Coal-powered power station
Coal-powered power station

European power companies face €114 billion ‘debt trap’ if they delay climate action

An Oxford University and University College Cork study today reveals the scale of the challenge facing large power companies in the EU and UK if they delay aligning their portfolios with net zero.

The researchers found that a ‘significant majority’ of companies within the sector could have the financial resources to close their carbon emitting power plants early. But if they delay action for just five years, fourteen out of the twenty-nine companies analysed suffer declines in credit ratings related to having enough money to pay interest payments on loans. Credit ratings fell for twelve companies based on having less money available to pay back their loans, including one which was rated as high risk.

Delayed action on climate increases the amount of cashflows that needs to be reinvested to sustain the company from lost cashflows associated with stranded assets. Lost cashflows from stranded assets is estimated at €114 billion if power companies stop using fossil fuel power plants by 2040.

Power companies are especially sensitive to credit ratings, the authors argue. This is because the ability to finance new, net-zero compatible projects depends on the strength of a company’s balance sheet. If it has already built-up debt and the value of its fossil fuel assets then fall, the company could find itself in a ‘debt trap.’ At this point, any efforts towards a net-zero state become harder and potentially more expensive to finance.

Dr Conor Hickey, lead author and a Research Fellow at the Environmental Change Institute, University of Oxford, said, “Reduced profits from stranded fossil fuel assets will create pressure on debt repayments and have wider implications for pensions, jobs and asset owners further up the investment chain. This study quantifies the issue and offers a framework for investor and policy engagement.”

Understanding the impact of stranded fossil fuel assets is particularly urgent for power companies operating within the European Union. Ten EU countries have committed to closing their coal plants by 2030. In less ambitious European countries, rising carbon prices and cheaper renewables will accelerate the closure of fossil fuel power plants.

Dr Ben Caldecott, a co-author and the Director of the Oxford Sustainable Finance Programme and the Lombard Odier Associate Professor of Sustainable Finance at the University of Oxford said, “To avoid negative impacts on share prices, credit ratings, and financial returns, we find that European power companies should increase spending on green technologies early on, to generate new income streams that will mitigate future stranded fossil fuel assets.”

Dr. John O'Brien, a co-author and Lecturer in Quantitative Finance at University College Cork said "Closing carbon emitting power generation is a key element of the European Commission’s pathway to a zero-carbon economy. Our modelling shows that this approach is financially feasible, and that, with immediate action, the industry can absorb the associated losses."

Can European electric utilities manage asset impairments arising from net zero carbon targets? was written by Dr Conor Hickey, Dr John O'Brien, Dr Ben Caldecott, Dr Celine McInerney, Professor Brian Ó.Gallachóir and published in the Journal of Corporate Finance.

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