Deregulation in the USA30 November 2001
Deregulation has helped create new opportunities for competitive nuclear generators in the USA, enhancing the value of nuclear generating assets and contributing to industry consolidation. Although existing nuclear generators have benefited, deregulation will not necessarily assure new plant orders in the future. By Michael W Chinworth, R Lee Clanton, Chris Rusch and Audrey K Taucher
Deregulation of electricity markets in the USA has contributed to growing support for expansion of the country's nuclear power generation industry. While local and regional deregulation of electricity markets has increased competitive pressures on generators, it also has created new opportunities for efficient nuclear generators and has provided an impetus to re-examining future nuclear options. This has made nuclear generating assets far more desirable and has contributed to consolidation of the nuclear industry in the USA.
However, problems remain that must be overcome before a dramatic resurgence can be expected. Deregulation of retail markets is currently only partially implemented with just over half the states failing to act on retail access. Economics also plays a key consideration in decisions for future plant investments. Foremost among these problems is the capital cost of new plants. New investment costs remain much higher than those for conventional thermal plants. Deregulated markets and regulatory flexibility by the Nuclear Regulatory Commission (NRC) contribute to an environment in which potentially more cost-effective technologies can be assessed under real world conditions. But deregulation and regulatory changes alone will not provide sufficient support to assure their success or widespread adoption.
A brief history
In response to oil shocks in the 1970s, the US Congress enacted legislation in 1978 to stimulate the development of a market for alternatively-fuelled electricity. The Public Utilities Regulatory Policy Act (PURPA) established a new category of power generators - "qualified facilities" - that would generate electricity from alternative fuel sources or were small-sized generators. The law obligated utilities to purchase power from these qualified facilities under certain conditions.
Policy makers turned to the structure of the electric service market in the late 1980s, considering new concepts involving separate transmission, distribution and generation companies to reduce costs and rationalise markets. Legislators included in its comprehensive legislation - the Energy Policy Act of 1992 - electricity provisions encouraging deregulation and establishing another category of generators called Exempt Wholesale Generators (EWGs). EWGs were exempt from many Federal regulations and were authorised to sell directly to wholesale markets across the country.
At this time, Federal regulators through the Federal Energy Regulatory Commission (FERC) - which has jurisdiction over the wholesale electricity market - began requiring its regulated utilities to open up their transmission systems to third party users, thus sparking a new market for competitive buying and selling of electricity among wholesale users.
Responding to consumer complaints of high electricity prices, State regulatory bodies - whose jurisdiction covered retail electric service transactions - gave increasing attention to deregulating retail markets. Not surprisingly, states with the highest average retail electricity prices were the first to push for deregulation. Because Federal regulators lack jurisdiction over retail services, states had the freedom to determine the approach toward restructuring their markets. This has contributed to uneven deregulation across the country. Federal legislators have proposed establishing unified standards to deregulate each of the 50 states and territories, but this has yet to be resolved.
Many regulatory wildcards faced nuclear utilities during these transitions, including ability to recover stranded costs, the possible need to divest assets and whether nuclear plants would in fact have any value at all. The initial reaction by the nuclear power industry was that plants could become a financial liability.
Generation assets and consolidation
The outlook for nuclear utilities improved as Federal regulators and a majority of deregulated states approved recovery of stranded costs. Operating efficiencies improved - though not due to deregulation - and public acceptance of nuclear power grew.
With these developments, the outlook for existing nuclear power plants improved, leading to higher valuations for plants and contributing to consolidation of nuclear generating assets. Deregulation and a more flexible regulatory environment most likely have contributed to global consolidation trends.
Nuclear assets are more highly valued than just a few years ago. For the first time in a decade, some companies were actually trying to expand their nuclear portfolios rather than diminish them. Between 1989 and 1999, ten facilities were shut down - an erosion in nuclear net generation capacity of more than 6%. Arguably, the market value of a US nuclear plant, which once hovered around $25 per kWe, rose close to parity or better with fossil capacity in 1999-2000. The recently concluded transaction by Constellation Nuclear of Nine Mile Point was at $435/kWe.
That initial pace has slowed somewhat, particularly as the first wave of industry consolidation concluded. However, there still are favourable signs for nuclear generators. By the beginning of 2000 there were important factors impacting the nuclear industry panorama:
• Three US nuclear plant sales (Three Mile Island, Pilgrim, and Clinton) had closed affecting more than 2200MWe at an average price of approximately $25 per kW (excluding nuclear fuel).
• No mergers had been actually concluded although mergers involving more than 19,800MWe had been announced.
• The Nuclear Management Company was well on its way to concluding its consolidation of seven reactors involving approximately 3600MWe.
The ownership of US nuclear generating capacity continued its trend of significant consolidation in 2001 (Table 1). Even more dramatic, however, was the rapid increase from 1998 and 1999 in the derived purchase price of nuclear plants that were sold in 2000 and 2001. "Bargain basement" prices for US nuclear plants clearly were over - due in part to the opportunities created by deregulation of wholesale and partial deregulation of retail electricity markets. The basic paradigm shift in plant value, coupled with the entry in 2000 of Dominion Energy and Constellation Nuclear to the buying mix, increased prices dramatically.
