The improvements in the draft for coal legislation in Germany could imply a better than expected outcome for the sector. Montpellier Analysis estimates no early closures on the back of the current proposals. The relief is greater for E.ON than for RWE.
The German Economy Minister has presented amended proposals for new coal legislation. By and large, the new proposal is an improvement for the sector, chiefly Vattenfall and RWE: The amount of CO2 reduction from coal has been brought down to 16mt, from 22mt. Further, coal plant would have to pay emission levies after 37 years of operation, rather than 20 years in the previous draft. The levy itself would now be indexed to power prices, as opposed to being decreed according to the old proposal.
The final shape of legislation is far from clear. Chancellor Merkel needs to be seen to take some action, in light of her comments at the Paris climate change meeting. But, large parts of the CDU are against the coal bill sponsored by the junior coalition partner. Emotions on coal, for and against run high, and the mining lobby is strong, it must not be forgotten.
A shut down would have implied the end of operation of all coal plant of RWE and E.ON that is older than 37 years. RWE’s share of coal plant with current operating age of 37 years or more is 7.2GW, E.ON’s 2.8GW.
A levy according to the previous proposal would equate to a shut down. Montpellier Analysis estimates a marginal cost of old coal plant in the region of Eur 28/MWh. A levy of Eur 18-20 Per ton of CO2 as it has been in the early discussions, would bring that to Eur 46-48/MWh, compared to the current power price of Eur 32/MWh.
In the theoretical case of such a shut down, and not considering any nuclear shut down, the big winner would have been gas. There would have been an immediate shift down the merit order, even if some of the demand would have been filled by more renewables.
Adding the nuclear closure would have left the system in perilous undersupply by 2020 already, according to our models, even when building in full achievement of the country’s renewables build and energy efficiency targets. That thought may contribute to the final shape of legislation.
About 5.5GW of plant by E.ON, RWE and Vattenfall would no longer be covered by the emission levy under the new draft.
According to our calculation, the new proposal leaves enough room before the emissions levy kicks in to let coal plant run at load factors of 65-70%. That is a normal utilisation rate for hard coal or lignite plant, but far above the actual runs rates of plant in Germany currently.
The direct implication is that there would be no impact on power prices from the legislation in the medium term.
There is risk of a gradual reduction of the emissions ceiling, in our view.
The chance that upward movement in CO2 prices on the back of political measures will accelerate the process can also not be fully ruled out.
On balance, the near term impact is bearish for gas plant, but there is a marginal improvement to prospects for gas plant profitability over the longer term.
Whilst the immediate relief reaction on RWE shares is intuitive, fundamentally it may be less than commonly thought. RWE won’t de facto lose 16% of its fleet. Still, the underlying problem of low utilisation and weak profitability of conventional generation remains. We gage the impact of all of the above is worse for RWE than for E.ON. E.ON benefits from a more competitive hard coal exposure and stacks up relatively better.