November 6, 2019

Selecting utility stocks that see sunnier prospects in the winds of change

by Hugh Smith.

The fight against climate change can feel daunting at times, with economics and regulation providing various obstacles to progress. However, the power sector shows encouraging signs. The cost of electricity generation, including operating expenses and capital expenses, over a plant’s lifetime is now lower for solar and wind power than coal, according to The Economist.

Regulators set rates for electricity at a level that covers utility companies’ costs (fuel inputs, for example) and provides a regulated return on capital invested (infrastructure); in the United States this regulated return is about 10 per cent.The varying prices of fuel inputs are simply passed through to consumers, and a regulated return can’t be earned on spending on fossil fuel inputs.

Wind and sunshine, however, are free inputs and a regulated return can be earned on infrastructure investments in wind and solar power generation. The lower input costs result in lower costs for consumers and the utility earns a healthy, regulated return on its investment.

We have looked at utility companies that are taking advantage of these trends and would benefit from (potential) further shifts in regulation (such as carbon pricing, for example) and consumer preferences toward renewables.

  • First we look at the amount of renewable energy companies are producing and require an absolute figure of at least 10 million gigajoules annually, and at least a 20% increase over the past 3 years.
  • Next, we look at the percentage of total energy produced and distributed that comes from renewable sources and require at least 25%.
  • Finally, we consider firm’s goals for reducing carbon emissions and require at least 20% by no later than 2030.

Here’s what we found

The Canadian company, Fortis, that passes the screen generates more than 55% of its revenue from the US and recently disclosed some promising figures in its 2019 Sustainability Update: the average greenhouse gas intensity of electricity delivered in 2018 was less than 25% of what it was in 2018, and its Tuscon (Arizona) Electric Power subsidiary is set to meet its 30% renewable target 9 years ahead of schedule.

Hugh Smith, CFA, MBA is Director of Refinitiv’s Investment Management business for the Americas, and is a Director on the Board of the Responsible Investment Association of Canada.

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