This substantial increase in price, along with earlier energy shortages in California and steadily improving operating capacity factors, have companies rethinking not only the true market value of their existing nuclear plants, but also the merits of selling their nuclear generating assets.
More than 31,600MWe, representing 33% of the total US nuclear generating capacity, was actually transferred in 2000 and 2001 through mergers, purchases, and the formation of the Nuclear Management Company (NMC). By far the largest transaction in this grouping was the merger in October 2000 of Unicom and PECO Energy to form Exelon, the largest US nuclear operator and third largest commercial nuclear fleet in the world. But announced mergers are not foregone conclusions as evidenced by the break up of merger plans in April 2001 of Entergy and Florida Power & Light and, in October 2001, of Public Service Company of New Mexico and Western Resources.
With the expected transaction closure of the Vermont Yankee plant to Entergy next spring, 68% of the US nuclear generating capacity will then be owned by the 12 largest utilities (Table 2). It has been speculated that within five to seven years virtually all of the US nuclear generating capacity will be owned or operated by less than a dozen companies.
Although some industry observers disagree, further consolidation remains possible. Those utilities with a single nuclear plant will be the most likely candidates for consolidation. To date, mergers and plant purchases have been the most popular mechanism for consolidation. Whether those remain the principal drivers is not a certainty. Alliances in the form of nuclear operating companies or nuclear generating companies are expected to play an important role in future consolidation efforts. No matter the consolidation vehicle, the business driver will continue to be those arrangements that deliver sustainable value to the key stakeholders - interests that have been heightened with deregulated markets.
The regulatory outlook
A more favourable regulatory environment facing the nuclear industry has gone hand in hand with deregulation of wholesale and retail markets. Two additional trends that have aided existing generators are relicensing and power uprating. Both have proven uncontroversial to date and have contributed to an improved outlook for nuclear power generation.
Relicensing of existing nuclear facilities has proven to be relatively uncontroversial. Nuclear power plants are licensed to operate for forty years. The Atomic Energy Act of 1954 provides the basis for utilities extending those licences if they meet certain criteria. The NRC issued the first licence renewals for Constellation Nuclear's two-unit Calvert Cliffs plant and Duke Power Company's three-unit Oconee plant in early 2000, roughly two years after the companies applied for renewals. Entergy and Southern Nuclear applied for licence renewals the same year for their Arkansas Nuclear One Unit 1 (which has recently been granted) and Edwin I Hatch 1 and 2, respectively. Thirteen nuclear operators have notified the NRC of their plans to submit renewal applications for a total of 22 units by 2003. More than three dozen nuclear power plants will reach the end of their initial licence periods by 2015, demonstrating the potential for licence renewals in the coming years.
Licence renewals have not been as controversial for the facilities receiving them as their initial licences. Calvert Cliffs in particular was heatedly debated and strongly opposed by environmental groups before entering into operation. The fact that renewals brought relatively little opposition is interpreted by industry observers as a sign of local acceptance of the plants for multiple reasons. First is their operational reliability and second is their importance to the local economy. Industry observers feel that over time, local communities have become accustomed to the presence of nuclear facilities. Improved performance with increasingly few safety related incidents have helped local communities feel more confident in the reliability of these plants. The economic impact of individual plants can be significant.
Uprating of power plants also offers hope to derive additional benefits - and, therefore, reduced costs - out of existing facilities. Policy changes may result in as much as 10,000MWe in new generation, making the prospects for nuclear power generation more favourable. Uprating is not controversial as yet. It is moving ahead methodically.
Over the course of the last 15 years, the NRC has approved nearly 2000MWe of additional electric output through uprates. A total of 47 reactors, belonging to 25 nuclear operators have been uprated. In addition to the approved uprates just mentioned, licensing activity for reactor power uprates is in various stages of evaluation by the NRC for several other units - Braidwood 1 and 2; Bryon 1 and 2; Dresden 2 and 3; Quad Cities 1 and 2; and Watts Bar.
Uprating supports the industry and allows it to gain additional output from depreciated investments. Uprating, however, is not a policy that will change the outlook for nuclear power dramatically. It will help make nuclear power marginally more competitive by increasing output through existing facilities. This will contribute to slightly lower cost curves for existing plants. But uprating is not going to improve the economics for new nuclear power plants. The policy is aimed more toward deriving more life out of existing facilities.
New plants and investments
It is safe to say that deregulation has been one factor contributing to an enhanced position for existing nuclear power plants and generating companies. It remains unclear, however, whether present conditions will be sufficient to encourage expanded nuclear power generation through investing in new facilities.
One of the major difficulties facing nuclear generators and potential investors are the uncertainties surrounding the state of deregulation in the USA. Deregulation is far from complete, injecting uncertainties into local, regional and national markets that should be resolved to reduce risks associated with new plant investments. To date, 17 states have enacted legislation or issued regulatory orders to implement retail access. Seven states have passed legislation or passed regulatory orders to delay implementation of retail access (these states previously were among a larger group of states under the category of having passed implementing legislation or regulatory orders). The majority of individual states - 26 in all - have not yet passed any legislation or approved any regulatory measures for deregulating their markets (Table 3).
