RE-BRANDING NUCLEAR POWER -

In an effort to revitalize the nuclear power industry, the Nuclear Regulatory Commission (NRC) has changed its definition of “construction.”  A decade ago such a policy change would have seemed unthinkable but, today, with mounting concerns over global warming, the change seems less controversial.   The NRC has yielded to industry demands that a reduction in The Commission’s oversight during the initial work at reactor sites was necessary to spark new construction.  Thus, what appears to be a simple definition change could result in significant capital expenditures for cooling towers and other “less critical” construction, while the permitting process is underway.  The new guidelines are expected to shave one year off the normal eight to ten year construction cycle. The move appears to have been a success. NRG, perhaps, as a sign of support immediately filed an application to build two units at its existing nuclear plant site in Texas.

Committed or Not?

NRG’s commitment has already been called into question as it seeks partners to fund as much as 60% of the facility.  Constellation Energy (CPS) is also looking for participants in its endeavor to build the next Calvert Cliffs’ unit.  Could both NRG and CPS be seeking a partner as a prerequisite before seriously moving forward – neither company’s stock rallied on the announcement, although the stocks of NRG and CPS have had a precipitous run up over the past three years.

Below is a typical Pressurized Water Reactor:

An alternative reactor type is the Boiling Water type, which is illustrated in the diagram below:

Not everyone, however, is pleased. The Sierra Club has already voiced its opposition to the concurrent licensing during construction of new nuclear reactors.  Investors can expect environmental groups to be critical of the technology based largely on concerns over government oversight and the disposal of spent nuclear fuel.  We doubt how effective environmental groups can be in the current political atmosphere such as the Sierra Club and Greenpeace (just to mention 2 groups having high public profiles). These groups simply do not appear to have the strong political or social constituencies which they did during the 1980’s and 1990’s.  Environmentalist’s will have to endure other “definition” changes, beyond construction for example, depreciable plant lives as well as spent fuel transportation, containment and ultimate disposal (...can environmental groups accept nuclear as a clean and viable alternative energy source, we can only wonder?).

Is Nuclear Green?  (...every garden has it's weeds!)

Electricity produced by nuclear power has managed to fall under the heading of green energy and, as a result, may have gained renewed public acceptance. Currently, nuclear provides 20% of the electricity produced in the United States (U.S.) and coal 50%. Since nuclear as not been an option for nearly 30 years, electric utilities have had to rely on coal and fossil fuels as the primary source of “new” generation.

Is It Prudent To Invest In Technology Spanning More Than One Political Cycle?

President George Bush has stated that this administration, with 14 remaining months in office wants several new nuclear plants online by 2015 – allowing for a 7 year construction cycle (...a rule of thumb I learned as an apprentice utility analyst was to be concerned about a project which would be under construction or not completed before the end of a political cycle – whether at the Federal or State level).  The NRC recently noted that it expects to receive 21 applications for 32 new reactors by 2009: 5 applications in 2007 for 9 units, 14 applications next year for 20 units and 2 applications in 2009 for 3 units.  Note, a curious observation – the number of applications spikes up in 2008.  Perhaps the sharp increase in applications reflects companies waiting for “the next” administration.   Any change in an administrative rule is not without its risk since breaking ground today would expose a utility to the next Presidential agenda.  Those utilities filing applications in 2007 and 2008 will face a large measure of political risk (...I once work for company where the Chairman refused to cover the electric utility industry due to the unpredictable and vicarious nature of politicians).

A Sign of Support?

The NRC’s resolve will soon be tested when Constellation Energy and NRG Inc. file applications for three new nuclear units. Both utilities plan to add units at existing nuclear reactor sites, Calvert Cliffs and South Texas Nuclear Station, respectively.  The NRC has agreed to relax the usual, required public hearings and permitting process prior to the commencement of physical construction at a nuclear facility.  Electric utilities have long argued that the protracted and often contentious permitting process has been the greatest obstacle to building a new plant.  No applications to construct a nuclear facility have been filed since the 1970’s, however, the NRC recently announced that it expects 21 utilities to file a total of 32 applications between 2007 and 2009. 

