Thomas Elmar Schuppe, CIM Integrated Expert on Energy, Observer Research Foundation
The ongoing Energiewende in Germany (“energy turnaround”) is not only turning around the structure of the energy market and prices – particularly in the power generation sector ‑ but also requires considerable transformation of the utilities’ business models. This series of articles about the world’s experimental laboratory in the matter of greening the energy industry intends to catch up with recent structural and legislative developments that tackle the German electricity markets. It will also focus on evolving new business models, which might also serve as a blue print for any other energy market in motion towards more decarbonised and smarter energy systems.
By establishing the German Renewable Energy Act in 2000, Germany has triggered the Energiewende, an ambitious restructuring program of the German energy industry with the aim to decarbonise the energy system in the long-run: the share of renewables (REN) was set to achieve 80% in electricity generation by 2050. On top of this the German government has decided to phase out nuclear power plants finally by no later than 2022 as a consequence of Japan’s Fukushima Daiichi nuclear disaster in 2011.
As the policies have been in place for such a long time, some considerable structural changes have taken place in the German power generation sector. Nevertheless various issues within this ambitious program that are no yet satisfactorily settled are leaving the Energiewende in an ongoing state of experimental mode, a showcase worthy of being narrowly observed around the globe. The restructuring process is far from self running; it requires attentive monitoring and is constantly challenging the policy makers to set proper incentives according to the legislative framework. On the other hand the numerous and diverse market players in the German industry are continuously forced to react and adapt their business models to the ongoing change of the structural and economical market conditions in order to safeguard their investments and appreciate the shareholder value.
Against this backdrop the most important structural developments and outcomes that are going to influence the German energy sector as a whole and the transformation process in particular shall be highlighted in the following.
The share of REN in German electricity production has risen in an impressive manner from about 7% to 24% in 2013 (and probably to more than 28% in 2014) by squeezing fossil fuels and nuclear energy out of the power market: as shown in Figure 1 the share of nuclear generation went considerably down from 30% in 2000 to 15% in 2013, hard coal fell from 26% to below 20%, even natural gas lost ground in recent years and declined to a share of about 10%, whereas the share of lignite has been counter-intuitively stable to date. Besides the share oil-fired power generation has been stable but more or less negligibly throughout that period.
Figure 1: Development of Power Generation Shares in Germany (2000-2013)
Source: Agora Energiewende (2014) based on data from AG Energiebilanzen
Current data for the 1st half of 2014 (as shown in Figure 2) disclose an even higher share of REN, which together with hydro and biomass adds up to 31% of total generation (and 49% of capacities) driven by high generation share from wind and solar. Although the contribution of natural gas went drastically down to a mere 6% in generation in the first six months of 2014 the capacity share remains significantly higher at 17%.
Figure 2: Net Power Generation Share of Fuels in Germany (Market Shares 1st Half Y14)
Source: ISE (2014), compiled by author. Generation shares in red numbers, capacity in grey
The structural changes so far are not yet in accordance with the intended outcome of the Energiewende: first and foremost much more renewables (due to strong subsidies), no more nuclear power stations (not authorized anymore) and beyond that, declining shares of lignite (brown coal) and hard coal power stations as well as oil (all environmentally unfavourable). Natural gas power stations stayed over as the wild card, although assigned to play a key role in Germany’s electricity generation transition due to its fast and flexible availability as an operational back-up to provide system stability for the fluctuating or intermittent generation patterns of solar and wind power.
As opposed to this especially the use of the old base load lignite power stations has grown significantly in recent years while gas’ share dramatically went down with even the most modern and efficient CCGT plants now seriously under-utilized, in cold reserve or even mothballed. As fuel switching is heavily influenced by the relative fuel costs and CO2 prices this unwanted development has been particularly determined by relative high gas prices compared to coal in combination with low carbon emission allowance prices at the EU Emissions Trading Scheme. The high deployment of REN running at zero fuel costs and increased running of cost competitive coal power stations are actually overstocking the German wholesale trading market and has yielded a record (net) electricity export level, which is going to jeopardise even gas-fired power generation in neighboring countries like the Netherlands.
Germany’s temporary fallacious path towards cheap-black and expensive-green based power generation has as well yielded again in a rising carbon footprint of Germany. Figure 3 demonstrates that the carbon emissions linked to electricity generation are on the rise despite the continuously growing share of REN (the so called Energiewende Paradox). As a result the German Federal Environmental Agency (2014) has recently stated that overall CO2 emissions in Germany have increased by 1.2% in 2013 and are still more or less flat lining above the lows seen in 2009.
Figure 3: CO2 Emissions from German Power Generation
Source: Agora Energiewende (2014) based on data from the German Federal Environmental Agency (Umweltbundesamt)
Besides structural displacements in power generation, the development of the electricity price is the most important outcome and benchmark one should bestow consideration upon. Although the costs of renewables have dropped substantially, the electricity price for end consumers has risen more or less continuously since the start of the restructuring program (Figure 4). Electricity prices for households as well as for industry have more than doubled between 2000 and 2013, which can mainly be attributed to the significant increase in taxes, charges and levies. Price rises in recent years have been particularly driven up by the surge of the levy for the EEG (German Renewable Energy Sources Act). The mere costs of electricity (generation, transport, distribution (green area in graph below)) have even been constant or slightly falling in recent years. According to the BDEW, the proportion of the end consumer price accounted for by state charges (presently more than 52%) has drastically increased since 1998. Since the surcharge is kept at a lower level for some industrial customers through increasing exemptions from the charge in order to survive the challenge of global competitiveness, the costs for private customers have been driven up more steeply (right hand figure in graph below). The overall burden required by the renewable surcharge in Germany (EEG-Umlage) has risen to more than 20 bn Euro per year by now.