These uncertainties are not likely to be clarified in the months ahead. With the onset of California's well publicised electricity shortages last year, movement by local legislatures and regulatory bodies on deregulation has ground to a halt. It is uncertain when any momentum will be generated.
In addition to inconsistent actions at state levels, several issues remain at the Federal level that hinder comprehensive and consistent deregulation. These include the unclear role of the Federal government's regulatory bodies - primarily the Federal Electricity Regulatory Commission - in forcing states to deregulate further, the formation and operation of regional transmission organisations (RTOs) and rationalisation of transmission grids across the country.
The National Energy Plan released in May 2001 by a Bush administration-supported panel addresses some of these issues, calling for greater flexibility in constructing new transmission lines. This would help alleviate the problems resulting from old grids - developed in fully regulated environments - that suddenly are expected to satisfy the national demands of partially deregulated markets. Federal legislation to implement these changes, however, remains on hold as Congress debates more highly publicised issues such as possible oil drilling in the Alaskan National Wildlife Refuge - thus holding up consideration of comprehensive energy legislation.
Economics of new plants
Even if the atmosphere surrounding deregulation in the USA bodes well for the nuclear industry, the economics of new plants remain formidable. On the one hand, the economics of nuclear generation have improved markedly in recent years. Steady improvements in plant performance culminated in a banner year in 2000 with record generation of 754 billion kWh (approaching a 90% capacity factor). Higher capacity factors, coupled with low fuel prices, have resulted in competitive nuclear generating costs hovering around 1.5 cents per kWh or less in some cases. This performance has been made possible in part through improved operational safety - which in turn enhances the public attractiveness of nuclear power. For example, according to the NRC, "significant events" at US nuclear power plants have dropped from 2.38 per unit 15 years ago to about 0.03 per unit in 1999.
New plant generation is more problematic. Conventional wisdom in the USA concludes that a construction cost of $1000/kW is necessary for new plants to be viable in its largely deregulated markets. Despite many advances, current designs fall short of this target. A recent report by the IAE estimates that the capital cost for current nuclear designs is around $2000/kW, compared with $1200/kW for coal and $500/kW for natural gas. The Energy Information Agency in the United States estimates $1750/kW - an improvement compared with IAE's estimate, but still not competitive with other alternatives. Nuclear power plant vendors remain optimistic that they can achieve levels approaching $1000-$1400/kW and that lower operating costs will offset potentially higher capital investment requirements.
At the same time, utility consolidation has created financially stronger companies that are better able to bear the risks of nuclear projects, despite the higher demands by stockholders for significant returns. The largest ten nuclear utilities in the USA have a total of approximately 53GWe of capacity - 56% of total US capacity. Their total net assets (as of May 2001, prior to the September 11 attacks and subsequent drop in stock markets) equalled $67 billion, with replacement costs of $53 billion for their nuclear assets, assuming an average cost of $1000/kW.
New designs could shift costs downward if they prove to be as economical as advertised. In this regard, regulatory flexibility introduced over the last several years could provide reasonable opportunities for new designs to prove their worth in deregulated environments.
The US Department of Energy certainly sides with the view that no nuclear facilities are likely to come on line in the near future. Its quasi-independent Energy Information Agency (EIA) released its Annual Energy Outlook 2002 on 14 November 2001. The forecast expects added generation by existing plants but no new generating capacity at least until 2020. Although the report signals optimism about the contribution of re-licensed plants in the future energy mix — increasing nuclear generating capacity in 2020 by 22% over last year's forecast — the group believes that new nuclear plants will not be economically competitive with fossil fuels in the next two decades.
Two other factors complicate the prospects for nuclear plants in partially deregulated markets: the new uncertainties over security following the September 11 terrorist attacks and the continued struggle over establishing a high level waste disposal site at Yucca Mountain. The former could result in increased regulatory mandates in the safety area; the latter is a long-standing dispute that itself could constrain future nuclear power generation.
REFERENCE FOR TABLE 1
a: The purchase price generally reflects estimates of direct cost of plant, not including fuel. NAC has attempted to value the purchase prices on a consistent basis, taking into account the different payment terms and details of each transaction.
b: Based upon the number of years between the purchase announcement and the end of the current operating licence.
c: Atlantic Energy interests in Peach Bottom 2 & 3, Salem 1 & 2, and Hope Creek. (Note that Conectiv is the holding company of both Delmarva Power & Light and Atlantic Energy.)
d: This number is likely to be too high since the announced purchase price of $502 million includes Indian Point 1, three natural gas-fired turbines and other assets.
e: Niagara Mohawk Power, New York State Gas & Electric, Rochester Gas & Electric, and Central Hudson Gas & Electric.
f: It is very unlikely that the transaction will close given the current California Commission's direction that no additional utility generation facilities will be sold.
TablesTable 1. US nuclear plant purchases since July 1998 Table 2. Comparison of potential utility rankings by ownership of generating capacity Table 3. Retail market deregulation status by state