Please ensure Javascript is enabled for purposes of website accessibility

How Electricity Power Producers Need to Adapt to the Future of Energy

By Travis Hoium - Mar 19, 2017 at 11:18AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

The wholesale power business is dying and independent power producers need to look to new technologies for growth. Here's how.

The wholesale power business used to be predictable and profitable for independent power producers (IPPs) because of the nature of the industry and the slow and steady growth in demand from electricity customers. Peak power prices were high and prices generally rose as demand grew. But the last decade has been surprisingly bad for some of the country's biggest IPPs, as you can see in this chart of the stock prices of Calpine Corporation (NYSE: CPN), Dynegy Inc. (NYSE: DYN), Exelon Corporation (EXC 1.47%), and NRG Energy Inc. (NRG -0.77%)

Falling natural gas prices led to some of the problems because new gas plants were built and became more competitive than coal plants, leading to falling wholesale prices and lost revenue for older assets. Stagnant demand from electricity customers has also hurt IPPs as a whole. But renewable energy has been surprisingly damaging and it's this new energy source that IPPs need to adapt to or face the very real risk of going out of business. 

NRG Chart

NRG data by YCharts.

How renewable energy upset the utility model

In simple terms, the traditional electricity structure has been wholesale power producers (WPPs) providing electricity to regulated utilities that distributed and sold that energy to customers. These businesses are normally separate with some regulated utilities owning unregulated IPP arms and some companies focusing on one segment of the market.

As power was needed, there was a level of order to the market with nuclear and coal providing base load power and natural gas plants filling in where needed. Peaker plants that ran only at times of high demand could command the highest price on the wholesale market because they were the only ones who could provide the peak demand to keep the grid running. Bloomberg recently went through an example of how this dynamic worked in Texas

One thing that upset this model has been the growth of renewable energy. Wind and solar power plants are not only normally contracted to get paid for electricity no matter what they produce, their operating costs once they are built is almost nothing. That can lead to lower demand for fossil fuel electricity when the sun is out or the wind is strong. And if they're bidding into wholesale markets, it can even push wholesale prices negative for a short period of time. It's as if renewable energy jumps to the front of the line, cutting out demand for IPPs. 

Solar energy has been particularly problematic, shaving off the high cost peak energy demand that IPPs used to count on to pad their revenue on hot summer days. When the sun is out and air conditioning is blasting across the country, it used to send wholesale spot prices through the roof. Now, that's when solar power plants perform best. 

A power plant by the water shown at sunrise.

Image source: Getty Images.

IPPs are dying, so they should look to energy storage for growth

With wind and solar power now cost competitive with fossil fuels and lower cost in many places, the dynamic that's strangling IPP's financials isn't going to slow down. Most IPPs are adapting by buying renewable energy power plants, but that's only one solution they need to explore. 

I think IPPs need to start looking at this as an opportunity to make a new market for energy storage. Renewable energy's biggest drawback has always been that it's not a consistent source of power to the grid, and that's long meant spinning reserves have been required to keep the grid operating. But energy storage could fill that gap and provide ancillary value to the grid like frequency regulation and the offset of capital equipment upgrades. 

IPPs could perform some energy arbitrage with energy storage, and if they had long duration storage like flow batteries or hydrogen, we could start using more solar energy saved and used during winter months. Companies would have to help develop rate structures that would make energy storage economically viable, but with the traditional IPP market in trouble, this could be a way to build a business for the future. 

For utilities, regulators, and customers, there could be huge advantages as well. Energy storage in sufficient scale could mean the end of peaker plants as we know them, cutting the most expensive energy source from the grid. It would also allow the grid to use more renewables, which customers large and small are driving today. 

It's time to think innovatively about the future of energy and IPPs will be in trouble if they don't. Energy storage is a great place to start looking for struggling IPPs, and if they play their cards right, they could develop a profitable business driving more renewable energy adoption, rather than watching renewables slowly kill their traditional power plant business. 

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

Exelon Corporation Stock Quote
Exelon Corporation
$44.26 (1.47%) $0.64
NRG Energy, Inc. Stock Quote
NRG Energy, Inc.
$37.30 (-0.77%) $0.29

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
S&P 500 Returns

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/07/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.