Editor's Note: Below is an excerpt from an institutional research note written by Hedgeye Demography Sector Head Neil Howe. To read the entire research note email sales@hedgeye.com.
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MARKET WATCH: What’s Happening? The utilities sector has a century of experience as a slow-and-steady dividend machine that generates profits from a regulated return on accumulated capex. But things are changing quickly. Despite falling fossil fuel prices and expiring solar subsidies, ever-more consumers are switching to renewable energy—sometimes even selling the excess back to their power provider. Our Take: The arrival of price-competitive renewables has changed the game of utility provision forever. In their next act, utilities will no longer be able to count on the return generated from their fossil fuel-burning plants—but must instead find a way to provide value while staying ahead of new (unregulated) competition. |
THE LATEST SCARE
It has become jarringly evident that the game has changed for utilities—and there is no going back.
In spite of falling energy prices, the shift toward renewables has not only continued—but has accelerated. The Financial Times reports that global renewable capacity rose by 9% YOY in 2016, powered largely by a surge in solar capacity (which shot up 30% YOY). For the second consecutive year, renewable capacity accounted for more than half of all capacity added worldwide.
The EU is on track to meet its goal of generating 20% of its power from renewables by 2020, with 25 of its 28 member countries exceeding their growth targets. China, meanwhile, added 35 gigawatts of solar capacity last year, an amount on par with Germany’s total capacity.
In the United States, the story has been the same. Wind and solar alone accounted for 65% of all capacity added in 2016, the third consecutive year in which fossil fuel growth took a backseat to renewables. U.S. consumers added 1 million solar panels last year, a figure that the Solar Energy Industries Association expects to double by the end of this year. Renewables are doing best in green states like California, where regulators anticipate that 85% of consumers will be getting at least some of their electricity from a source other than an investor-owned utility by 2020.
DRIVERS
Supply side: Productivity improvements are driving down cost. One explanation is that the cost advantages of renewable energy have not yet disappeared. How is this possible? Quite simply, productivity gains in renewable energy generation are proceeding so rapidly that renewables remain price-competitive no matter how low fossil fuels go.
Demand side: Xers don’t like relying on Big Power. For individualistic Xers, renewables promise self-sufficiency. If the grid goes out, a backup generator or solar power could mean the difference between life and death—or at least between comfort and hardship. This generation’s prepper, me-against-the-world mentality is the same one that has brought “survivalism” into the mainstream.
Demand side: Millennials are living sustainably. Millennials care a lot less about survivability (amazingly, they trust the “system”). But they care a lot more about sustainability and urban living. So for them, renewable energy is also a natural match.
Pew Research finds that consumers ages 18 to 29 favor the development of alternative energy sources over the expansion of fossil fuels by 54 percentage points, by far the widest margin of any age group. The mere mention of fossil fuel elicits a negative reaction from young Millennials: According to Ernst & Young, 16- to 18-year-olds have a much less positive perception of natural gas (40% positive) and oil (25%) than older consumers (60% and 35%, respectively).
WHAT THIS MEANS FOR UTILITIES
Lights out for utilities? Not overnight. Fossil fuels still create around 85% of the world’s power, a share that will not disappear any time soon.
Clearly, however, fossil fuels are no longer a growth driver for utilities. Instead of investing ever-more heavily in fossil fuel-powered plants in order to generate a profit, the sector must find another revenue stream.