Figure 4: Development of End Consumer Electricity Prices in Germany (Index 1998=100)
Source: BDEW German Association of Energy and Water Industries [www.bdew.de]; compiled by author
However, in contrast to end user prices that are burdened by various taxes and duties (especially for households), wholesale prices are relatively low and internationally competitive due to the excess supply plus from REN and coal-fired power stations. Electricity prices at the EEX, the German Electricity Exchange, have been decreasing from over 80 Euro/MWh base load in 2008 (blue line in Figure 5) by more than 50%.
Figure 5: Wholesale Electricity Prices in Germany (EEX Future Base-/Peak load 2007-2014)
Source: BDEW German Association of Energy and Water Industries [www.bdew.de] based on EEX
A recently published comparison of household electricity prices (incl. taxes and levies) reveals the large gap that has opened up between European prices in general and German prices in particular in contrast to American prices: In 2013, the average household price in EU countries was more than double the rates in the U.S. The German price was even more than triple the U.S. rate. Together with Denmark Germany exhibits the highest prices in Europe, both countries with ambitious goals in decarbonising their energy sectors.
Figure 6: Household Electricity Prices (incl. Taxes) in Europe and the U.S. (2013)
Source: EIA (2014)
The fundamental policy shift to launch the Energiewende in 2000 the German energy system has already undergone a considerable restructuring towards renewable energy. Nevertheless some goals clearly failed so far, first and foremost in the matter of the Energiewende Paradox that actually causes rising carbon emissions. On the other hand, there is an ongoing and rising discontent because of the overall cost burden associated with the higher than expected payouts through the Feed-in Tariff system (EEG-Umlage) and its allocation to different sectors. To tackle these weak spots of the restructuring process German lawmakers have initiated a reform of the German Renewable Energy Act that has entered into force on 1 August 2014. Furthermore, the German government has recently approved a renewed climate protection law. Both legislative reforms can be expected to have wide-reaching influence on the Energiewende progress and intentionally fix or correct the most severe flaws and undesirable developments in the time to come.
The German Energiewende turns around Policy Framework
The legal framework for the Energiewende in a broader sense is set by international legislation like the commitments due to the ratification of the Kyoto-Protocol as well more stringently by the policies of the European Union (EU) to achieve the completion of the internal energy market and the efforts to combat climate change that are wrapped up in Energy and Climate Packages.
Beyond that, the German Government has decided to be at the forefront of international climate policy and set even more challenging regulations to meet Germany’s responsibility as a leading industrial country for a sustainable development and climate protection: At national level, Germany is making inroads with the transformation of its energy system and has set ambitious targets for reducing greenhouse gas emission.
However, it turned out over time that some unintended developments have challenged the Renewable Energy Act from 2000, that should to be tackled by the adoption of the reform of Germany Renewable Energy Act (EEG = Erneuerbare-Energien-Gesetz) from August 2014. This article shall help to catch up with the state of play of the legal framework in Germany that stipulates the terms of the ongoing restructuring process of the German energy industry, starting with a glance on international agreements towards more national regulations.
Some crucial characteristics of main climate legislations and agreements with their associated obligations are compiled in Figure 1 as a synopsis. The illustration compares different greenhouse gas (GHG) reduction paths over time (starting from upper part) as well as intended goals for renewable energy share (lower part). Based on the Kyoto Protocol, EEG and the EU’s framework for energy and climate (denoted in the clouds above) the GHG timelines for Germany (orange lines) and the EU (blue lines) are plotted and specified.
In contrast, the outcome of the recent agreement on climate change between the U.S. (green line) and China (red bar) are indicated and altogether challenged by the IPCC mitigation pathway zone that is expected to likely limit warming to below 2°C relative to preindustrial levels (grey lines). These ‘sustainable’ scenarios are characterized by far-reaching global anthropogenic GHG emissions cuts by 2050 and emissions levels near zero or below in 2100.
Since most climate legislation in Europe and Germany comes along with expansion goals of renewable energy the intended pathways for Germany and Europe and actual shares are demonstrated in the lower part of the diagram (dotted lines).
Figure 1: Timelines of “Climate Obligations” [1990-2050]
Source: Compiled by author based on given sources.
As one out of 192 Parties (191 States and 1 regional economic integration organization) Germany has ratified the Kyoto Protocol to the UNFCCC that is the first international agreement to set binding obligations to limit and reduce GHG emissions. As part of the EU’s burden-sharing agreement Germany is committed to reduce its GHG emissions by 21 % during the period from 2008-2012 compared to 1990 levels. According to the German Environment Ministry Germany already has considerably surpassed its GHG reduction commitment since 2009, even if GHG emissions have temporarily increased thereafter. Recently Germany has become the first large EU member state to start ratifying the extension of the Kyoto Protocol treaty for the second commitment period (2013-2020), even though the emission reduction targets therein are not considered as sufficient.
As shown in Figure 2 Germany has quite successfully achieved to cut down its climate footprint since 1990 by now: GHG emissions have decreased by about one quarter within the last two decades and therefore complied with the Kyoto-protocol. More than 80% of the overall emissions of greenhouse gases can be attributed to be energy related, which fell by 23% from 1990 until 2012. However, since the low in 2009 the continuous slump has come to a temporary standstill for the time being.
