When you buy something at a discounted price, especially from a seller who understands the asset well, most of us would accept there will be strings attached.
Such common sense should apply to the Czech energy company, EPH, which last year acquired deeply discounted, highly polluting lignite assets from Vattenfall, the Swedish state-owned utility, but has now joined a legal action protesting against newly imposed pollution limits.
Last year, Vattenfall “sold” these lignite assets – based in Germany’s Lausitz region – to EPH, and an obscure Czech company called PPF Investments.
In the sale, Vattenfall gave away the power plants and lignite mines for free, plus some €1 billion in cash, and about €600 million to accrue under a subsidy scheme, called a lignite “standby capacity reserve”. At IEEFA, we calculated that the mines and power plants were worth more than €3 billion, even if they were all closed by 2030, something EPH will certainly hope to avoid.
Set against these €5 billion or so of assets, the lignite power plants and mines had liabilities worth €1.8 billion, chiefly an obligation to clean up the lignite mines and return them to productive use over time.
EPH had therefore acquired valuable, cash-generative assets, alongside highly manageable liabilities.
As it turns out, EPH did even better. By good luck, it acquired the generation assets without power hedges, and then saw an immediate rapid increase in German power prices which it could therefore take full advantage of (hedges would have capped its sale price).
At IEEFA, we calculated that the Lausitz lignite power plants and mines had average fixed and variable generation costs of about €24/MWh. We note that German year-ahead baseload power prices have risen from €27/MWh on the day of the sale, on Sept 30 2016, to €36 today (see chart below). Assuming an average power price of €30/MWh, and operation of the 7,595 megawatts of power plants at an 80% capacity factor, we can estimate very roughly that EPH has generated cash of €370 million over the past 14 months.
CHART. German year-ahead wholesale baseload power prices, €/MWh, from day of Vattenfall-EPH lignite deal to present day
So much for the benefits of a discounted price. What about the strings?
Vattenfall spelled these out clearly, at the time of the sale.
Vattenfall Chairman Lars Norstrom stated: “The financial reasons (for selling) are obvious, given our views on current and expected price development and market conditions. Divestment is better than any hold scenario. We see some additional (future) regulatory and financial risks, such as additional costs for re-cultivation; additional cost for restructuring; additional, maybe costly, negotiations with different stakeholders in Germany; and an increasing scepticism among financial institutions regarding CO2-heavy industries.”
In other words, Vattenfall sold partly for strategic reasons, because it did not want to hold high-carbon assets, and partly because it expected further, costly, regulatory controls, given that lignite generation is a major source of emissions which contribute to air pollution and climate change.
Sure enough, less than one year on, in April 2017, EU countries voted by a narrow majority to introduce new limits on SOX and NOX emissions, to be implemented from 2021.
As IEEFA reported in a study published in May this year, emissions at the six units of EPH’s newly acquired Jänschwalde lignite power plant all exceeded the new NOX limits, implying some extra costs, to upgrade the units.
Responding to IEEFA’s report, EPH rejected the idea that Jänschwalde would be impacted, saying the new pollution controls were subject to “political discretion”.
In the event, Germany has not gone to court to oppose them. And so it emerged this week that EPH would itself join a group legal action against the new limits, on the grounds that the Jänschwalde power plant could only meet them using technologies “legally not covered by the EU decision”.
Given that EPH acquired the assets at a knock-down price, and by sheer good fortune (rising seaborne thermal coal and German wholesale power prices) has since trousered a windfall, can it really now be surprised to find that it will have to invest to upgrade, or close, this ageing asset, built in the 1980s?
It may be easier to argue that state compensation for the retirement of two of EPH’s 13 newly acquired lignite units was excessive, under Germany’s “standby capacity reserve”, in what might be a lesson for future plans for a managed coal phaseout.
EPH has become a specialist in acquiring distressed coal assets, thumbing its nose at the notion that coal is on the way out. The launch on Thursday of a new “Powering past coal coalition” shows why these power plants are distressed. The coalition of 25 countries and regions committed to “united action to accelerate clean growth and climate protection through the rapid phase-out of traditional coal power”. Countries signing up included – in Europe alone – Austria, Belgium, Canada, Denmark, Finland, France, Italy, the Netherlands, Portugal and the United Kingdom. EPH will hope Germany doesn’t join them.