(Bloomberg Opinion) — Well, this seems awkward:
That was Chris Crane, CEO of Exelon Corp., answering a question about potential state subsidies for his company’s merchant nuclear plants on an analyst call back in 2014. Seven years on, Illinois lawmakers just enacted an energy bill that … bails out Exelon’s merchant nuclear plants there. This isn’t to dunk on Exelon. Rather, Exelon’s experience captures the whiplash in U.S. utilities over the past decade or so.
Back in October 2008, when Crane was COO, Exelon launched a hostile takeover bid for NRG Energy Inc. NRG was a merchant generation business, meaning it sells power wholesale in deregulated markets rather than getting a regulated return like a traditional utility. Merchant generation has more exposure to commodity prices and is, therefore, higher risk but also has potential for windfall gains if the market gods are with you. Exelon was, and remains for now, a hybrid of the two businesses.
When Exelon announced the NRG bid, Crane led the pitch by noting it would create the largest merchant fleet in the U.S. Then CEO John Rowe added: “I firmly believe that climate change legislation is coming and the value of Exelon’s low emissions nuclear fleet clearly stands to benefit.”
This all made sense at the time. Natural gas prices were high, which meant electricity prices were also high — and Midwestern nuclear power plants could earn fat margins. Profits in Exelon’s generation arm had more than doubled in the space of three years and accounted for three quarters of the company overall. The presidential candidates seeking election the following month, Barack Obama and John McCain, both favored a carbon cap-and-trade system, also to nuclear power’s benefit. Plus, the financial crisis that fall had crushed NRG’s stock price.
And yet none of this lasted. Natural gas headed into a decade-long bear market, weighed down by booming shale production. Wholesale power prices also suffered from flat demand and the increasing role of renewable energy. Cap-and-trade, meanwhile, scraped through the House before dying in the Senate, and Republicans swung hard right on climate change. NRG muddled through the credit crunch and fended off Exelon’s attentions.
Nonetheless, when Exelon announced a $10 billion deal for Constellation Energy Group Inc. in 2011, Rowe went out of his way to emphasize he still expected a recovery in power prices. He noted some analysts had been “concerned” that Exelon might buy a fully regulated business instead. If only it had. A year after that deal closed, Exelon was forced to cut its dividend as generation profits collapsed. A year later, in 2014, it announced yet another deal, $12 billion this time, for a regulated utility operator, Pepco Holdings LLC. That’s when Crane, now in charge, rebuffed talk of state subsidies for those struggling nuclear plants.
Sam Brothwell, director of research at Energy Income Partners LLC, sums it up: “Four years after it bear-hugged deregulation with a hostile run at NRG, Exelon slashed its dividend, pivoted to its utility, and saw its golden goose start to look like a goose egg.”
Deregulation elevated power generation to something like a sexy trading business beginning in the 1990s, and Enron Corp.’s collapse — along with several generator bankruptcies — didn’t discourage that completely. It took a combination of the financial crisis and cheap shale gas to force a final reckoning (at least for listed generators; savvy private equity players did well). Besides the psychological scars of 2008, zero interest rates suddenly made utility dividends seem less dowdy. Especially as investment in grids was picking up and regulators kept rates of return stable even as bond yields fell.
The balance between markets and regulation also shifted heavily toward the latter when it comes to climate policy. At this point, talk of cap-and-trade, or even a tax, while economically defensible, looks politically quaint at best. Rowe’s instinct that carbon would be priced was correct. But his timing was off, and the mechanism turned out to be nothing like what he talked about. Instead, state regulators, and not just in Illinois, have enacted subsidies to support Exelon’s plants rather than watch the company shutter them. And now President Joe Biden is pushing for something similar at the federal level.
Exelon, meanwhile, will soon spin off that merchant power business that, not so long ago, defined its future. The subsidies won’t change that; just make it easier to part ways. It comes at a time when, from Spain to California (and Illinois), the challenge of decarbonizing energy while also maintaining access to it is being met with more pronounced government intervention. Recall that Exelon’s failed tilt at NRG came amid an existential crisis for the invisible hand’s legitimacy. In there may also lie the roots of how mandates supplanted markets in energy.
This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.
Liam Denning is a Bloomberg Opinion columnist covering energy, mining and commodities. He previously was editor of the Wall Street Journal’s Heard on the Street column and wrote for the Financial Times’ Lex column. He was also an investment banker.