Notwithstanding the negative developments in recent years initial estimations for 2014 are indicating that the Energiewende is getting back on track. As indicated in Figure 2 (bright yellow bar) CO2 emissions (and overall energy consumption as well) are expected to fall significantly by about 5%, of which more than the half can be attributed to the power generation sector.
Since the slump is largely influenced by mild weather condition the temperature-adjusted drop is expected to be more in the order of one percent. Moreover the structure of electricity generation usage points in the intended direction: significant decrease of lignite (-3%) and hard coal (-12%) on the one hand, strong growth (+3.3%) of renewables overall and especially photovoltaic (+14%) on the other hand. Thus the share of renewables at the gross electricity consumption is expected to rise by 2% to 27.3%.
Figure 2: Emissions of Greenhouse Gases in Germany (1990-2012, est. 2013/14, Goals)
Source: German Federal Environmental Agency (2014), AG Energiebilanzen (2014). Amendments by author.
In Europe the overall legal framework that applies to energy markets and climate protection is most widely predefined by the EU policies. Building upon the commitments made under the Kyoto Protocol the EU adopted the climate and energy package (“20-20-20” targets) as binding legislation for member countries that aims to ensure the ambitious climate and energy targets for 2020:
- 20% reduction in GHG emissions by 2020 (compared with 1990 levels);
- 20% rise in the share of renewables of EU energy consumption by 2020;
- 20% improvement of the EU’s energy efficiency by 2020.
Theses 20-20-20 targets are made up by certain principles and tools as well as binding directives. The pioneering EU emissions trading system (EU ETS) – already launched in 2005 – is regarded as the key tool for reducing carbon dioxide emissions in Europe cost-effectively. It was therefore decided to strengthen the 3rd phase of the Emissions Trading Directive with effect from 2013. For sectors not included in the EU ETS divergent national emission targets for 2020 are determined by the ‘Effort Sharing Decision’ on the basis of member states’ relative wealth. Recent figures from the European Environment Agency (EEA) show the EU’s overall emissions have already met the 2020 goal to cut GHG emissions by 20% versus 1990.
In October 2014 the EU leaders agreed upon a revised and more ambitious GHG emission goal that is expected to become legal in 2015 and will follow the 20-20-20 goals. The 2030 climate and energy package plans to cut EU’s GHG emissions by at least 40% from 1990 levels by 2030 in order to meet the track towards the longer term reduction roadmap 2050 by at least 80%. The sectors that are covered by the EU ETS are called to reduce their emissions by 43% compared to 2005 on a more restrictive path by curtailing the number of allowances by ‑2.2% p.a. from 2021 onwards (vs. the rate of ‑1.74% up to 2020). Currently the EU ETS (3rd phase 2013-2020) covers barely half of total EU’s greenhouse gas emissions predominantly from power and heat production, energy-intensive industry sectors and commercial aviation. Furthermore a market stability facility with the power to withhold or release allowances shall help to strengthen the efficiency of the EU ETS. Other sectors beyond the EU ETS are required to cut emissions by an EU-wide 30% but with national diverse targets according to their GDP.
Thus – like before – some regulations are set to be broken down to individually different national targets: Though the Commission targets a binding increase of the renewable energy share to 27% of the aggregate EU’s energy consumption by 2030, the target is in fact voluntary for individual member states and was pushed down by U.K. and Poland in the negotiation process from proposed 30%. Even though the climate package is labelled as the toughest climate change target of any region in the world, environmentalist groups are rather disappointed by the outcome since some state that some goals barely presents more than the business-as-usual track.
In 2000, Germany was one of the first countries setting up a Renewable Energy Act (EEG) to implement a feed-in tariff law to boost renewable energy expansion, thus becoming the worldwide prototype model thereafter. This ambitious energy industry restructuring program has intended to decarbonise the German energy system in the long-run (80%-share of renewables in electricity generation by 2050). Based on political decisions the load-bearing walls for Germany’s future energy architecture have been clearly set: much more renewables (due to strong subsidies), no more nuclear power stations (phasing out by 2022) and beyond that declining shares of lignite (brown coal) and hard coal power stations as well as oil (all environmentally unfavourable). The role of gas in power generation has been constantly left over as a kind of undefined joker role, rarely mentioned in political energy strategy, although due to its clear advantages gas-fired power stations are assigned to play a key role in Germany’s electricity generation transition to provide back up to intermittent solar and wind generation.
The EEG has hitherto undergone several major amendments with one of the most significant was coming into effect in 2014. According to the German Ministry of Economy (BMWI 2015) the EEG has been developed and amended as follows since coming into force on April 1, 2000:
- The EEG 2000 itself was already built upon its predecessor regulations in the Electricity Feed-in Act (Stromeinspeisegesetz) from 1990 that was the first legal scheme in Germany intending to boost electricity production by renewables by the means of a feed-in tariff and a purchase obligation for the power utilities. The need for this new EEG law mainly resulted from the rising wind energy plants, obligations from the Kyoto Protocol to reduce GHG emissions, and steps necessary to adapt the remuneration for renewables arising from increasing electricity prices.
- The first amendment EEG 2004 for the first time determined a concrete expansion target for renewable energies in Germany (up to 12.5% by 2010 and at least 20% by 2020).
- The amendment of EEG 2009 was more fundamental and comprehensive with most important extensions according to the compensation rules for hardship in case of capacity constraints and in relation the direct marketing of electricity from renewable energy sources. However, due to the drastically reduced capital cost of photovoltaic (PV) systems there was a need of a reduction in rates for new PV system to avoid an over-funding, therefore the EEG 2009 was soon amended by the PV 2010 amendment.
