Guest Post by PlanetNL
PlanetNL18:
Big Windfalls to Come from Churchill Falls?
For
decades, Newfoundland and Labrador (NL) Governments have recited the lost
earnings potential of the Upper Churchill and bemoaned the billions earned by
Hydro-Quebec (HQ). They long for the day
of August 31, 2041 when HQ’s locked-in low-price contract for 90% of CFLCo’s
energy shall expire and most of the profit will flow into NL.
It’s
the kind of linear-thinking politicians thrive on: if electricity prices remain
constant, demand remains constant, and production costs remain constant, then
the dream seems real. A naïve Premier today
may even be thinking of borrowing billions to mitigate Muskrat losses until
2041 because the mighty Upper Churchill will quickly pay it all back and more.
That
would be a terrible gamble to take as already there are a number of economic
threats to the viability of Churchill Falls power.
Nalcor Energy
Marketing Not Earning Huge Profit Margins Today
NL
Hydro has an exclusive block of 525MW capacity from Churchill Falls until 2041. It's purpose is to meet the Labrador Interconnected grid power requirements. Surplus energy from that block has been historically
sold through agreements with Hydro Quebec and for a few years by Emera Energy
Marketing.
After
Muskrat Falls sanction, Nalcor created a new division, Nalcor Energy Marketing
(NEM), to manage the coming growth in energy sales opportunities. It is responsible for sales of Muskrat surplus via the
Maritime Link, the ongoing Churchill Falls surplus via HQ, and potentially yet
to be developed sales opportunities such as Gull Island. As well, there is the period beyond 2041 to
consider when HQ’s contract for the bulk of Churchill Falls energy expires. The formation of NEM makes sense
within Nalcor’s strategy.
NEM
annual reports allow analysis of its financial performance. In 2016 and 2017, NEM recorded net profit of about
0.8 c/kWh on its Upper Churchill surplus energy sales. Using this current figure as the baseline,
this posting will present three primary issues that will push that profit
margin down.
It is
assumed that NEM sells mainly into US energy markets and its primary costs are
energy and transmission. NEM pays the
same super-low 0.2 c/kWh energy rate as HQ.
Transmission is the main cost. NEM
has a transmission contract that approximates closely HQ’s current open-access transmission
fee of 1.25 c/kWh. NEM may also have to
pay additional transmission fees in jurisdictions beyond Quebec depending upon
the location of the sale.
Recent History: Export
Prices Trending Down
The
graphic below shows that the best days for US electricity export ended long
before Muskrat was sanctioned. 2017
prices are over 60% lower than 2008, driven primarily by natural gas prices
which have plummeted with the success of fracking technology for gas production
in many eastern US states.
Source: Hydro Quebec.com
Next,
consider this re-framed snapshot of CFLCo total earnings potential. If the 30,000 GWh taken annually by HQ from
Churchill Falls were sold by NEM at their net profit margin of 0.8 c/kWh, the
total earnings would be $240M. Given
NL’s 65.8% ownership of CFLCo, the return to NL would be $158M while HQ would
earn the balance of $82M.
Billion-dollar
yields from Churchill Falls are strictly history.
The Future: Ongoing
Downward Price Pressure
The
US Energy Information Administration (EIA) makes publicly available some of the
best statistics and forecasts needed for economic analysis. The latest EIA long-term forecast is for US
electricity rates is quite flat (negligible growth after inflation). The corresponding EIA graphic below reveals a
warning detail for energy generation businesses: their share of unit revenue within
the forecast is expected to drop 10% by 2050.
To
predict the impact on Churchill Falls profit margin, consider the roughly US 3
c/kWh energy price shown in the HQ chart above and then apply the EIA price drop
of 8-10% post-2041. It appears the
profit margin will fall by 0.3 c/kWh.
Followers
of energy technology may suggest the EIA’s pace of generation cost decline is too
subtle. Wind turbines and solar panels
are winning record low energy supply contracts around the world and surely the
trend is going to continue to be impressive over the coming decades. More disruptive will be energy storage which is
already taking off on a small scale and some research suggests it can be
utility-scale in a couple of decades. Ontario
already has 20 energy storage facilities in the works. Success of utility-scale energy storage would
leverage the performance of intermittent renewables leading to the obsolescence
of many existing power plants: this is a big threat to remote generation sites like
Churchill Falls.
Rising Operating Costs
Churchill Falls operating and maintenance (O&M) costs
have steadily risen and equate to 0.3 c/kWh at present. As the facilities will approach 70 years old
by 2041, there will be major sustaining capital investments driving O&M
cost substantially higher.
A modest program in the order of $500M could
have the impact of adding another 0.3 c/kWh to O&M costs. Such a budget could be exceeded on the CFLCo
transmission assets alone should the replacement of conductors, structural
upgrades to towers or other work be required.
