Carbon Profile Analysis
With the shift to a clean energy economy well underway, investors and owners of carbon-intensive assets (such as coal-fueled power plants) are keenly aware of the potential financial risks associated with those assets. More and more, investors – especially those who incorporate environment, social and governance (ESG) risk into their analyses – are asking owners and operators about risk mitigation strategies. Some of our own investors and other interested stakeholders have been asking these questions of AEP.
In response, we are reporting on our risk exposure and risk mitigation strategies and engaging in dialogue, which aligns with our commitment to transparency. In 2016, we engaged with 13 asset or portfolio managers for AEP investors (largely pension funds) specifically on these issues. Our discussions were frank and transparent. In addition to carbon risk, they asked us about our plans for renewable energy, technology development and adoption, and resiliency of the grid. We expect this type of engagement to continue.
In 2017, we anticipate that 47 percent of AEP’s generating capacity will come from coal, compared with a recent high of 70 percent in 2005. In addition, we expect 27 percent of generating capacity will be fueled by natural gas.
AEP’s exposure to carbon regulation is already greatly reduced compared with five years ago. Between 2011 and mid-2016, AEP retired more than 7,200 megawatts (MW) of coal-fueled generating capacity. These retirements were driven by a number of factors, including environmental regulations. Between 2000 and 2016, AEP’s CO2 emissions have declined 44 percent. This is due to a combination of plant retirements, low natural gas prices that caused coal units to operate less frequently, the addition of renewable generation and reduced wholesale generation sales.
In early 2017, AEP completed the sale of four fossil-fueled plants, totaling approximately 5,200 MW, to a newly formed joint venture of Blackstone and ArcLight Capital Partners LLC. The sale will further decrease AEP’s carbon exposure going forward. AEP’s long-term strategy is to become a fully regulated, premier energy company focused on investment in infrastructure and energy innovations that customers want and need. Reshaping our generation portfolio to include more renewable energy over time is part of this strategy.
AEP’s investments in transmission also interconnect about 10,000 MW of renewable resources across the U.S. AEP’s renewable portfolio includes approximately 3,200 MW of wind and solar today, and by 2030, our current resource plans include up to another 2,400 MW of solar, 4,900 MW of wind and 2,100 MW of natural gas. Actual additions of these resources will be determined by regulators, who must approve them.
The potential financial impact of legacy fossil units being retired sooner than the end of their anticipated useful life is a topic of discussion with some stakeholders. The typical pricing structure that regulators establish for cost recovery of generating stations is based on the useful life of the plant and is depreciated over time. During the life of the units, regulators allow us to collect the investment from customers over time.
Where appropriate, we are working with state utility commissions to match the recovery of existing and new plant investments with the remaining useful life of the units. This strategy increases the likelihood of full cost recovery if the units are retired and recognizes the long-term uncertainty of coal generation in our fleet.
Several of the units retired in 2015 and 2016 were taken out of service before the end of their useful lives. Some investors expressed concern about the financial impact of this to AEP. As of December 31, 2016, the remaining net book value of retired coal units in our regulated jurisdictions that have yet to receive regulatory approval for cost recovery was approximately $334 million. As additional regulated coal units are retired, we will seek recovery of the remaining net book values of those units. For our competitive generation business, the net book value of these retired plants is zero.
Additional opportunities associated with reducing carbon include investments to refuel or repower coal units with natural gas or the construction of new combined-cycle natural gas units. AEP also refueled units at its Big Sandy and Clinch River plants to comply with Mercury Air Toxic Standards (MATS). AEP has no plans to build new coal plants and is carefully scrutinizing all investments in our existing coal fleet.
Recent debate and calls for divestment in companies that have coal in their fuel portfolios or derive revenues from coal-related activities (i.e., electricity generation) is not constructive and is harmful to investors. There is a major transformation under way in the electric utility industry that is expanding resource diversity and should be appropriately considered in the debate. Increasing clean energy resources and carefully managing additional investments in our fossil fleet will protect AEP’s assets and deliver ongoing benefits to shareholders and customers.
AEP’s Carbon Asset Analysis
- Risk Factors – policies, regulations, technologies, markets, etc.
- Carbon regulation - CO2 emissions reductions in energy sector; the uncertainty over the Clean Power Plan’s future and whether new regulation will take its place.
- Lack of commercially-viable technology to directly reduce carbon emissions, such as carbon capture and storage (CCS).
- Depressed coal market caused by low natural gas prices and cost-competitiveness of renewables and other technologies.
- Lower resource diversity and reliability and greater price volatility due to further coal and nuclear plant retirements.
- Exposure to operators of carbon-intensive assets and financial exposure to lenders and investors.
- If carbon regulation or legislation is implemented, it is unclear how it would be implemented or the impact it would have on existing fossil units.
- Lack of technology (such as CCS) could limit the viability of traditional coal generation stations in the long term, should emission limitations require additional significant reductions.
- During 2016, our coal producers’ financial conditions have improved but there have been some closures of smaller mining operations due to depressed coal market prices. Our regulated coal supply continues to have exposure in both price and availability, especially with Central Appalachian coal.
- Market conditions and tax policies could continue to drive reliance on gas-fired units and renewables, further eroding diversity of generating resources and exposing customers to price volatility and outages.
- Analysis – How is carbon risk being evaluated?
- AEP has been planning for carbon regulation possibilities through the inclusion of a carbon price in its integrated resource planning process for many years. As the fate of the Clean Power Plan or other regulations that may be implemented emerge, AEP will reassess its carbon price and related planning processes.
- AEP continues to monitor commercial viability of carbon capture and storage (CCS) and other emerging technologies.
- AEP continually assesses coal market fundamentals to examine both supply and demand.
- AEP is working with market participants and regulators to mitigate risks.
- Management Approach
- AEP is focusing its investments on shifting to non-emitting generation, such as universal-scale renewables, and has retired approximately 25 percent of its coal generating fleet through the end of 2016.
- AEP took an active role in advancing CCS technology through research and development several years ago and has reduced potential exposure through coal unit retirements and asset diversification.
- AEP actively manages its coal procurement process to ensure a diverse, reliable supply of coal is available at a reasonable cost.
- Capital expenditures have moved substantially from environmental investments to investments in infrastructure, including transmission, and other customer-focused technologies.
- Existing fossil plants play a vital role in providing reliable, 24/7 capacity and energy to the power grid. We will continue to responsibly operate these plants to deliver value to our customers and communities.
- AEP does not foresee construction of new coal plants in the U.S.