- With the EEG 2012 amendment the government proposed goals for the power sector were settled in legislation: the share of renewable energies should be at least 35% of electricity consumption by 2020, 50% by 2030, 65 % by 2040 and 80 % by 2050. Furthermore, more attention was attributed to optimisation of the overall system, i.e., the improvement of the interplay between renewable and conventional energy sources as well as storage and consumers. An optional market premium should give incentive to EEG plant operators to operate more market-oriented. Besides EEG, another PV amendment in 2012 aims to limit the increase of total feed-in-payments linked to PV facilities by setting an overall target of 52 GW of PV power reimbursed, a further decrease of tariffs, a modification of the degression scheme reducing tariffs by about 1% per month, and setting the maximum power of a single facility to 10 MW.
- The EEG 2014 amendment particularly aims to stabilise the rising cost burden of the EEG surcharge by more controlled development paths of specific renewable energies.
In general, the latest amendment of the EEG is set to tackle some key problems that were arising in the course of the intended energy industry restructuring throughout the process while continue progress towards the specified renewable energy targets expansion targets, i.e.:
- PV and (onshore) wind power costs were falling dramatically and are now more competitive. To curb the renewable expansion costs by focusing on the most cost-effective technologies onshore wind and solar photovoltaic; consequently decreasing the incentives for other energy types. E.g. extension of biogas plants will be restricted to 100 MW per year. The law introduces a so-called “flexible cap” to reach the specific quantitative target.
- The market share of renewables is now substantial, thus renewables require better market integration according to wholesale market price signals;
- The burden linked to the administered Feed-in Tariff has substantially risen due to drastic growth of solar especially, and has therefore evoked issues of cost and distribution of renewables among consumers. Currently the surcharge for some industrial consumers is kept low through exemptions, which drive costs up for mainly the household consumers. However, finally to ensure international competitiveness of German industries, no dramatic shift can be expected and private consumers will continue to bear the brunt.
In addition to the new EEG regulations the ministry of economy is considering to force energy companies to shut down eight more coal-fired power plants in order to reduce carbon emissions by at least 22 mt by 2020 to bring the development back on track according to Germany’s ambitious climate goals. The plan may prompt the main players like E.ON and RWE to mothball dirty coal power stations and to mitigate against the unintended outcome of flatlining GHG emissions of the German power sector in recent years. Even IEA (2014) expects that the “coal renaissance in Europe was only a dream”, since the temporary rise of coal use in Europe in recent years is more regarded as a temporary spike largely due to low coal and CO2 prices, high gas prices, and the ongoing shutdown of German nuclear plants.
The German energy restructuring towards a lower carbon footprint and national as well as international energy and climate legislation are interdependent, as the legislation determines the framework and incentives for the restructuring process, however, the outcome of the process (including wider issues as cost distribution etc, too) as well as market conditions influence the evolution of legal amendments. Therefore, it cannot be assumed that EEG 2014 has been the last reform of the Germany’s Renewable Energy Act. Indeed, the government has announced that in 2016, a new reform will be put forward to parliament that will trigger a more competitive auction process of tariff setting for renewables. Besides, the idea of setting up a capacity market for power generation back-up to overcome the mothballing of several gigawatts of unused gas-fired capacity is still ongoing, even if the German energy minister Sigmar Gabriel is (currently) opposed to it. However, it seems that capacity markets may provide a suitable solution and are making their way in Europe. In the upshot, the adaption of legislation will continue to make progress, depending on various factors, be it political (e.g. changing governments, outcomes of international agreements (EU, Kyoto and COPs)) or triggered by changing market conditions (e.g. oil price slump, low coal and CO2 prices etc). The case of last-mentioned market distortions shows that even if politics might start with the right action to correct market-failure (like carbon pricing) or pursue other political aims (e.g. support green energy), the monitoring and possibly adaption over time is of utmost importance to avoid inefficiencies in the aftermath. These could arise within different political levels, be it on international, national or federal level and moreover if different markets/commodities are involved.
The German Energiewende turns around Industry’s Business Models
Since 2000, Germany has triggered the Energiewende, an ambitious restructuring program of the German energy industry with the aim to decarbonise the energy system in the long-run. Additionally the German government has decided to phase out nuclear power plants finally by no later than 2022, as a consequence of Japan’s Fukushima Daiichi nuclear disaster in 2011. The Energiewende is widely regarded as an ongoing showcase project in experimental mode, worth of being narrowly observed around the globe.
The restructuring process is challenging numerous and diverse market players in the German energy industry that are continuously forced to react and adapt their business models to the ongoing change in the structural and economical market conditions in order to safeguard their investments and appreciate shareholder value. Both risks and opportunities matter: on the one hand the odds are long for the conventional players like the ‘big four’ ex‑incumbent electricity producers E.ON, RWE, EnBW and Vattenfall. On the other hand is the chance for several smaller players to enter into the evolving energy market with smart and innovative ideas in the course of shifting towards a more renewable based, decentralised and smarter as well as interconnected market structure.
