, digitalisation and customer services.
Second, there is a trend emerging towards coal phaseout in Europe. Multiple countries have announced such ambition: Britain has announced a firm coal power phaseout in 2025, Portugal in 2030, the Netherlands recently also in 2030, and most recently of all, Italy has proposed a phaseout in 2025/2030.
These dates fit with research by the International Energy Agency, which finds that to meet the aspiration of the Paris Agreement on climate change, to limit global average warming to well below 2 degrees Celsius, coal generation will have to cease in Europe by 2030 (in the IEA’s “Beyond 2C” scenario, in the chart below).
Source: IEA’s Energy Technology Perspectives Report 2017
What does coal phaseout have to do with environmental upgrades at coal power plants? Clearly, if these power plants have to shut sooner than expected, then the owner will have less time to make a return on investment, implying a stranded asset risk.
Another factor in stranded asset risk is the emissions regulation itself. The latest BREF limits are part of continuing rounds of tougher standards, with the next round due in the second half of the 2020s. So environmental upgrades now may still fall short in just a few years’ time.
The impact of this constant tightening of limits on actual coal power emissions is shown in the figure below, which charts SOX emissions rates (in mg/Nm3) over time, across all European coal power plants above 300MW thermal capacity. The chart shows that power plants are having constantly to cut emissions to stay compliant with evolving emissions standards.
Source: IEEFA interpretation of EEA emissions data
Third, we can contrast the return on investment in coal versus renewables generation. For example, Endesa itself expects “low double-digit returns” on its successful bid this year to build onshore wind power in Spain. And the utility reported that renewables made a net positive contribution to its bottom line in the first half of this year.
We can contrast that with the performance of its fossil fuel generation. There are plenty of examples from Endesa’s most recent financial releases. For example, in the first half of the year, fuel costs increased by 70% year on year, compared with a 50% rise in electricity prices. As a result, Endesa’s profits fell the more coal and gas it burned to generate power. In the case of gas and coal generation, we also have to consider carbon costs. Endesa’s costs to cover its carbon emissions increased by €28 million in Q1-Q3 2017 vs. the same period in 2016, because of the increased dispatch of its thermal fleet. As a result, in the first nine months of 2017, Endesa’s net income fell by 17% to €1,085 million – a drop of €220 million versus the same period in 2016. A breakdown of Endesa’s EBITDA for the first three quarters of 2017 shows that the contribution from mainland Spain fell -31% year on year, despite a positive net contribution to gross income from Endesa’s Green Power division (EGPE). The overall decrease in net electricity margin is – again – attributable to increased variable costs due to more frequent thermal dispatch.
We understand the other side of the argument: that Endesa wants to upgrade its coal plants to retain electricity supply market share. However, in view of the above we argue that it should reconsider these investments, and instead focus on growing the more future-looking side of its business.