Expected New Nuclear Plant Applications: 2007 - 2009

All data as reported by the NRC: October 1, 2007                      

 2007 EXPECTED NEW NUCLEAR POWER APPLICATIONS

§      Expected Application:  5

§      Total Number of Units:  9

2008 EXPECTED NEW NUCLEAR POWER APPLICATIONS

§      Expected Application:  14

§      Total Number of Units:  20

2009 EXPECTED NEW NUCLEAR POWER APPLICATIONS

§      Expected Application:  2

§      Total Number of Units:  3

Is The Risk Profile Really Lower?

No.  We do not share the industry’s view that licensing was the “primary” obstacle to new construction. Rather we feel the overriding prohibition rested in the capital markets. Investors would not provide the funding needed to build a new nuclear reactor, licensing was of secondary importance.  Since the Three Mile Island nuclear accident in 1979, utilities were hard pressed to convince the capital markets of the desirability and deliverability of a “commercially operable” plant.  Deferring “intervention” of opponents until physical activity is underway is not particularly a “positive.”  The Shoreham nuclear plant built by Long Island Lighting Company (LILCO), is a case in point. Although the plant underwent low power testing (i.e. up to 5% of capacity), the refusal of New York Governor Mario Cuomo to participate in the Emergency Evacuation Planning prevented the plant from receiving a full power operating license.  Shoreham was physically complete in 1984 and “hot” (i.e. radioactive), yet the NRC could not issue a full power license, thereby dooming the $6 billion facility and forcing nearly forcing LILCO into bankruptcy.  After several years of litigation, in 1989 LILCO finally agreed not to operate the plant and in a settlement with New York State, the Long Island Power Authority (LIPA) was created to essentially buy-out LILCO and re-power Shoreham with natural gas. 

If investors have learned anything from the LILCO experience as well as that of other utilities, nuclear power is especially prone to changing political sentiment (...those who don’t read history are destined to relive it).  In our opinion, the controversial nature (i.e. risks) associated with the technology have not changed. If we have learned anything about nuclear power it is that the slightest change in circumstances, especially political sentiment can have a precipitous destabilizing effect.

After the Three Mile Island incident, the NRC halted work on all projects including those plants under construction and restrictions on units “in service.”  Overnight, the capital markets went from embracing nuclear power to shunning them Nuclear based utilities remained out of favor until the deregulation movement was in full swing. Beginning in 2001-2002 many nuclear based companies were once again in favor and the prices of their stocks began a major rebound.

Every Thing Old is New Again.

In a competitive power market nuclear power plants could produce cheap energy relative to the output from fossil fueled facilities.  The economic reversal in nuclear power reflected the fact that many of the plants were sold by original owners at book value and or at discounts to book value, with a number of utilities willing to write off their losses.   By lowering the capital charge associated with nuclear output relative to other power sources, nuclear generation became a highly attractive asset to merchant power producers.  The 2005 National Energy Act provided financial incentives’ for those companies willing to undertake a new nuclear project, included debt guarantees, federal tax credits and resolution of the decommissioning and spent fuel problems, thus, galvanizing the rebirth of nuclear power.  Nuclear power had once again regained its primary advantage, namely important fuel cost displacement relative to the cost of capital and other fuels.

A Change in Policy, Attitude and Technology

Assuming no active change in energy policy, the estimated fuel type for electric generation in 2020 does not illustrate a meaningful change in the nation’s fuel mix: by 2020, 18% of electric production is expected to be from Petroleum and Petroleum related products (gas & oil), versus a combined 17% for these fuels in 2005; 50.0% for coal as compared to 50.5% in 2005; Hydroelectric 7.0% as compared to 6.3% in 2005; Other/Alternative fuels comprising 6.1% versus 6.0% in 2005; and nuclear output falls to 18.5% from the 2005 20% figure.  For a complete breakdown of the fuels used to generate electricity in 2005 (the latest available “official” statistics) are reflected in the following Chart:

Can Consumers Tolerate “Merchant Power” and Green Energy?