The intended structural changes are particularly hammering the core business of the incumbent utilities: the double whammy of Energiewende regulations towards a higher share of renewables and lower lignite and hard coal power stations as well as the gradual phasing-out of nuclear power is going to little by little eliminate the business model that they hitherto used to run: For decades some large utilities have dominated the German electricity sector by legally established, regionally demarcated and vertically integrated monopolies. Some of these companies could successfully survive the consolidation process resulting from the ongoing liberalisation process of the German (and European) energy market that took off in the mid nineties and maintain its dominating positions regionally: e.g. RWE in the industrially important Rhine-Ruhr region, EnBW in Baden-Wurttemberg and Vattenfall in the eastern parts of Germany.
It is widely said that the German utilities have relied too long on an obsolete business model that was profoundly based on large scale and long term investments in centralised base-load power generation plants fired by fossil fuels (first and foremost lignite/coal) and nuclear. Having overinvested in gas- and coal-fired plants before the financial crisis, the two largest players E.ON and RWE were building up too much capacity in the subsequent downturn while the subsidy-incentivised new and “green” competitors were upsetting the market. On top of that the nuclear accident at the Fukushima Daiichi reactor in 2011 has triggered an unprecedented turnaround manoeuvre by the German government that decided – just few months after having granted some lifetime extensions – to downturn eight out of 17 nuclear power stations in short term and the complete decommission of nuclear power in Germany by 2022, bringing forward the enormous decommissioning costs to the operators. Wholesale power prices have been deteriorating due to the rapid expansion of heavily subsidised renewables with low running costs and have additionally worsened the financial conditions for the big four even more, since they largely blew their chance of entering into green energy markets.
The Economist (2013) has put the rigorous situation for European utilities already out 2013 by titling “How to lose half a trillion euros – Europe’s electricity providers face an existential threat”: At their peak in 2008 the top 20 European energy utilities were stated to be worth about 1 trillion Euro. Till late 2013 they were losing half of their value. As illustrated in Figure 1 the share price of the two German top dogs E.ON (red line) and RWE (blue line) tanked till 2014 and have not recovered one jot since then. The sheer magnitude of the massive value destruction at the capital market becomes very clear by paying attention to the widening gap between the utility’s market value and the German blue chip stock market index DAX that has almost doubled within the last three years (grey line).
Figure 1: Share Price of selected German Utilities vs. DAX 2006-2015 (Index May 2006 = 100%)
Source: www.finanzen.net, accessed March 13, 2015. Compiled by author
Casting a glance on the generation mix of RWE in Germany already reveals a lot of the dire straits the large utilities are actually facing. Figure 2 illustrates that more than half of RWE’s German power generation in 2013 was from lignite with hard coal accounting for another 20%; thus more than two-thirds of RWE power generation in 2013 was coal fired (and 59% capacity, respectively). Even if generation from indigenous lignite was thriving again in recent years, this is widely deemed as a temporary phenomenon. Currently the political pressure on that vastly available and cheap but most carbon-intensive type of fossil fuel is definitely on the rise: Since the German government firmly seeks to realise its intended carbon reduction targets the economy ministry has drafted a legislation that might urge the utilities to cut emissions by at least an extra of 22 mt CO2 by 2020. Accordingly a kind of new climate levy of about 18‑20 EURO/t CO2 is supposed to tackle the oldest and most carbon-intensive power stations meaning that several coal-fired power stations may be closed down. These are bad news particularly for RWE that alone runs four of the biggest lignite power stations. Besides, nuclear power stations are accounting for more than one fifth odd in RWE’s generation mix, yet another end-of-range model.
On the other hand E.ON is not that much dependent on lignite, however, nuclear power make up almost one third of its overall generation capacity in Germany, even if already two reactors were forced to shut down in 2011, right after the Fukushima disaster. Another reactor in Grafenrheinfeld is planned for being decommissioned by May 2015. Vattenfall is profoundly involved in lignite mining and generation in the Eastern parts of Germany; the Swedish state company has recently announced to offload all its German lignite assets. More or less the same picture can be drawn for the fourth big player EnBW that has large stakes in nuclear as well as coal/lignite power generation.
What is more, even natural gas fired power stations that are much required for overall (technical) system stability needs have been widely mothballed in recent years due to losses resulting from longer lasting negative clean spark spreads. Therefore – as one aspect of the so-called ‘Energiewende-Paradox’ (higher CO2-emissions despite higher share of renewables) – natural gas power stations are continuously squeezed out of the market by cheaper coal-powered blocks. Quite recently E.ON has officially announced the closedown of its just two years old, most efficient state-of-the-art natural gas fired blocks 4 and 5 at the Irsching power plant in Bavaria with due effect on April 2016 because of its expected ongoing poor economics. Up to now these blocks were put under a so-called redispatch agreement for two years until March 2016 under that the plant operators are reimbursed from the grid operator TenneT (yet still the regulator can prohibit the closure for operational network security reasons).
Even the formerly most lucrative chunk of power generation in Germany has been thwarted by the rise of renewables since at peak hours in the middle of the day there’s no big profit to cash in anymore on sunny days, because massive solar power generation tends to significantly control the profitable price spread between peak-hour and base-load prices.
In a nutshell, the big four altogether suffer from the break-off of their core business, the centralized large-scale power generation. On the downside, the big four’s stakes in renewables is partly nominal as can drastically be seen in Figure 2 looking at the marginal share of renewables in RWE’s generation portfolio in Germany (that is only slightly higher on company-wide international scope). The data from RWE’s quite recently published annual report 2014 reveals that the group-wide power generation from renewables decreased by 27% year-on-year to a lousy 10 TWh in 2014 (due to closure of a biomass combustion plant in UK), that is less than 5% in RWE’s overall power generation mix. The share of RWE’s power generation from renewables in Germany itself is yet lower; it fell from 0.7% in 2013 to poor 0.5% in 2014. On a first glance E.ON seems to be better invested into renewables, however, far more than 90% of renewable generation and capacity can be attributed to hydro. E.ON’s renewable power generation fell in Germany from 2013 to 2014 by 22%; in 2014 renewables (i.e. hydro) made up about 7% in E.ON’s overall German power output.
