Europe's utilities dash for gas

Nov 26, 2009 01:00 AM

by Matthew Curtin

European utilities are in a dash for gas. Italy's Enel is the latest to join the rush, aiming to be 10 % self-sufficient in gas, excluding its integrated Russian gas and power business, by 2020. German rival RWE wants to double its hydrocarbon reserves by 2013.
Why are the utilities, particularly highly leveraged ones like Enel, bothering?

Upstream assets don't come cheap. Leading exploration companies Anadarko Petroleum and Tullow Oil are trading on 52 times and 99 times 2010 earnings respectively. Asia's national energy companies are increasingly competing for energy assets against the oil majors.
European energy demand has slumped. It may take two years or more to recover to pre-recession levels. With gas prices currently low, chasing upstream assets seems a poor alternative to relying on long-term supply contracts.

One answer is that the recession has cut two ways. It has curbed supply as well as demand. Energy-sector investment has been postponed, equivalent to roughly 7 % of world oil and gas demand.
Meanwhile, Enel reckons a third of current gas fields will have to be replaced by 2020 for current supply to be maintained. Gas is vital for keeping the lights on in Italy and the UK where it is responsible for 57 % and 47 % respectively of electricity generation.

But Europe has another problem. Governments are committed to reducing emissions of carbon dioxide by 20 % by 2020 by generating 20 % of the region's electricity from renewables. This has created a dash for wind.
But wind is an intermittent power source and no substitute for investment in base load generation to compensate for lapses. At the same time, old coal-fired and nuclear power plants are closing across Europe.

The utilities are naturally concerned European demand for gas will soar regardless of the economic climate. To prevent blackouts, the no-emission policy bias may give way to a low-emission one given the relatively short lead time in building gas-fired plants: three to four years compared with double that or longer for coal and nuclear.
Meanwhile, Asia's gas consumption is rising fast, possibly accounting for 80 % of new demand by 2020 compared with 70 % today.

Enel and its peers don't want to be caught without gas reserves of their own should the market change violently in the years ahead.
The 30 % premium that French and German forward electricity prices are trading to spot levels suggests they are right to be worried.

Matthew Curtin has been a financial journalist since 1990. He has written on international finance and business -- from South Africa, Singapore and France -- since 1994.)

Source / Dow Jones & Company, Inc.
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