Economic challenges and operational hurdles will have long-term impact on utilities post-Covid-19

GlobalData Energy 29 May 2020 (Last Updated May 29th, 2020 11:27)

Economic challenges and operational hurdles will have long-term impact on utilities post-Covid-19

The Covid-19 pandemic has upended day to day activities and forced governments to take preventative measures to kerb virus transmission. These measures have resulted in a slowdown of commercial activities and exposed various industries to a great degree of uncertainty and risks. Unlike other industries that have come to a halt or are operating at lower levels, power and utility companies continue to operate, as the provision of electricity has been deemed essential by governments across the world.

In the current environment, the changes forced by the prevalence of Covid-19 in the society will create additional challenges that could have detrimental impacts on a utility’s business outlook. Economic and operational hurdles are emerging, primarily due to reduced workforce and drop in power demand. These hurdles would have a knock-on effect on other aspects of a utility’s business such as drop in credit ratings, inability to honour power agreements, and liquidity issues.

While utility business models are resilient and have been exposed to various crises in the past, the unique and unprecedented nature of Covid-19 and its consequences are creating an entirely new conundrum. The evolving market scenario has prompted the implementation of business continuity measures by utilities to support and manage critical functions and grid infrastructures.

As the pandemic continues to influence daily lives, utilities would be exposed to economic downturn conditions, such as financial market volatility and erosion of market capitalisation, credit and liquidity concerns, increase in government intervention, increasing unemployment and declines in consumer spending, production curtailment because of demand constraints, and other restructuring activities. The progress and continuation of these factors could have a prolonged negative impact on a utility’s financial condition and results.

Decline in power demand

The widespread transmission and societal effect of Covid-19 has resulted in a decline in the demand for power. Lockdown measures have forced commercial and industrial sectors to temporarily halt or reduce their operations, which have seen the demand for power decline in various countries across the world.

According to Carbon Brief, power demand in Europe, between 28 March and 26 April, declined by an average of 14% with many countries ranging between 10% to 20%, in comparison to the same time period last year. This trend is evident in other regions as well. In India, according to an estimate made by Confederation of Indian Industry (CII), the lockdown until 3 May 2020 could result in a drop in demand compression of approximately 33 billion to 36 billion units of electricity, which corresponds to a net revenue loss of Rs25,000 to Rs30,000 crores at the distribution level. Decline in revenues could add financial stress and create liquidity concerns for a utility.

Depressed power prices

The decline in demand created a supply glut in the market that consequently led to the decline in wholesale market prices. Electricity markets across the world have seen a significant drop in wholesale prices and in certain countries in Europe such as Germany, France, and Belgium, prices have turned negative. Vertically integrated utilities with power generation assets will find themselves in a precarious situation, as the decline in demand is further compounded by low wholesale power prices, which in turn cuts into their bottom-line.

Furthermore, low prices can hurt power plants’ revenues, as well as O&M investments, and debt payments. The current price level would also make it difficult to justify capital investments and many new projects are likely to be deferred until the market reaches a viable price threshold.

Increased operation costs

Various costs that are being incurred by utilities in providing uninterrupted service, during the period of significant constraints, are collection shortfalls, continuing service to non-paying customers, and increased operational burdens from managing a distributed workforce. Utilities have pledged or were asked not to suspend disconnections for vulnerable sections of the society for failure to pay bills, waive fees for late payment, and limit the financial burden on customers. According to the Energy and Policy Institute and the National Association of Regulatory Utility Commissioners, utility regulators in at least 27 states in the US have issued similar orders.

Utilities will need to find ways to recover this lost revenue, as orders have also been issued to not stop paying generators for the electricity they provided. In India, utilities have called for cancelling or renegotiating of PPAs, which has been dismissed by the Ministry of New and Renewable Energy (MNRE). Moreover, market regulators are unlikely to entertain proposals to force cash-strapped customers to repay what they owe in the short term.

Furthermore, utilities are paying overtime to cover for sick employees, buying face masks, and other protective gear for those who interact with the public, and sequestering critical grid and power plant operators. In the short term, utilities will need to focus on managing their working capital and the liquidity impact of delayed or default bill payments effectively, to mitigate the associated fiscal risks. Many utilities could emerge with weaker financial metrics and would be forced to cut spending to shore up their cash reserves to cover their liquidity needs.

Upcoming project delays and deferred maintenance

Apart from demand and prices, the pandemic is impacting construction and operations activities for the electric sector. The likelihood of deep economic downturn combined with potential lost revenue could delay some large capital projects, as utilities are likely to exercise financial caution in the short term.

In addition, supply chain challenges remain, which threaten under-construction projects. Similarly, operations and maintenance activities are being deferred. The failure to perform the needed maintenance work could lead to performance deterioration and complete asset failure in the long term. For example, nuclear fleets often conduct refuelling and planned operations outages in the spring.

Few of the projects that have stalled due to coronavirus:

  • Venelle Wind Farm: The wind farm in France is partially commissioned with six turbines but the construction of the second phase (10 turbines) has been pushed back due to delays in turbine availability.
  • Sokoria Geothermal Power Plant: The geothermal plant of 5 MW in Ende Regency, East Nusa Tenggara in Indonesia was originally targeted to be operational in February 2020, but now it is estimated to shift to 2021.
  • Los Lagos Hydro Power Plant: Statkraft has decided to put the construction of the 52MW Los Lagos hydropower project in Chile on hold. Civil works will be paused but the adequate emergency and security staff will remain on site.
  • Offshore wind projects: Five of Orsted’s U.S. offshore wind projects totaling nearly 3 GW are expected to face delays due to the coronavirus crisis and slowed permitting. The 120 MW Skipjack for Maryland and the 130 MW South Fork for New York are to be delayed beyond their planned completion dates in 2022. Meanwhile, the 704 MW Revolution Wind for Rhode Island and Connecticut, 880 MW Sunrise Wind for New York, and 1.1 GW Ocean Wind for New Jersey face increased risk of delays.

Covid-19 is having a detrimental impact on a variety of aspects from plant economics to workforce implications, which are disrupting the utilities’ short-term economic performance and operations. Utilities have implemented measures to ensure reliability of services and workforce productivity, during the ongoing unprecedent crisis, and would need to effectively manage O&M costs, as well as work through existing arrangements. Utilities need to be wary of the reduced ability to cover O&M costs in the near-term and also the reduction in revenues.

The long-term impacts of the current disruption are uncertain, as the length and severity of measures will determine the ultimate impacts. Even if quarantine measures are lifted, it is likely to take some time before the demand reaches pre-Covid levels, during which the resilience of utilities and other associated entities would be tested.