Double Blind

A day ago, I heard stories on news radio that a green energy lobby group claimed that exporting clean energy could eliminate the deficit and reduce the PST. These are pretty strong claims and thus caught my attention, and I researched the source of this claim. After performing some research I have hence concluded that these claims have little to no merit.

Since I anticipate people asking about my credentials, my educational background was in physics, and I am a certified management accountant, and consider myself to be very knowledgeable about issues concerning power generation and the economics behind them.

The Independent Power Producers of BC

Unrelated to the above proclamation, a February 11, 2010 report from the Independent Power Producers of BC claiming:

The study by PricewaterhouseCoopers LLP (PwC) reports that independent power producers could grow BC’s economy by as much as $9 billion by 2020. IPP construction could support 87,000 person-years of employment for British Columbians over the next decade, and more than 9,100 full-time jobs for their operations and maintenance.

By 2020, capital spending in the IPP sector could reach $29 billion. Government revenue – at all three levels of government – from the construction of IPPs could total $1.6 billion, while ongoing direct payments to government could reach approximately half a billion dollars annually.

IPPs are investing significant amounts of capital into BC (Plutonic Power is at roughly $200 million at September 2009 and this will increase) and it is reasonable to conclude that IPPs will have to employ people to construct their generation and transmission assets across the province. The full report is not a bad read, although the analysis in section 4 is a bit sketchy (where they make extrapolations in terms of the economic impact of such investment – including a “Need correct data for this chart” that was not omitted in the final report on page 18!) and the headline number ($9 billion by 2020) is assuming spin-off effects from direct investment ($4.85B direct, $3.95B induced, table 4.3) and is a misleading number.

The point is taken, however, that IPPs will be investing capital in British Columbia, and at a very minimum, the province will be realizing tax benefits from sales taxes and personal tax collections from employment. I do not anticipate corporate income taxes will be a major contributor to this revenue projection, mainly because of liberal capital cost allowances for the type of energy infrastructure and operating losses from the startup phase will be able to offset profits at least during the initial phases of operations. Plutonic, at the end of September 2009, has accumulated a $46 million operating deficit through operations and this will increase until they manage to start producing power. They will need to make these profits (and likely a lot more in losses before they go operational) before they start paying a penny in corporate income taxes.

I have used Plutonic Power as the primary example as they are largest publicly traded company that exclusively does IPP development in British Columbia. The other two companies in this group are Naikun (concentrating on wind power) and Run of River Power. Only Run of River Power has an actual running project (Brandywine) and they are losing money. Naikun and Plutonic are losing money by virtue of the fact that they are still in the build-up phase.

Powerline BC – Another (new) IPP lobby

Through a February 23, 2010 posting on Langley Politics, I started reading a new website written by some public relations people from the energy industry – PowerlineBC. Their job is to extol the virtues of how wonderful Clean/Green energy and in the process procuring a communications contract with companies that want to lobby politicians to change rules to benefit IPPs. Essentially, this is a form of economic rent seeking, which seems to be more prevalent these days that companies generating returns through economic returns.

An article by Mike Chisholm, quoting the BC Citizens for Green Energy (yet another IPP lobby group) states:

In terms of financial potential for BC from all streams, the study believes by tapping into this abundance of green energy, the province could generate $4.3 billion per year in revenues. This includes revenues from various licenses, taxes and fees paid by IPP’s, net income to BC Hydro/Powerex, and income from carbon credits and offsets.

The optimistic study also believes that income from renewable energy is so great that, over time, the government could actually eliminate the provincial debt (currently $47.8 billion) and eventually the provincial sales tax (PST).

Optimistic is an understatement. According to the BCCGE report (March 8, 2010), it assumes that carbon offsets will be $2.9 billion of this amount. Even the other $1.3 billion is optimistic compared to the IPPBC report which clearly states that be around $762M provincially on a cumulative (not annual!) basis, using 2009 dollars.

In my opinion, after reading the material on the BC Citizens for Green Energy’s site, I have come to the conclusion that they are not credible. The credibility of people and organizations quoting BCCGE’s work should be viewed with a very critical eye. I do not regard Chisholm’s site, nor the few guest authors he has had on his site, to be credible – they repeat similar talking points, but with critical analysis you can blow more holes than swiss cheese through their arguments with respect to how beneficial Clean/Green power is for BC.

Unfortunately, the media bought the BCCGE’s March 8, 2010 report hook, line and sinker. I am guessing most media (and most politicians) have no idea how the power generation industry works from both an engineering and an economic perspective and thus will accept whatever ridiculous assumptions that are usually embedded in reports that claim some economic miracle will come out of the industry. It will not.

How power generation works

When talking about power production, one must make a distinct between quantity and time. In order for power generation to be useful, it must be produced in a sufficient quantity. Most people understand this concept. Most people are not aware that the power must be generated at the right time.

