Friday, February 08, 2013

European Utility Between Rock and Hard Place

Dusseldorf-bassed E.On SE (EONGY:  OTC/PK, EOAN: DE) is about as integrated as any utility on the planet.  Name an energy source from coal to nuclear to hydro, biofuel to solar and E.On has a grid-connected plant in operation.  Besides its core business of electricity generation, E.On has a foothold in gas production, storage, transport and supply.   It is also trying to become one of the ‘cleanest’ power generators by joining the Test Center Network, a collection of utilities and technology developers focused on carbon capture solutions.  Two other network members were profiled in the most recent two posts  -  Southern Co. (SO:  NYSE) and Enel (ENEL:  MI).

Like these sister electric utilities that operate extensively in the North America market, E.On looking down the long barrel of carbon emission standards in Europe.  The European Union Emissions Trading System (EU-ETS) was the first cap and trade system in the world.  Carbon emitting entities receive an allowance based on historic emissions.  If actual emissions are lower than the allowance, a tradable ‘surplus allowance’ is created.  Entities emitting more than their allowance can buy the surplus to cover their deficit.  Proceeds from the sale of surplus allowances are expected to off-set the investments required to reduced emissions. 
With a string of carbon dioxide belching coal- and gas-fired power plants in its inventory, E.On has an emissions ‘deficit’ headache.  About two-thirds of its power generation comes from fossil fuel.  Even if the company could afford to write off its investment in fossil-fuel generation, shutting down coal- and gas-fired plants is not practical.  E.On is still coming up short on being able to deliver low-emission power to its customers, despite extensive investments in renewable power sources.  E.On must extend the runway its fossil-fuel power plant assets.
E.On has claims it is trying to cut its CO2 emissions by half by 2030 from a benchmark set in 1990. The company says it is pursuing two strategies:  1) efficiency enhancement in coal-fired plants called 700 Degree Technology and 2) Carbon Capture Storage Technology 

Scholven Power Plant
The plan is to install next-generation coal-fired plants capable of significantly higher thermal efficiency with steam temperatures reaching 700 degrees Centigrade compared to a range of 500 to 600 degrees in older plants and 350 bars of pressure compared to 240 bars in older plants.  That means less fuel needs be burned to achieve the same level of electric power output.  Since the carbon steel materials used in legacy boilers and steam pipes can only withstand up to 600 degrees Centrigrade, development has focused on new nickel–based super-alloys.   Testing has been carried out at E.On’s Scholven plant, which is consider among the most advanced coal-fired power plants in Europe.  It produces electricity and steam for heating area buildings.

Fancy piping will only take E.On so far.  The other strategy is to seize CO2 emissions before they hit the atmosphere.  The company has dabbled in several capture strategies, but has focused on post-combustion capture. This approach is the least troublesome to install in existing power plants. There has been no recent update on E.On’s internal development progress so it is no surprise that it joined the Test Center Network group in hopes of getting a faster CO2 fix.

To make matters worse, E.On is facing the shutdown of its nuclear power plants.  Following the March 2011 tsunami in Japan and the subsequent accident at the Fukushima Nuclear Power Plant, Germany policy makers mandated the shutdown of all nuclear power plants in the country.  Two of E.On’s plants have already been shuttered.  The four remaining E.On nuclear plants are scheduled for shut down beginning in 2015 through 2022.

This is a company that appears to be wedged between the proverbial “rock and hard place.”  The company has managed to raise revenue in each of the last three years, but profit margins have been steadily shrinking on higher costs.  Has anyone mentioned the weak macroeconomic environment in Europe lately?  It is still weak. On the plus side, E.On carries a bit less debt than most utilities.  Even with profits down E.On has a bit more cushion to cover the interest burden on its debt than most power generators.

Investors have been abandoning E.On like so many rats jumping a sinking ship.  The stock is trading near its 52-week low price.  As tempting as a corrected stock price might be and as impressive as ‘going green’ might seem from social standpoint, E.On is a stock to avoid.  There are few catalysts on the horizon to break the current dynamic of weak profits.  Recovery in the stock price appears a long-way off.

Neither the author of the Small Cap Strategist web log, Crystal Equity Research nor its affiliates have a beneficial interest in the companies mentioned herein.


1 comment:


I have always believed that the time to buy equities is when their very much out of favor. Utilities make great long term investments because of the above average dividends that many of these companies pay. While many electric utilites companies may be slow growers their dividend payouts can sometimes be as high as 5%. Not bad for a slow growing company.