With many countries trying to reduce their dependence on fossil fuels, multinational investors are attempting to figure out how to profit from a renewable-energy industry that—instead of following market logic—inhabits a twilight zone of national subsidies. Spanish energy titan Iberdorola SA is betting on wind power, the fastest growing source of nonfossil fuel. Iberdola, the world’s largest renewable-energy utility, is spending 18 billion euro’s, or about $24 billion to acquire Scottish Power PLC, the U.K.’s leading wind-power operator in the U.S. The deal would create a group with combined revenue of 19.7 billion euro’s and market capitalization of 46 billion euro’s. How Iberdrola navigates the different and changing regulatory regimes around the world could set a precedent for investors in everything from biodiesel to solar power. Despite governments’ interest in alternative energies, the sector’s growth still relies on private investors willing to spend money now in hopes of cashing in if and when the sector becomes cost effective. Already, the rush to invest in different alternative-energy technologies harkens back to the gold-rush mentality of the Internet boom.
Iberdrola’s bet to make renewable energy, especially wind power, the focal point of its expression underscores the company’s confidence that governments will continue with supports for renewables. “The subsidy regimes underpin the economic viability of renewable energy everywhere,” says James Knight, a renewable-energy specialist with Augusta Co., a London merchant bank specializing in energy finance. The main variable that investors must weigh, he says, is government support. Whether renewable energy will soon to be able to compete economically with power sources such as natural gas or coal is the subject of debate. Many dismiss renewables as a fringe source of power. Others, led by Iberdrola, are betting renewable energy can provide solutions to two problems: security of energy supply, and climate change. Proponents also argue that wind power is already competitive if so-called external costs of traditional generation were included especially the cost of pollution, in the case of coal-fired plants, or the cost of dismantling and the storage of nuclear waste, in the case of nuclear reactors. For now, renewable energy still needs political mandates, and often public subsidies to get put in place. The European Union recently set a target of increasing the share of electricity produced by wind, solar power and biomass fuels to 20% in 2020 from 6.5% today.
The U.S. has a host of tax incentives and preferential price supports for renewable-energy technologies. Wind power now accounts for less than 1% of power generated in the U.S. But Iberdrola and other players, such as Acciona SA of Spain, must overcome hurdles that will determine future investments. Even though fossil-fuel prices have risen in recent years, and technological developments-such as new types of solar panels and bigger wind turbines-have lowered operating costs, electricity generated from renewable energy still isn’t competitive on price and may be for years. Generating a kilowatt hour of electricity using natural-gas fired turbines costs four cents to six cents, while coal-fired plants costs 2.5 cents to six cents, according to data from the International Energy Agency in Paris. Wind farms cost four cents to 14 cents to generate a kilowatt hour, depending on their size and how strong the wind is. Enrique Soldevila, a utilities analyst at Portuguese bank BPI, says that though politics continues to play a major role, the momentum is in wind power’s favor. “The world is full of regulated businesses, and there is always regulatory risk, but with the political climate increasingly worried about climate change and energy security, further support seems very likely both in Europe and the U.S.,” he says.
Price supports for wind power vary from country to country. Germany, the world’s wind-power leader with 20,000 megawatts of installed capacity, or 4.2% of its total electricity generation, established its wind industry through preferential tariffs for wind-power producers. The German government pays above-market prices for all electricity produced by wind power. In the U.K., utilities have “renewables obligations” that force them to source part of their generation from clean power. New growth in wind power, especially in Asia, is tied to subsidies and obligations for utilities to meet renewable-energy quotas. In the U.S., the renewable-energy industry depends on research incentives, tax credits and preferential price supports. The wind-power sector in particular relies on production-based tax credits that require congressional approval every few years, leading to a boom-and-bust cycle as companies withhold investment while awaiting tax-credit renewal. Though Congress voted early last year to renew the tax credits for another year, they still expire at the end of 2007.
Even in Spain, where wind power makes up 8% of the country’s electricity supply, the regulations are cloudy. Earlier this month, Iberdrola criticized Madrid’s plans to retroactively trim one of the world’s most generous renewable-energy subsidies. “Changing the rules of the game retroactively is very serious, and it makes it much harder to plan your investments,” says Jose Luis del Valle, Iberdrola’s head of corporate development. It is also difficult to rapidly expand wind-power capacity. Not all wind farms that are planned can be built, because the handful of wind-turbine makers are stretched to capacity. That means that utilities have to cherry pick where they will build new wind farms. They tend to favor locations that guarantee the most generous and stable subsidies, instead of where wind may generate the most electricity. “Investment will go where there is the most security and profitability,” Mr. Del Vallee says.
Last year, Iberdrola signed a $3 billion deal with Spanish wind-turbine maker Gamesa SA to build a spate of wind farms in the U.S. Scottish Power, through its PPM Energy Inc. unit, has installed about 1,600 megawatts of wind power in the U.S., and has plans to install an additional 9,000 megawatts of capacity. Together, Iberdrola and Scottish Power would be a wind-power colossus, with more than 6,000 megawatts of generating capacity in wind parks from the Scottish Highlands to the Atlantic seaboard. That is the equivalent of about six nuclear plants, or more than half as much wind power in the entire U.S. The two companies have an additional 28,000 megawatts of wind power in the pipeline, or more than a third as much as all the wind power installed in the world today. But those wind farms won’t be economically viable without continued government price supports and tax credits.