Therefore, the big four have bet not only too long on discontinued fossil fuel and nuclear power stations on the one hand, they even seem to have missed the opportunity of investments into the booming sector of renewable energy. According to the Federal Network Agency’s (2014) recently published monitoring review the big four utilities’ aggregated market share of power generation capacity in Germany has collapsed another 11%-age points within only three years 2010-2013 down to 68%. Their combined share in overall power generation in Germany has fallen from 84% to 74%, respectively, primarily due to the generation attributed to E.ON, that went down by 38%. As a result, one can state that over the course of the Energiewende restructuring process the ownership profile of the power generation assets has been broken up from only a handful of former incumbents led by E.ON and RWE towards a wide variety of smaller and independent power producers like private citizens and farmers (together owning almost half of the renewable generation in Germany), followed up by project developers as well as industry and banks. And even the approx. 800 so-called Stadtwerke are yet playing vital role in the German energy companies landscape, gaining from their potential of local power production and particularly from options in co-generation plants. (The Stadtwerke currently stage a comeback with numerous municipal new establishments after a large wave of privatisation during the 1990s.) The corresponding power sale market shares for Germany (as shown in Figure 3) are highlighting the same deconcentrating trend, as the former incumbents’ stake in the sales market is plunging (to a combined share of 67% in 2013) as well, particularly E.ON but RWE, too.
The bottom line is that the big four are getting more and more into the red due to the insidious breakup of the utilities’ longstanding fossil fuel and nuclear driven business model. E.ON has recently announced a huge loss of more than 3 bn Euro (over 2 lakh crore rupees) for its business year 2014, the second one in the company history after 2011 (see Figure 4). RWE already faced a similar loss in 2013 due to strong depreciations. Besides the falling power prices and falling business volume, E.ON is troubled by other problems including its Russian subsidiary suffering from the weakness of the ruble as well as trade sanctions, its Brazilian power producer Eneva filed for bankruptcy protection at the end of 2014, mistaken asset investments in Spain that were again offloaded end of 2014 and last but not least the massive oil price drop. Not that long ago E.ON experienced some bonanza years with annual profits of 6-8 bn Euro.
Figure 4: Profits of selected German Utilities 2007-2014 (Earnings after tax in bn. Euro/a)
Source: www.finanzen.net, accessed March 25, 2015. Compiled by author
Looking at the steadiness of dividends (i.e. the returning value for shareholders) that serves as a performance benchmark for the attractiveness of long-term investments, one can as well observe a clear and steady downswing (Figure 5). For example, RWE cut its current dividend by half to 1 euro that is only a fraction of the 4.5 Euro they paid some years earlier. Starting in 2015, RWE will no longer calculate dividends on recurrent after-tax profit but will base the payments on operating cash flow, debt and earnings. However, reliable dividend payouts are particularly important for RWE since the biggest single shareholder is a group of highly indebted towns and cities in North-Rhine-Westphalia that seeks a stable income to settle their budgets.
Figure 5: Dividends of selected German Utilities 2003-2014 (in Euro/kWh)
Source: http://www.finanzen.net, accessed March 25, 2015. Compiled by author.
Those days of high profits and dividends are over, and probably never to return. Even worse, the utilities management is blamed for having failed to cope appropriately with the market challenges; a recently published study on behalf of Greenpeace (2015) ascribes severe strategic flaws, first of all, that reactions were not timely and decisive enough to change course:
- The big four have banked too long on their high margins and profits from market power and didn’t realize the need to bring business in line with the successive market changes;
- They have unilaterally focussed on lifetime extensions of their nuclear power stations, which turned out to be faulty after the phase-out decision in the wake of the Fukushima disaster;
- They simply missed the investment options in the upcoming renewable energy sector.
About one year ago, when the CEO of RWE had to announce a historic loss, Spiegel-Online (2014) has headlined: ‘conceptless RWE CEO: lamenting as a strategy’. The critique was that the company’s strategy was built up too much on the hope that the government might take pity on them while ignoring entrepreneurial solutions. Hereof two big ideas surrounding state compensation and supply risks are repeatedly floated towards the policymakers:
- The first strategy is to increase the pressure in relation with the decommissioning of the German nuclear energy sector. The big four have filed several lawsuits against the decision to terminate the lifetime extension and the immediate shutdown of eight nuclear power plants as well as against the nuclear fuel tax regime. According to Reuters (2014) E.ON is said to claim about 8 bn Euro, RWE more than 2 bn Euro and Vattenfall 4.7 bn Euro. Furthermore, the creation of a kind of “bad bank” to hive off the four nuclear operators’ provisions of about 36 bn Euro for plant decommissioning and disposal of nuclear waste is at issue.
- Strong lobbying in order to achieve a market redesign in favour of the so-called “power capacity market” that shall help to uphold investment in power plants that provide back-up capacity, which otherwise might be mothballed due to negligible load and/or profit. So far the government is refusing to consider the creation of service payments like this, however, neighbouring markets like the UK have already acknowledged and implemented that concept by implementing capacity auctions.
