Atomic economics

As developed countries across the world reawaken the nuclear power debate, the nuclear industry finds itself faced with a new challenge: how to find the right balance between public and private financing.

Robin Rowshangohar, Assistant Editor

Over the next 50 years the world will have to double the current level of energy production, while somehow managing to halve today’s level of carbon dioxide emissions. A conundrum that leaves far more scratched heads and sore throats than answers.

The case for nuclear is gathering momentum in many key markets. President Bush, in his speech at the recent signing of the country’s new energy bill, declared that the US would be building new nuclear capacity before the end of the decade. With an energy review in the near future, the UK energy minister says he is “genuinely open minded” about the future of nuclear energy.

While it is a subject that could be debated endlessly without a conclusion that keeps all parties happy, time is a luxury that can not be afforded if nuclear energy is going to be part of the solution to global warming. Nowhere captures this problem more perfectly than the UK.

If the UK’s current nuclear decommissioning programme continues with no new plants built to replace the old, by 2020, nuclear energy will account for just seven per cent of the generation mix, minimizing its role in the government’s ambition to achieve a 60 per cent reduction in carbon dioxide emissions from 1990 levels by 2050. When the time it will take to see the construction of new nuclear builds from planning to commercial start-up is factored in, the situation becomes even more pressing.

As Derek Holt, editor of Financing the Nuclear Option: Modelling the Costs of New Build, published by economic consultancy firm Oxera, said: “In short the government can’t afford to keep the nuclear option ‘open’ for much longer unless substantial progress is made in reducing carbon targets by other means.”

The challenge

Oxera has calculated that by 2025, eight 1 GW nuclear reactors would have to have been built if the level of nuclear generation is to reach the same levels as 2003. The British government is keeping the option open, while private companies will never invest as long as there is uncertainty, at least not if the returns are not tempting enough. The Oxera report states that the return from a nuclear power plant investment would be around 11 per cent under the base case scenario of à‚£30/MWh ($54/MWh) as depicted in Table 1. When compared with the 18 per cent return most onshore wind project investors can expect, it is easy to understand why potential private investors are waiting for the government to make the first move.

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“Investors want as much certainty as possible and any additional uncertainty only serves to create the desire for higher returns. A private investor is always going to put their money where the highest return is, having factored the level of risk into the equation.” says Gareth Davies, managing consultant at Oxera.

The two major risk groups, underlying and regulatory policy, must therefore be clearly identified if a private investor is going to be able to calculate the return rate required before they even contemplate the matter of investing. The need is compounded as nuclear plants demand a comparatively large level of investment upfront. However, identifying these risks is easier said than done as the sheer scale of a nuclear power plant build programme requires a longer term forecast than it is possible to predict.

With so much risk unable to be accurately calculated, support and reassurance has to come from another source. Although the market could be tweaked in a way similar to that used to promote renewables, central planning by many governments is a thing of the past.

Finance model

One of the dynamics of operating within a liberalized market is that technologies are also in competition with each other and technologies that are financed from borrowed funds will always demand a higher rate of return.

The Nuclear Industry Association has argued that a large scale building programme is the only way nuclear energy will be economically viable. For instance, there are many other more favourable options if a company is looking to create another 1 GW of capacity. Not only are there cheaper options in terms of initial investment, but construction of a single nuclear plant will not benefit from the economies of scale or the cheaper costs presented after the first of a new technology is commissioned. Oxera has calculated that the greater risks from overruns and time delays associated with first builds will cost the commissioning firm an extra 20 per cent. The UK has never previously enjoyed the benefits of building a fleet of reactors as each of the country’s 11 Magnox stations were built to a different specification.

Under the finance model prepared by Oxera, a fleet of eight 1 GW reactors could be financed by à‚£3 billion of equity and the most realistic government support with this figure is likely to be in the form of capital grants or loan guarantees. The economic consultancy has calculated that if cumulative capital grants of à‚£1.6 billion were provided, the rate of return for investors could rise to 17.5 per cent and it would reduce the investment required from private investors to à‚£2.8 billion. Similarly, if à‚£3.2 billion of debt guarantees were issued, the return rate could be boosted to 14.5 per cent.

Figure 1. Nuclear new build: sensitivity analysis of equity returns (Source: Oxera)
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With such high up front fixed costs, nuclear power plants are particularly exposed to market price fluctuations and the uncertainties that arrive hand in hand with trying to predict electricity prices for the next 60 years. This opens the door to one set of potential investors who are in a prime position to guarantee the price of power: the utilities. However, the idea of guaranteeing a fixed price for output has seen many major power consumers in France decline to help finance the EDF-led European Pressurized Reactor project.

A recent nuclear build that has successfully secured private finance is the 1.6 GW Olkiluoto plant being constructed in Finland. The project is being jointly financed by TVO (25 per cent) and a number of international banks (75 per cent). TVO, a consortium of forest industry and public energy companies that produces electricity for its shareholders, was able to secure a fixed price of €3 billion ($3.7 billion) for the project. It was the fixed price that was the real coup, enabling it to agree an interest rate of just 2.6 per cent with the banks. The largest private deal in Finnish history proves that it can be done, but whether banks and companies would be prepared to accept such a tight deal again is questionable.

Beyond the risks associated with the power plant output and construction costs, decommissioning and waste issues are likely to represent another problem that needs to be overcome, although the risks in this aspect are not as high as they once were. The nuclear industry will have to be reassured that its liabilities in terms of accidents and waste management are limited to a minimum with the public sector shouldering the majority of the responsibility.

The managing director of the nuclear business of the international project management and services company, AMEC, Bob Churchill, told his company’s in-house publication: “It will be cheaper and much more manageable process to shutdown and decommission the new stations. It’s a different world. Things have moved on so much.”

Modern nuclear power plants are much more efficient than the reactors built in the 1960s and 1970s. Total investment costs for new nuclear capacity using the most recent designs range between $2000/kW and $2500/kW. Some estimates even place Westinghouse’s AP1000 as low as $1000/kW.

The role of government

Governments will have to allay fears surrounding risk if nuclear is going to have a chance of standing on its own feet. Even if industry has the will to start a build programme on its own, Oxera’s analysis suggests that it will struggle to secure the necessary finance. A strong policy framework that recognizes a modern energy source mix made up of fossil fuels, renewables and nuclear will have to provide leadership from the start.

As fossil fuel prices continue to ride high with little sign of a downturn in the near future at least, there is little doubt that market conditions are more favourable to nuclear than they were just a few years ago. But significant barriers remain and until these are overcome private capital is unlikely to be forthcoming.

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