How investors can take part in the shift toward long-term value creation.
Hello and welcome to the Breckinridge podcast. My name is Adam Stern. I am the co-head of research here at Breckinridge and I'm here with Chris Woodward, longtime municipal utility analyst, and today we want to talk about California's SB 100, new legislation there that impacts utilities. Chris kick us off, so what is SB 100, what does it do?
Sure, thanks Adam. The SB 100 bill, it is kind of a landmark. So SB 100 was signed by the governor. There was some question as to whether it would go through and it did, and now we are in this place where not just California, but maybe other states are going to have to more rapidly make some changes to their electric mix. What is SB 100? It is a mandate to be 60% renewable by 2030, which is 10% higher than where it was, but the interesting thing about it was it put a new mile marker out on 2045 where the state will do something different, and that's called being carbon-free. So they going to try and eliminate carbon dioxide from their electric mix. So the two goals, just to give you, I am going to give you a little backdrop on it. For everybody to appreciate this, California has already achieved 25%, give or take, renewable energy in its electric mix. And it has reduced its fossil fuel content down to about 40%. It is now mostly natural gas and it was about 60% in 2012, and that gives us an idea of where the ball is on the field and maybe some insight about where we are going with what they are going to have to do from here.
Yeah, that is interesting. So the bill, just so everyone understands it, so it is carbon-free by 2030 which is just 12 years…
Renewable by 2030.
Sorry, it is the renewable in 2030 which is 12 years away, but carbon-free by 2045. Do you want to sort of unpack that for people so they understand?
As easy as I can make it, you have renewables which are a subset of carbon-free resources. All renewables are regarded as carbon-free. I will not get into too lengthy a definition, but if you think of it as a pizza that is sliced up into a number of ways, you would have wind and solar as a slice, you would have other things like geothermal, biomass and so forth, so you would still have your natural gas at this point in time and a limited amount of coal power that is being imported by the state, but to grow from renewables to the carbon-free, which I guess is three phases, right? You have the stop point of what they call renewables and then you have these three other elements that might make it achievable by 2045. And those are nuclear energy, the use of batteries to possibly firm up additional renewable resources, and that, I should go off a little bit and say that is to address intermittency, everybody is aware the wind is not always blowing, the sun is not always shining, and then the last thing is a technology that is still pretty new but might be possible by that point called carbon capture, and that is taking the CO2 from a fossil emitting resource and trying to put it back in the ground.
Right, so hundred percent carbon-free by 2045 could mean all renewables, wind, solar etc., or it could mean wind, solar, some carbon capture, some nuclear, whatever.
Exactly. Yeah, quickly, I think Moody’s has regarded it as a $100 billion expense if you did it all with batteries. I don't think that is necessarily, you know, it is just not a one size fits all approach for any given resources to lean on, but yes, that is how, among those three resources and potentially growth beyond 60% renewables, is how they get there.
So for those listening out there, how does Cal compare to these other states across the country in terms of the renewables, trying to get to 60% in 12 years, they are already at 50%, I think you mentioned in terms of renewables.
Twenty-five percent is about where they are.
Twenty-five percent, right.
The 50% was where they already are in terms of the regulations.
In terms of the regulation, sorry. Right. So they are at 25% and they are going to try to get to 60%. I mean where, how do they compare with everybody else?
Aggressive, in one word, I do not want to get too far on the islands because they make electricity using very expensive diesel fuel, that is, like, 1% of the mix for the continental United States. So what is big about California going to one hundred percent is that it is going to imply higher rates of kilowatt hours. So they are going to have to charge for all the new resources that are going to need to come on-line. So what we are in, now that this bill has been signed, is a phase that is after a phase of renewable portfolio standards, which 30 states or 29 states technically have, and those were static for the most part. We saw Ohio delay its efficiencies, and a couple of other hiccups but the significance of this podcast is to address how four states, mostly neighbors of California entertaining 50% renewables or higher, Arizona is one of them. Arizona even kicked around an 80% carbon-free mandate, and the other four states I was going to bring up are states that don't even have renewable standards, the states of north of the panhandle, you have Iowa, Kansas, Oklahoma, and South Dakota. These are all states that are all north of 30… they are in the 30 to 37% wind generation, so what we are combatting in the utility space is also…
Yes, without, and this is a very interesting thing. You can almost draw a line to Canada and find such heavy penetration of renewables. So it is a changing resource mix and that is something that we want to clue everybody into that has become important.
