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Equity Research

Electrification: a new era for Utilities

The Utilities sector is experiencing a strong transformation. From a traditional “boring and non-event“ sector, to become the pillar of one of the most ambitions and worldwide shared trends; decarbonising the world, aiming by 2050, Net Zero Greenhouse Gas emissions (GHG).

In order to achieve this target, the first step is to look where these emissions are produced. Only three sectors - power generation, mobility and buildings - account for 78% of the total emissions. These have the advantage of counting on an “easy to abate” path which is the one offered by electrification.

Starting with the first, decarbonising power generation implies the cessation of fossil fuel generation and its replacement with renewable output (wind onshore, wind offshore - both fixed and floating installations, and solar photovoltaic, as the main examples gaining scale and enjoying better economics). Decarbonising mobility - especially light vehicles - implies the progressive removal of ICEV (internal combustion engine vehicles) and the increased penetration of EV’s (electric vehicles) and several forms of “mobility sharing” which all run with electric batteries. Finally, the decarbonisation of buildings requires the transformation of household heating systems - from gas or fuel into electric ones - and the refurbishment and renovation of buildings with a clear focus on better insulation materials as one of the main drivers of energy efficiency.

These three examples lead to one clear conclusion: electricity is entering “a new era”, which will lead to it occupying a higher proportion of the total primary energy (from current 20% to 50% by 2030). This is a consequence of a growing consumption pattern which is indeed a very relevant change for a sector that peaked back in 2008, and since then has consistently grown below GDP. The future decades offer a much more positive stance, even after considering energy efficiencies. This outstanding aspect is even more valuable in the current complex macro situation, where inflation is denting economic growth and monetary policy is becoming more hawkish (ECB rising yields for the first time in more than one decade). With the current momentum of GDP downgrades, inflation tensions and rates going up, utilities are more protected due to earnings’ upgrades, a high level of inflation protection and the predominance of fixed debt with long maturities.

European gas dependence, a relevant tailwind

The European Council has issued three key documents concerning the road map to climate neutrality in 2050.  The “European Green Deal” represented an important milestone in achieving the decarbonisation trend. Post Covid “Fit for 55 Package” was the second push, while the most recent driver has been “RePower EU” which has followed the Russian invasion. Consequently, this trend is not short term, but just the opposite; structural and globally consensual. Furthermore, if we were seeking to find the region in which the need and urgency is most demanding, it would be Europe. Recent geopolitics have driven the urgency to work on energy independence. Europe imports c. 34% of its gas demand from Russia. A significant quota for a single continent, which is assigning an economic power to a foreign economy - this can prove risky and expensive, if not managed. The quickest way to address this is again by electrifying the European economies, and meanwhile diversifying gas procurements and replenishing gas storages. The latter are not easy tasks as gas is not simple to transport - it requires pipelines or LNG infrastructure - both need time to be accomplished, so replenishment has to be dealt accordingly. Consequently, the former is the most immediate solution: more electrification; but now not only for decarbonisation, but also for energy independence.

The targets and guidelines are clear, consensual, and announced; but for this to become a reality, it requires “back office” work. The summer months will be key to prepare for what is expected to become a complex winter in terms of resources, availability and pricing trends. Regulators have a key role to play by accelerating environmental permits for future renewable installations (in order to replace the fossil generation, the current rhythm of renewable additions has to more than triple), solving grid bottleneck connections (granting grid connections to those reliable and secured development plans) and issuing authorisations for networks reinforcements, extensions and interconnections, the latter becoming an essential element of security of supply.


Energy affordability: the black spot

In this energy transition the world is moving towards, there is a black spot, and that is affordability. Energy not only has to be friendly from an environmental point of view, but also from an affordable point of view.  Energy is a “basic good” for households and industries so there is a need for it to become affordable. There are several things to consider for this to be achieved: consensus among involved players on the measures to be implemented to control final prices will be more than welcomed (i.e. price caps and price clawbacks), responsible use of energy has to become a must among final users; and timeframes set by regulators have to be reasonable and feasible, leaving the door open to reconsidering the pace of closing legacy generation.

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