Making Money on the Rising Cost of Utilities

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Making Money on the Rising Cost of Utilities

WHITEFISH, MT / May 15, 2014 / The unseasonably cold winter attributed to the polar vortex had people around the country ranting about skyrocketing electric bills.  At the same time, organizations are advocating for - and the government is implementing - tighter regulations on toxic emissions and greenhouse gases to reduce the effect of climate change.  Take a look at the aggregate and there’s a supply versus demand problem that leaves majors in the utilities industry, like Duke Energy Corp. (NYSE: DUK) or Edison International, Inc. (NYSE: EIX), in the positions where they have to charge more, while emphasizing the importance of mainstream acceptance of greener and more cost-effective technologies, such as that of American DG Energy Inc. (NYSE MKT: ADGE). 

Painting the Background of Rising Electricity Costs

"We are now in an era of rising electricity prices," said Philip Moeller, a member of the Federal Energy Regulatory Commission, in a Los Angeles Times article last month.  To better understand why, take a look at the substantial headwinds traditional electricity production is facing. 

According to the Annual Energy Outlook 2014 released this month by the U.S. Energy Information Administration (EIA), total electricity demand will grow by 29 percent (0.9%/year), from 3,826 billion kilowatt hours (kWh) in 2012 to 4,954 billion kWh in 2040.  In 2012, 37 percent of the electricity produced in the U.S. was derived from coal, long held as the cheapest, albeit dirty, method of electricity production.  Nuclear power accounted for about 20 percent of electricity production.  The Associated Press reported that new Environmental Protection Agency clean air regulations will force the closing of 32 mostly coal-fired power plants, with another 36 threatening closure if new standards can’t be met.  24 plants are already scheduled for decommissioning.  One of them on the chopping block is Duke’s largest coal-ash facility, the Eden Plant in North Carolina that has been criticized for possible water pollution.  Estimates are that the new regulations going into effect in 2015 will strip the U.S. of approximately 60 gigawatts, or 20 percent, of capacity by 2020 resulting from shuttering coal-fired plants.

Add in the EIA predicting that another 10.2 gigawatts of capacity will be lost through decommissioning of nuclear reactors through 2019 and the inexpensive electricity supply problem starts to gain clarity, which facilitates additional rises in costs.  While nuclear power is a carbon-free energy, it’s controversial because of its potentially disastrous local impact and high costs if things go wrong.  For example, Edison International portfolio company Southern California Edison in 2012 decided it was more economical to shut down two nuclear reactors at its San Onofre plant after discovering cracks in the steam generator system.

"Everywhere you turn, there are proposals and regulations to make prices go higher.  The trend line is up, up, up." said Daniel Kish, senior vice president at the Institute for Energy Research, in the LA Times article.

Rising Electricity Prices Good for American DG Energy

In the stock market the number one rule of thumb is don’t fight the trend and this is the case with rising electricity prices.  The biggest headroom for growth rest in companies finding economical ways to provide solutions arising from the negative side of the trend.  To explain that logic, consider that the new standards to reduce the environmental impact of energy are here to stay and do have a strong benefit for our planet, yet unfortunately are accompanied by higher electricity costs.  American DG is delivering an optimal solution, providing combined heat and power (CHP) systems that amplify both sides of the paradigm by reducing energy costs for its clients and further slashing emissions. 

CHP is a process of producing two different types of energy from one source.  In the case of American DG Energy (and the majority of CHP applications worldwide) the source fuel is natural gas, which is used to generate electricity.  In the process of creating the electricity, lots of so-called “waste” heat is created, which wafts to the sky, making traditional electricity production processes only about 1/3 efficient – meaning that far more energy is lost than created.  CHP captures the waste heat and utilizes it for other energy needs, such as hot water, space heat or to power chillers, for example, making it about 90 percent efficient.

Because of the nature of repurposing the thermal energy, ADGE targets customers with high hot water demands, such as those with hospitality, leisure, healthcare, housing and athletic facilities, where the two energies can be most efficiently rationed to meet electric and hot water needs.

"I actually don’t care for the term ‘waste’ heat, because it certainly isn’t waste to us," said Barry Sanders, President and COO of American DG Energy, in a phone conversation.  "The byproduct of thermal energy from electricity production is, in fact, very valuable as a means to maximize efficiency and reduce emissions to an exponential order as a solution to everyday challenges businesses face to contain costs and operate in an environmentally-friendly fashion."

According to the company, each CHP system is designed specifically for a client and designed to optimally run 24 hours per day; meeting 70% to 80% of the clients hot water needs and 30% to 40% of electric needs, vastly reducing any drain on the electrical grid.  Pricing is based upon current natural gas and electricity rates, for which American DG Energy guarantees their customers to save at least 10 percent on energy produced by their CHP system compared to the utility provider’s rate.

The Hedge

Rising energy costs, regardless of origin or type, drive top and/or bottom lines for ADGE.  By covering both hot water and electricity and billing set by the local utility provider’s rates, the company actually has a natural hedge built into its business model to maintain solid financials.  Say, electricity prices rise, but natural gas prices are down, then American DG Energy’s margins widen because they use natural gas as their source fuel and can bill clients based upon current pricing for the electric their CHP system produces, as well as the thermal portion which is natural gas based.  If the price of a thermal unit of natural gas doubles, ADGE is hedged based on its sales of thermal (hot water) which is typically also priced based on natural gas pricing.So, their total revenue will double at the same time because the vast majority of their customers are already using natural gas to power boilers to meet hot water needs.  Moreover, boilers typically operate at about 66% efficiency, so it is easy to see how the efficiency of ADGE’s system works to the benefit of the company and client.

New natural gas-fired generators are expected to make-up much of the slack in capacity reductions pertaining to new government standards, especially given the fracking boom throughout the U.S.  With that, there is open debate about where wholesale costs of natural gas will go in the future, but it’s likely up as demand escalates.  For companies like American DG Energy, the prices can go wherever they want and it still should benefit shareholders with either higher sales or higher profits, or both.

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SOURCE: Emerging Growth LLC