Nonetheless, the utilities’ lobbyists in Berlin have forfeited their immense power of successfully influencing the policymakers in the recent years. Therefore large rationalisation programs have been rolled out, incorporating large scale reduction in employment, organisational streamlining, outsourcing of non-core assets business areas and closing of unprofitable power plants (the start of RWEs most recent profound cost-cutting programme “Lean Steering 2.0” was heralded only a couple of days ago at mid April). The tense debt situation is pressuring to sell off assets, as quite recently the oil/gas exploration and production unit RWE Dea. RWE, E.ON and EnBW are altogether singing renewable power expansion praises now and furthermore strengthen their investment in infrastructure and smart energy products and services. Their announced mission statement obviously still lives on the credit of the old conventional energy world (see as an example RWE’s mission statement in Figure 6).
Figure 6: RWE’s Mission Statement 2015
Source: RWE Annual-Report 2014.
While RWE seems to head on strategically by muddling through, the most comprehensive strategic approach is pursuit by E.ON and Vattenfall. On the one hand Vattenfall has started to prepare its market exit by announcing to sell its lignite generation plants and mines in eastern Germany. On the other hand E.ON desperately tries to change track and decided to perform its second comprehensive strategy swing within a couple of years after 2010 when the management has opted to enter new international markets like Brazil. However, the most radical strategic step was announced in Nov. 2014 as Germany’s largest utility surged forward to offload its complete fossil fuel and nuclear based power generation business as well as global trading unit and it’s upstream into the so-called “New Company” (Figure 7). The new company will generally incorporate E.ONs former core business including struggling Brazil and Russia operations. The divestiture would leave E.ON to focus on environmentally friendly renewable-energy sources and is intended to become an energy network and solutions provider; E.ON’s 31 bn Euro net debt will retain with this larger part of E.ON. E.ON has repeatedly reaffirmed that the spin-off company would have sufficient financial strength to cover the liabilities associated with the decommissioning of nuclear energy in Germany; the company’s accrued liabilities for the nuclear phase-out of currently about 14.5 bn will remain with the nukes in the new company. By all means, E.ON’s restructuring agenda has startled politicians because of fears coming up in public discussion that E.ON might be creating a ‘bad bank’ for its seven nuclear plants that will have to be bailed out by the German taxpayer as a leading member from the Green Party has put it bluntly. (Overall provisions of the big four are about 36 bn. Euro for plant decommissioning and disposal of nuclear waste; however, there is an ongoing debate whether there are sufficient funds).
Figure 7: Planned Spin-Off Company Structure of E.ON (incl. data from 2014)
Source: Der Spiegel (2014b). Compiled by author.
The ongoing Energiewende in Germany (“energy turnaround”) requires considerable transformation of the utilities’ business models. The prevoius part (IIIa) has focussed on the ‘big four’ incumbents and how they meet the strategic challenges. This present second part (IIIb) will take a look at new business models that are concomitantly evolving with the industry’s restructuring. It concludes with a more global foresight relating to some ongoing tendencies that are expected to strengthen the green paradigm further on.
Beyond the bitter fate of the ‘big four’ even most of the thriving companies – like the prominent photovoltaic (PV) cell producers Solarworld, Q-Cells, Conergy or Solon – in the windfall of all the generous financial support associated with the Energiewende were getting into dire straits already soon after the initial boom. Primary reasons were at first the creation of excess capacity at the German solar market and then the influx of cheaper PV modules and cells from Chinese competitors entering the German market. Several German solar producers rushed into bankruptcy. Even the former showpiece company Solarworld could barely escape crash, and saved its neck so far only by acknowledging a harsh debt cut and by relinquishing autonomy in favour of its new major investor Qatar. Figure 8 illustrates the rollercoaster ride the Solarworld stocks have been on in recent years: from penny-stock level up to its all-time peak late 2007 and back down again. Recently it was blamed the second consecutive year for being the inglorious leader of ‘capital burning’ in Germany; its stock price was down 82% in 2014 alone, and moreover, since 2010 the price fell by 99.5%.
Even beyond the pioneers of the solar and wind boom it is expected that now the whole industry will adjust to the business opportunities arising from the decentralisation drive towards more data-based and interconnected smart grids solutions that will help to match growing intermittent supply and demand efficiently. Alongside the traditional providers of industrial solutions in the energy sector like U.S. General Electric (GE) or German Siemens new innovative player are entering the market: one outstanding example is Google’s $ 3.2 bn acquisition of Nest Labs in Jan. 2014 in order to be involved in the promising future business of smart-home technologies. Nest Labs manufactures a variety of smart home devices like thermostats, which learn a user’s habits over time and adjusts the room temperature accordingly. Nest Labs aims to establish itself as the operating platform for web-connected home devices: users will be able to communicate with appliances from Whirlpool, cars from Mercedes, remote controls from Logitech among others. Quite recently Nest has teamed up with solar power system manufacturer SolarCity to make savings easier for homeowners.
In Germany one signal example of how to carve out a fortune in the future energy industry is the so-called SchwarmEnergie-concept provided by one of the Germany’s largest green electricity and gas suppliers Lichtblick. SchwarmEnergie (“swarm energy”) intends to cope with the requirements of a fragmented and decentralised electricity market, in which more and more power is produced locally in a variety of small units (e.g. renewables like photovoltaic systems, (smallest) combined heat and power stations, heat pumps, solar batteries or the batteries of electric vehicles), and increasingly stored. Therefore the strict separation of consumers and producers is going to be superseded as we go along. The basic idea is to interconnect thousands upon thousands of involved small-scale market players (e.g. households) by means of appropriate smart control systems and an applicable software that could quickly rewire and provide a “virtual power plant” at an aggregate level (as illustrated in Figure 9). Given that, traditional back-ups for intermittent wind and solar power generation by large power plants (and mostly operated by large utilities) will become more and more redundant. The whole approach is based on Lichtblick’s IT platform SchwarmDirigent (“swarm conductor”) that aims to bundle the countless processes of an increasingly complex energy world. The pilot scheme was already successfully rolled out and provides an instructive foretaste of what is to come.