If additional upgrades are required in the generating station or on
dikes and remote sites, then costs rise more.
For this analysis, a $1B capital program
resulting in 0.6 c/kWh cost increase by 2041 is predicted and this may be a
very conservative estimate.
Rising HQ Transmission Fees
NEM will have to continually renew its
transmission contracts with HQ, a cost that has a 100% certainty of increasing
by 2041. Like Churchill Falls, many key
HQ transmission assets will be 50-70 years and HQ will be spending major
capital on those assets both before and after 2041 and that will significantly
impact their calculation of transmission fees.
For this analysis, a near 50% increase over 23
years on the current HQ transmission rate is estimated: a unit cost increase of
0.6 c/kWh.
Adding Up the Possible Changes
The three primary adjustments described above
are summarized in the scorecard below starting with the existing NEM net profit
and finally, predicting the profit/loss in 2041.
c/kWh
|
|
2017 NEM net profit
|
0.8
|
2041
price decrease
|
- 0.3
|
2041
O&M increase
|
- 0.6
|
2041
HQT increase
|
- 0.6
|
2041 Total Changes
|
- 1.5
|
2041 Net Loss
|
- 0.7
|
Clearly the losses predicted in this very
simple analysis are not what the people of this province have been conditioned
to expect. Whether Government and Nalcor
have similar insights is unknown but based on their handling of Muskrat Falls it is very doubtful. Yet the time to be
accurately informed and prepared is now as market opportunities to keep
Churchill Falls running beyond 2041 are going to be few and far between.
Key Market Opportunity – Offsetting Ontario Nuclear
As prospects of exporting energy to the US
after 2041 increasingly vanish, the best fit for Churchill Falls power likely
exists in Ontario where a substantial part of their nuclear fleet is scheduled
for a series of refurbishments over the next 15 years, as shown below. Churchill Falls energy, in the long run, could
offset several nuclear reactors.
There are many informed critics of the risks of
Ontario’s nuclear refurbishment program who believe few if any of these
refurbishments should be allowed to proceed and that lower risk alternatives
exist for Ontario ratepayers.
Recognizing key risks, the project management process being used on
these projects allows the option to terminate the project should delays and
cost overruns become onerous.
The new Quebec Premier has not been shy in campaigning
on the potential for Hydro-Quebec to offer cheaper energy to Ontario than it
would get from the Darlington project (Globe and Mail, Konrad Yakabuski,
Oct.24, 2018). The new Ontario Premier
may be inclined to listen although the range of business interests in his
province supporting the refurbishment projects are quite entrenched and
powerful.
There is a new wrinkle though as Ontario faces
potential energy shortages due to both the lost capacity during the nuclear
refurbs and Premier Doug Ford’s recent cancellation of many renewable projects.
Ontario’s Independent Energy System
Operation is now predicting a 1300MW capacity shortfall in 2023 and up to 3500
MW later in the decade as Bruce units are taken down (Globe and Mail, Shawn
McCarthy, Oct.15, 2018).
This Province must ensure it is part of any
conversations and negotiations and position itself as ready to commit
post-2041 Churchill Falls energy to the solution. This would allow customers to consider
their long-term supply needs beyond the risks tied to the HQ contract expiry in
2041.
One thing is for sure, Hydro-Quebec will be at
the center of any such supply arrangement and should be expected to put their
own interests first, potentially building new hydro facilities in Quebec that
will threaten to strand Churchill Falls energy post-2041. Simply renewing a contract for Churchill
Falls to maintain and serve Labrador power needs economically could be the sole
post-2041 goal for NL.
If Ontario stays the course with its current
nuclear refurbishment program, their next round of refurbishment would be due
in the 2040s and 2050s. New Brunswick’s recently
refurbished Point LePreau nuclear plant would be due in the 2040s as well. By that time, however, technology advances in
renewables and energy storage will likely be proven better than either nuclear refurbishment
or importing increasingly expensive long-distance hydro power.
Should hydro power markets face serious long-term
decline, Hydro-Quebec may choose to cut its losses starting with Churchill
Falls, leaving Labrador an isolated non-exporting market. Unless there is furious industrial growth
within Labrador on an unimaginable scale, the cost of operations at Churchill
Falls will not be sustainable. Abandoning
Churchill Falls and powering Labrador entirely from Muskrat Falls might seem a
better fit but could Muskrat even operate if the Churchill Falls up-river infrastructure
is not maintained and controlled beyond 2041?
Not only are major windfalls from Churchill
Falls unlikely post-2041 but perhaps in 23 years time, the most economic option
could result in Hydro-Quebec supplying all Labrador interconnected power.