Reasons to Sell Enron Wind (October 1998 memo to Ken Lay)
“Wind is almost a pure subsidy play, which means that Enron will be at odds with the market and must continually intervene into the political processes to extend subsides and/or create new ones. This is an expensive process and may trade away what we are lobbying for elsewhere.”
In my last seven (of 16) years at Enron, my title was Director of Public Policy Analysis. In this role, I was Enron’s libertarian, balancing, I suppose, Enron’s Left environmentalist John Palmisano, author of the infamous Kyoto memo of December 1997.
Enron had multiple profit centers around the global warming issue, which made my internal case for rejecting climate alarmism/policy activism an uphill one. But I got my licks in, including with some ‘e-mail wars’ with Palmisano. I have written numerous posts at MasterResource on Enron’s rent-seeking business strategy and will further set the historical record straight with a forthcoming book in Enron-inspired trilogy.
But my biggest disappointment as an Enron employee was when the company bought Zond Corporation in late 1996, soon to be renamed Enron Wind Company.
Enron never turned a profit with the acquisition–and even got into trouble with the National Audubon Society over a site north of Los Angeles where California Condors, an endangered species, were at risk. Enron’s purchase was as much about PR as it was about money-making, even with generous taxpayer subsidies. The ‘greens’ liked Enron more than just about any other company, and, indeed, Enron was a savior to the U.S. wind industry.
When a hush-hush memo went out that Enron Wind was for sale in mid-1998 (less than two years after its purchase), I wrote a memo to CEO Ken Lay with my reasons to sell the subsidiary.
Alas, Enron could not find a buyer at the price it wanted, and Enron Wind was part of the corporate bankruptcy filing of December 2001. GE bought Enron Wind just months later.
My memo to Lay, nearing its 15th anniversary, is reproduced verbatim. How does it read today?
Author: Rob Bradley at CORP_1_PO
Date: 10/28/98 4:13 PM
TO: Kenneth Lay at ENRON
Subject: Enron Wind Decision
Please see the attached on reasons to sell the wind subsidiary. I hope this memo contributes to the right decision.
Some Reasons for Enron to Sell the Wind Subsidiary
On the presumption that you are mulling over the sale of the wind subsidiary and are getting lobbied to not do so within the company, allow me to make some arguments in favor of exiting.
I do not know the economics of our wind investment or its potential selling price. There are also issues of core competency that I defer on. I do know that the purchase was more of an image play for our mass retail electricity effort than natural marketplace economics. Natural gas technology has made wind (and solar outside of its distributed uses) unnecessary for the foreseeable future in the U.S. and other methane-rich areas of the world.
With Enron’s niche as a “green” energy provider for the masses in doubt, the image component is less compelling. Otherwise, our image is helped and hurt by the investment. We get accolades from the environmental community but criticism from the free-market and conservative community for our subsidy appetite and Kyoto leadership.
Here are my reasons to exit:
1. You mentioned in our December meeting that if I could prove that wind could not compete with gas in the long run, you would sell the subsidiary. The gap between wind and combined-cycle gas is substantial when subtle factors such as tax preferences, reliability/dispatchability, and transmission are taken into account.
My estimate is that the all-in economic cost of wind is double the cost of gas and triple the cost of surplus power. Accelerated depreciation may be an even bigger component of this underlying competitive gap than the federal tax credit. Gas would have to stop improving or get worse as wind gets better to reach near-parity – not a likely scenario.
Wind needs storage if not another fuel backup, yet storage is estimated to cost between $400 and $1,000 per kilowatt (DOE/EPRI, 1997). If wind can’t compete today with the double tax benefit and upstream DOE subsidies that have averaged over 3 cents per produced kWh in the last 20 years, when will it compete?
2. Enron with wind is really competing against Enron with natural gas. New wind capacity displaces output from existing gas-fired plants in locals such as California where gas is the marginal fuel most of the time. Wind also (incrementally) postpones the need for new gas-fired capacity. Renewable mandates will hurt the gas market in this regard.
3. Wind is almost a pure subsidy play, which means that Enron will be at odds with the market and must continually intervene into the political processes to extend subsides and/or create new ones. This is an expensive process and may trade away what we are lobbying for elsewhere.
4. Fundamental tax reform would severely limit wind by removing the federal tax credit and accelerated depreciation. Fundamental tax reform will have political life with a Republican president in the post-2000 period. Green pricing could collapse with the end of tax preferences since the “green” premium would be too high. (This is why quotas are the only solution to make uneconomic renewable really stick.) It would be opportune to sell out before this “political risk” gets factored into the equation.
5. Wind has a negative dynamic at work. The more wind construction, the more prime sites are utilized and the more its economic and environmental drawbacks will become transparent. The Energy Information Administration is finding that its cost estimates for wind are too optimistic given that the best wind sites often have higher up-front and operating costs.
6. Wind as a Kyoto play will be burdened by all the Kyoto controversies – the growing questions about the science, the economics of meeting just one Kyoto, and political forces that will work to cheapen compliance in a Kyoto case (early-credit inflation). Even with subsidies, increased profitability is not assured given that competition grows with the subsidies.
7. With the sale of our solar and wind businesses, Enron can get off of a hardcore Kyoto line. This issue is turning our government affairs department into rent seekers. (Latest example: how do we fashion an early crediting program where it helps us at the expense of other businesses.) The more Enron pushes early implementation to give Kyoto life, the more we will be setting up a regulatory regime (“climatism”) with a life of its own that will cut both ways for our many business interests.
8. With uneconomic renewables off of Enron’s plate, your speeches can get away from spin and more toward underlying energy economics to maximize your credibility. For example, instead of showing the slide about the falling cost of renewables (which begs the question of how much the cost of other technologies including gas have fallen), you can get into the relative economics of different renewables versus natural gas.
As an economics Ph.D. and visionary, you have a leadership responsibility to promote good thinking and economic energy strategies in place of energy faddism (such as wind). The corporation should be positioned to reflect sound underlying economics (consumer demand) and not short-term political plays as much as possible – or at least the corporation should be taken out of political plays as soon as changing conditions permit.
9. Good corporate citizenship should include not only an environmental ethic but a market ethic of not seeking discretionary government subsidies. Enron can set an example that could result in accolades from the other side of the political spectrum.