Saturday, October 06, 2007

Utility Industry Q&A

With Prem Watsa continuing to buy more shares in International Coal Group, ICO, I've taken an interest in hoarding more general information about coal and energy in general. So, I decided to interview a real expert in the utility field- my dad. He is a top manager at the Los Angeles Department of Water and Power, and his example reminds me everyday that I can be working harder. Anyways, these are some key notes I took based off what I remember asking him.

Which is cheaper to run, a coal or natural gas plant?
A coal plant is much, much cheaper to operate. Coal costs about $30 per (?)*, while natural gas costs about $70. This is significant because fuel accounts for 95% of the costs in the industry. (*Note: I forgot the unit of measurement, but the numbers are correct)

What about capital investment costs?
Traditional coal and natural gas plants are fairly similar. But now, there is a lot more difficulty in building a coal plant because of pollution and the idea of clean energy. In fact, many of the new plants that will soon be online are natural gas plants. But, the ratio of the cost of building a very clean coal plant to a natural gas plant is about 1.5: 1.

So based on investment merit alone, which is the more logical choice?
Coal by far, even after taking into account higher capital investment costs. The main reason that you do not see more coal plants coming online though is because environmental concerns play a big part though in the process; for example, California has no coal plants and it's practically impossible to build one there.

Any other difference between coal versus natural gas plants?
Natural gas plant is much easier, and cheaper, to adjust the capacity at a plant, whereas a coal plant takes some time to get started and costs more for shutdowns/ start-ups. It is much more practical to leave a coal plant going, but then there is the problem that energy can not be stored- it must be used that instant it is created.

That seems very important?
Very. In fact most people don't understand that about the industry, and the hardest part is balancing reducing waste while also generating enough power for everyone. And that is why small recessions are actually a good thing, because we can easily reduce our highest cost capacity.

What about ideas being brought up more making coal more eco-friendly, and efficient? (I think I mentioned specifically the idea mentioned in the Economist about the use of photosynthesis)
The technology for coal to become eco-friendly is mostly there, a lot of it is just stigma, or just that power generating companies who can avoid making the additional investment would rather not make it. As for the photosynthesis idea, that has been brought to them, the problem is it is still in research phase and the research companies are trying to get them to finance the further research.

Regarding natural gas, I remember reading that energy output of natural gas to crude oil barrel is about 1 to 6. If so, why is there such a huge divergence between the two right now and will that correct?
Though it doesn't work out exactly, energy is still energy. So yes, in the long run the two should converge.

Have any insight into the production costs in the natural gas industry?
Well for over 50 years, natural gas always hovered at about $2 to $2.50. Then all of a sudden we saw a spike to $8, and now its back to about $6. I think a lot of it is just speculative money coming into it. The production costs for natural gas are still low and there is plenty more capacity.

That's the most important parts I can remember. Except also, he mentioned that in order to secure coal production his company made an investment in ICO after the mining collapse. I thought that was a great coincidence, and he could probably help me a lot if I decided to pursue the idea further. Prem keeps buying more, so I probably should look more into it.

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