To fully understand power generation and transmission, one needs to have a basic engineering knowledge of how electricity works – energy storage is very expensive, so power generation must be aligned exactly with power consumption. If you do not produce enough power, you will have brownouts in your electricity grid. Too much power will either blow out whatever is plugged onto the grid (if such devices have no surge protection) or the excess power generated will be dissipated as heat.

Thus, power companies must find ways of aligning supply and demand on an instantaneous basis. A great source for this sort of information is the California ISO which gives their power outlook. A sample chart is as follows:

We can see that the peak energy demand in a March day in California occurs between 6:00pm to 10:00pm, when most people come home from work and turn on all the home appliances. BC’s power consumption curve is similar, but with the difference that in summertime there is less consumption (due to less air conditioning) and in the winter there is more consumption (electric baseboard heating) – heating and cooling are two major consumers of power.

Not coincidentally, power demand at 6:00pm to 10:00pm is what makes power at this time the most expensive to purchase. BC Hydro (via PowerEx) has been making a fortune selling power during these times, and purchasing power during non-peak times. How can they do this?

The answer is because BC Hydro’s main source of power production is hydroelectric dams. This type of power generation can be turned on and off with very short notice – literally seconds. The energy source for this power is stored behind the dams in the reservoirs. Thus, the dams are usually active during peak times, and are dormant during off-peak times.

The big demand for power export is during the summer months, roughly from 4:00pm to 9:00pm. This is when you want to be generating power.

What is wrong with Clean/Green power production?

The problem with Clean/Green power, from an economic standpoint, is that it delivers the power at the wrong time.

Run of river power sources have little capacity to store water, unlike conventional hydroelectric dams (which have huge reservoirs of water to draw upon). As a result, it is a continuous power source and is most active during the spring melt-off. It will produce the least amount of power during the fall and winter months. The amount of power it can produce, however, is predictable in advance depending on snowpack levels and temperatures, so this will be a marginal benefit to the power grid.

Wind power is erratic and you must be able to supplement wind power with hydroelectric sources so you can balance the two sources of power. In British Columbia, there is no way that a strictly wind-only power producer will be able to survive. It must depend on other power producing companies to “smooth” the variable energy output. In effect, wind power is parasitic to the rest of the grid – as a result, it is much more expensive than what a standard price per megawatt hour calculation would suggest. In my opinion, wind power is the worst type of Clean/Green power generation, and it will only be commercially feasible if efficiencies in energy storage technologies improved significantly.

Biomass generation is the best of the group in terms of being able to time your power production as it has properties similar to natural gas turbine power generation – you can turn on and off the turbine within a few minutes, but the big issue with biomass is obtaining fuel supply. In scale, it is difficult to secure supply that is economically feasible.

Solar power may have a future in BC, but capital costs for solar cells are still prohibitive. The power delivered is predictable based on cloud cover and time of day. Due to our northern latitude, places such as Osoyoos will receive significant amounts of sunlight for long hours and this may be economically feasible at a future date if capital costs of solar cells drops.

I have no opinion (positive or negative) on geothermal or wave/tidal energy – I have not done any research on either of these sources of power generation.

Since most Clean/Green power planned in BC is produced is from run of river sources, I do not foresee claims of this industry to be “eliminating debt” to be credible. From an investment perspective, it is quite clear that IPPs will not be able to return a reasonable return on equity unless if the province of BC significantly changed rules to favour them, or to force BC Hydro to purchase power at unfavourable rates. The other assumption that is critical to such Clean/Green power generation is that they will be able to sell carbon credits – a market that would be strictly the creation of the government.

It is likely that BC Hydro did not pursue these projects simply because they were not economically feasible, and if they were, they were of such small scale that overhead allocation would render it not profitable with their cost structure. Some good news for the public is that corporations such as Plutonic Power, Naikun and Run of River Power will take on the risk of capital construction and operation, so it will be their shareholders and creditors that will inevitably be paying for their ventures. As recently as November 4, 2009, Plutonic found investors willing to buy about 1/3rd of the company for $70M. These equity investors are unlikely to realize a long-term reward better than the primary investor in Plutonic Power, which is GE Capital.

To conclude, any claims that Clean/Green power can “eliminate the debt”, or even reduce it, are very erroneous. The public will lose, however, if the government significantly changes legislation to artificially benefit the IPP industry, especially with agreements that compel BC Hydro to purchase power from IPPs at greater than market value and the establishment of a cap-and-trade carbon market that will drive costs up for everybody involved.

Limitations of this discussion

I have not discussed any “solutions” to BC’s power generation situation, nor how to make “BC power self-sufficient”. I have also not discussed the environmental trade-offs of Clean/Green vs. “conventional” power generation, except to say that Clean/Green power is significantly more expensive than conventional power sources. I also have not expressed an opinion on whether BC Hydro is correctly structured, or what their future role in developing power sources in BC should be.

Financial documents (latest as of this writing)

Plutonic Power – 3rd quarter 2009
Naikun – 2009 annual report
Run of River Power – 3rd quarter 2009

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