So if you are in the Midwest, we have got these handful of states and regardless of that, they lack a renewable energy mandate, but wind power is just so cheap, they are just going out and procuring a lot of wind power and they are at a 30% or so renewable mix, whether it is South Dakota or Oklahoma. And then you have got these other states which are actually putting pedal to the metal and saying, “We want to reduce our carbon footprint and we are going to have a mandate”, and you have got to go out and buy some of this wind power or solar power, or whatever it is that is carbon-free and/or renewable and we are seeing states like Arizona and Nevada and New York ramp that up. So Cal, in that respect, is a harbinger of things to come.
Right, and I would don't want to stretch things out and test the content too much here, but when you mention New York, there is also this changeover in what the priority is and how we adopt these standards, whether nuclear energy is going to be leaned on as clean more than natural gas. Very interesting to see California do this piece of legislation because they are the ones who inform policy federally the most, and the clean power plant, for instance, subordinated nuclear energy to natural gas. So it is interesting to see, when you mentioned the state of New York, they have a clean energy standard, they have nuclear getting a subsidy that is just another cocktail that that each state is choosing and we all need to be aware of as we see whether assets are going to be stranded in one state or another.
Stranded assets, is that something you worry about? I mean when we look at these utilities these days, do you expect sort of more of this over-purchase of power that then becomes underutilized or…
That is one end of it, Adam, I think as we look at resources, we are concerned about having the right balance that is right for your state and its choices that the have been made and even without policy you always want to try and be competitive in the price you can offer electricity to your rate base. It is very important to pay your bonds back by having willing participants, and this is important. Where you are going with South Carolina and Georgia, we have the nuclear reactors which are over budget and going to flow-through rates that we are concerned about. Where we would have concern with SB 100 would be if a utility, I think this duality that we are trying to paint here is between not having enough or having too much. Having not enough, to answer that when a utility needs to go out and buy renewable power because it is not in compliance with California's mandate, or it tries in some other state to be 100% renewable, what have you, they are going to need to either go on, they can buy power on an hourly basis or they can buy power, what we prefer in the municipal market, which would be on a contracted basis at most. Where you want to take long-term commitments and formulate what it is that keeps lights on. You do not want to end up with too many assets on the one hand, like we were saying earlier, but you do not want to end up in the situation where you have not gotten committed resources so that you can meet a state mandate. So that is really, I think the direction we are going here is where does this hit the credit analysis, right? And we think of two things in municipal finance an awful lot of time, the debt service coverage, and its liquidity. You do not want to burn through your liquidity too fast by having to go out and buy power.
Because you buy power on the market and then you have an issue where the price spike could just come any day or any hour and you have to drain through a lot of resources to buy that, and it is uncertain.
Exactly, so there is a level of transparency that is also not always there in these contracts and I will not go into the gory details about it, but we need to make sure that utilities have a balanced approach to meeting whatever mandates that they have, And we also have to be concerned that states away from California, I am not too worried about California meeting the disposition its rate base to go renewable, they seem really aggressive, right? But there are other states, there are other corporate customers, who want more renewable energy, and I do not want to leave out of the podcast that there is also a two-ended candle at which you don't want to take risks with offering enough renewable resources. So it is in finding the sweet spot that has a willing ratepayer and that complies with regulation and that has, like we are talking about, this contract structure, that we hope the utilities and we expect as we do the analysis, the utilities we invest in will be okay.
Right. So for those out there, we have a number of utility holdings, we monitor them all the time and these are emerging issues that we expect will be with us for quite some time. We hope you found this informative and please listen again.
DISCLAIMER: The opinions and views expressed are those of Breckinridge Capital Advisors, Inc. They are current as of the date(s) indicated but are subject to change without notice. Any estimates, targets, and projections are based on Breckinridge research, analysis and assumptions. No assurances can be made that any such estimate, target or projection will be accurate; actual results may differ substantially.
Nothing contained herein should be construed or relied upon as financial, legal or tax advice. All investments involve risks, including the loss of principal. An investor should consult with their financial professional before making any investment decisions.
Some information has been taken directly from unaffiliated third party sources. Breckinridge believes such information is reliable, but does not guarantee its accuracy or completeness.
Any specific securities mentioned are for illustrative and example only. They do not necessarily represent actual investments in any client portfolio.
BLOOMBERG® is a trademark and service mark of Bloomberg Finance L.P. and its affiliates (collectively “Bloomberg”). BARCLAYS® is a trademark and service mark of Barclays Bank Plc (collectively with its affiliates, “Barclays”), used under license. Bloomberg or Bloomberg’s licensors, including Barclays, own all proprietary rights in the Bloomberg Barclays Indices.
Neither Bloomberg nor Barclays approves or endorses this material, or guarantees the accuracy or completeness of any information herein, or makes any warranty, express or implied, as to the results to be obtained therefrom and, to the maximum extent allowed by law, neither shall have any liability or responsibility for injury or damages arising in connection therewith.