Figure 9: Synopsis of the SchwarmEnergie Concept (Lichtblick)
Source: Lichtblick.de, accessed April 16, 2015. Compiled by author.
In the upshot, energy markets must be understood to be in a constant state of flux due to diverse reasons that comprise altering resource availability, the ever-changing supply/demand (market) conditions but also (politically initiated) shifts in the institutional framework. Even if utilities have often operated under temporary exceptional permissions and/or government backed (or being a mere state company) it can be stated that there is no guarantee for a certain business model to survive. As we have seen, it is actually more important to address the changing conditions at the right time (i.e. early enough) with the right strategy (i.e. dare to advance), otherwise the risk of failure is rising enormously.
In the case of the Energiewende an institutional redeemer cannot be foreseen, politically there is currently no “too large to fail” or species protection for the ‘big four’. It seems to be more about being the last of their species as they are abandoned to their fate that results in a structural market adjustment at the end of the day: RWE might turn out to be a potential takeover target (if yet attractive enough for investors), Vattenfall seeks to get rid of its German business. Even the big four’s long established wheeling and dealing with the political circles in Berlin is evidently more and more for the birds and doesn’t provide a proper lifeline anymore.
The advantage in rapid transforming structures decidedly is with the small, flexible and innovative players. That’s a lesson we have actually also learnt from other energy markets, e.g. the US shale revolution that was actually not driven by the incumbent oil and gas majors but rather by smaller independents like Devon Energy, Chesapeake Energy or Continental Resources. Struggling to find new reserves and at times of rising uncertainty about the crude oil price, Exxon and other oil majors have now turned to gas as a proxy in fossil fuel market and consolidated the sector by several takeovers (with the last prominent merger seen just a couple of days ago when Shell announced to buy BG Group, a vital player in the global gas market).
And there is yet another story behind the ongoing adaptation of business models to spot that is very important for investors in long-lasting energy infrastructure assets to pay attention to: the trend to acknowledge the requirements of local pollution and global climate change. Beyond corporate green washing hypocrisy there are evermore concrete examples of large-scale and long-lasting energy industry’s restructuring really triggered by climate change considerations, like the shift away from lignite and brown coal in Germany, more and more investments of the oil super majors into lower carbon fossil fuel natural gas and/or renewables (or as BP’s new slogan puts it straight: “beyond petroleum”).
One could even be well-disposed to argue that the current restructurings are driven by the ‘unburnable carbon’ idea. Even if there is still a lot of dispute about the genuine truth of this concept (which is likely to be verified only in the times to come), the times of being a myth are over and there is increasing evidence that the shadow of unburnable carbon becomes longer and starts to touch on a variety of crucial market players. One of the most recent paradigm is the disclosure of Norway’s Government Pension Fund Global (GPFG), actually the world’s richest sovereign wealth fund, to divest from 22 companies involved in coal mining, oil sands, cement production and coal-fired power production during 2014 on the basis of a broader assessment of companies’ business models and the sustainability of their operations over time. Moreover the GPFG has also divested from a further 27 companies, due partly to other environmental considerations.
A couple of days ago Bloomberg (2015) carried the headline “Fossil Fuels Just Lost the Race Against Renewables – This is the beginning of the end” and pointed out that now more capacity for renewable power will be added each year than coal, natural gas, and oil combined; and that the shift will continue to accelerate. The cost of wind and solar power continues to decrease and is now on par or cheaper than grid electricity in many areas of the world. Thus it’s only a matter of time that the world will see renewables cutting into the markets even without being backed by large subsidy systems, and it’s safe to assume that these will only be needed as stimulus if the institutional framework is set accordingly.
Against this backdrop the declaration of India’s largest power producer NTPC to more than double its current installed capacity to 90 GW in the next ten years might be put at risk, even if the power producer plans to include solar energy in its total installed capacity in the coming years. Given lifetimes of coal power stations of about half a decade or more the challenge to compete against cheaper renewables in times to come might be considered to turn out desperate. This is aggravated by the fact that state companies are known for their inefficiencies and stubborn market strategies. As has been shown the German ‘big four’ incumbents are struggling even in a slow evolving and foreseeable market environment due to strategic and management flaws. It is much to be hoped that players on the Indian energy market like NTPC will learn from the German experiment, envisaging the developments that are already looming ahead and shifting to more pioneering strategies – otherwise they might share the big four’s doom and face a rude awakening.
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 See Schuppe (2013) for more information according to the reasons behind this development.
 Participation in the EU ETS is mandatory for companies operating in these sectors, but in some sectors only plants above a certain size are included.
 The ‘unburnable carbon’ concept can be generally traced back to the Carbon Tracker Initiative, which is focussing on the fossil fuel reserves held by publically listed companies and the its market valuation in relation to potential systemic risks for institutional investors caused by the shift to a low-carbon economy (see for more information www.carbontracker.org).
Views are those of the author
Author can be contacted at email@example.com
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