Deregulation of the electric power industry, therefore, had a profound impact on the coal industry as well – since coal was historically accepted as the fuel of choice in the absence of other energy sources for the production of electricity. Coal today, remains the primary fuel for 50.5% of power generation.  With open competition and electric industry unbundling, most U.S. electricity generators function as "merchant producers”, much like oil and gas producers.  Accordingly, merchant power producers will be drawn to the least expensive source of fuel. Unlike traditional utilities, merchant companies have no guaranteed market for their output and are in constant competition for sales.  In order to remain price competitive, merchant power providers will be pressured to cut costs wherever possible, especially managing fuel risk and power sales.

The NRC’s determination will be tested with the filings of construction permits at the Calvert Cliffs Station by Constellation Energy (CPS) and at the South Texas Nuclear Station by NRG Inc. (NRG).  With the NRC’s new view toward “construction” the agency effectively agreed to relax the usual, required public hearings and permitting process prior the commencement of physical construction.  Electric utilities have long argued that the protracted, and often contentious permitting process, has been the greatest obstacle to building a new reactor, hence, no new plant applications have been filed since the 1970’s. 

Is The Nuclear Risk Profile Really Lower?

We do not share the industry’s view that licensing was the “primary” obstacle to new construction – the harsh reality is that the capital markets would not underwrite a nuclear project.  In the aftermath of the Three Mile Island nuclear accident in 1979, utilities were hard pressed to convince the capital markets of the desirability and deliverability of a “commercially operable” nuclear plant.  Deferring “intervention” of opposition until physical activity is well underway is not a particular a “positive.” – LILCO’s Shoreham nuclear plant is a prime example that physical completion does not necessarily guarantee commercial operation.  History has demonstrated that nuclear power is prone to changing politics (...those who don’t read history are destined to relive it).  In our opinion, the controversial nature (i.e. risks) associated with the technology have not changed – the slightest change in circumstances, especially political can have a precipitous destabilizing effect.

The Role of Alternative and Green Energy in Electricity Production

We do not believe that nuclear energy qualifies as a Green Alternative. In the construction of our Green Energy Index^TM, nuclear power is specifically excluded.  Instead we have limited eligibility in the Green Energy Index^TM to those companies engaged in:

§      Air Pollution Control Devices,

§      Biodiesel & Biofuels,

§      Biomass & Agricultural Waste,

§      Carbon Sequestration,

§      Coal Gasification,

§      Conservation (Demand Side Management plus other energy savings approaches),

§      Fuels Cells & High Capacity Energy Storage,

§      Geothermal,

§      Photovoltaics,

§      Solar Energy,

§      Special Services: Chemical Process & Other Specialized Technology,

§      Trading Carbon Emission Credits,

§      Tidal Power and

§      Wind.

In many instances, some of these Green approaches have yet to be fully developed, with their commercial viability still in question.  In the short run we expect the U.S. to embrace Carbon Emission Credit Trading, Demand Side Management (DSM) and Solar as the best options that are immediately available.  Forecasts of alternative uses by 2020, expanding the use of Alternatives from the current 6.0% level to the desired 20% goal will require serious commitments by legislators and industry.  It is obvious that the current administration believes that nuclear is “an Alternative” energy source. Advancing the use of nuclear power to displace fossil fuels requires a large leap of faith by investors, corporations, lawmakers and consumers.

One of the greatest challenges facing any Alternative or Green energy initiative will be that of raising capital.  The markets must be convinced that these companies are more than “socially responsible investments” and can provide competitive rates of return.  In order to measure the performance of environmentally friendly energy producers, we have developed The Green Energy Index^TM.  In upcoming weeks we will officially be releasing our Index to the public, it is intended to provide a benchmark upon which to evaluate the performance of Green Energy stocks. n