Drax earnings under pressure as market prices fall

Investors expect earnings from generating giant Drax to fall as much as 25 per cent below expectations as low gas market prices squeeze profitability of its coal generating units.

In a recent investor note from RBC Capital, analysts said their forecasts for Drax Ebitda could fall between 20 – 25 per cent below initial estimates, as the UK energy market shifts away from coal-burn towards a greater use of gas-fired power.

Market experts at energy price reporting agency Icis said that the historic lows on the gas market are set to push the generation mix towards greater use of gas.

Icis head of power Zoe Double said that the profits from gas-fired generation (or ‘spark spreads’) are more attractive than usual relative to coal-burn profits (‘dark green spreads’) due to the lower gas prices which should result in greater fuel switching over the summer.

“Commodity markets are working against Drax, and we see little prospect that the weakening in dark green spreads will reverse,” said RBC Capital.

Double added that the bearish outlook for market prices is set to continue into the winter as the risk premium over supply disruptions of Russian and Dutch gas sources shrinks amid “relatively relaxed” market sentiment.

In addition RBC Capital notes that the generator is still waiting for “full clarity” on the Contracts for Difference (CfD) support of its third biomass conversion project.

The first two units were converted from coal to biomass under the government’s Renewables Obligation (RO) scheme but Drax “remains in a holding pattern on the EU State Aid investigation on the £105/MWh CfD” which was awarded to the third unit conversion, RBC Capital said.

The decision is expected to move to a formal Stage-2 investigation that could take a further 6–9 months.

“We believe the EU will look to scale back returns on offer and account for this by reducing the headline rate of the CfD to £100/MWh in our forecasts,” RBC Capital said.