This article originally appeared on Jan. 31, 2014, on RealMoney.com. To read more content like this plus see inside Jim Cramer's multimillion-dollar portfolio for FREE... Click Here.
The Southern Company (SO) - Get Report has some good news: Both revenues and earnings exceeded expectations. While a solid quarter is good news, Southern announced even better news.
Its forward costs are going to drop. Management successfully negotiated a loan guarantee with the Department of Energy (DOE) for their new nuclear power plants. It appears all but certain Southern secured a federal loan guarantee for approximately $8.33 billion. The guarantee will lower Southern's construction costs for its new Alvin W. Vogtle Nuclear Power Plant Units 3 and 4.
Here is how it works: Interest used for utility construction is often capitalized. The higher the interest rate, the higher the capitalized cost. If a utility can lower its interest expenses, it can lower its construction costs. The lowest interest rates available are usually from the federal government. Therefore, a federal loan guarantee lowers construction costs.
The winners are shareholders and consumers. Consumers will have the reliability of nuclear power at the lowest possible cost. They will also have cleaner air and cleaner water.
Nuclear power is a carbon-free source of energy. It emits no greenhouse gases. Plant Vogtle will displace dirty power watt for watt. The new units will displace more than 2,200 continuous megawatts of hydrocarbons for five decades. That is the equivalent of displacing approximately 30 old, inefficient and dirty power plants.
Southern's federal loan guarantee has another impact. It reinforces the commitment to finish Plant Vogtle's construction. The guarantee makes it difficult for Southern or the State of Georgia to walk away from construction. Those commitments are important because finishing nuclear construction is not easy.
Anyone who followed the Solyndra debacle knows that defaulting on a federal loan guarantee has serious consequences. Not only does a default wipe out equity holders, shareholders and executives become subject to federal investigations and potential criminal charges.
Critics argue defaults are more likely in renewable energy technologies, not nuclear power. They are wrong.
Nuclear defaults happened in the past. Under the Rural Electrification Administration (REA), the federal government guaranteed $948 million to Wabash Valley Power Association, a non-profit cooperative utility. Wabash Valley used the proceeds to invest in a 17% share of the Marble Hill Nuclear Power Facility. Public Service Company of Indiana PSI, which is now part of Duke Energy (DUK) - Get Report, owned the other 83% share. Marble Hill's construction costs escalated. Cost increases and schedule delays forced PSI to abandon construction in 1984. Unfortunately, PSI's decision wiped out shareholders and forced Wabash Valley into default. Like Solyndra, Wabash Valley faced years of federal investigations and legal threats.
The difference is Southern's balance sheet is strong. If it needs to, Southern can raise additional cash and manage modest cost overruns. And Vogtle will likely face cost overruns and schedule delays.
While potential cost overruns and scheduled delays could be painful, it is unlikely it will be devastating to Southern's shareholders or rate payers. After a few years of operations, Plant Vogtle will prove to be an incredibly valuable asset. Not just for Georgia, but also for the nation.
Southern's aggressiveness is bold. When completed, the company's four-unit nuclear facility will become the nation's largest and most modern nuclear power facility. At approximately 4,660 megawatts, Plant Vogtle will provide Georgia with continuous power at very low production costs. In the long term, this plant will be cheap.
Investors have to give Southern some credit. Where others hesitated, Southern aggressively pursued innovative technologies. Today, Southern is the only utility willing to take a chance with clean coal technologies. This year, Southern's integrated gasification combined cycle (IGCC) project should enter commercial service. This is truly high technology; it can make coal cleaner than natural gas.
At the same time, Southern is building a first-of-a-kind IGCC. The company is taking a leadership position with a first-of-a-kind nuclear power plant. Vogtle 3 and 4 are the nation's first next-generation nuclear power plants.
Only Scana (SCG) is willing to build a similar plant. NextEra Energy (NEE) - Get Report, Duke, Dominion Resources (D) - Get Report and their state regulators decided to wait it out; they are deferring their nuclear construction to another decade.
Notwithstanding the good news, Southern currently has an unhealthy payout ratio. Nevertheless, on the earnings call, management said they remain committed to growing the dividend. "While dividend increases are subject to Board approval, the implied payout ratios associated with a $0.07 per year increase are reasonable within the context of our strong cash flow, business model and constructive regulatory jurisdictions."
This week, as the rest of the nation realizes they may have over committed to natural gas, Southern's future looks brighter. Its portfolio of generating plants will likely become the envy of the nation. Southern has no peers.
At the time of publication, Glenn Williams had no positions in any of the stocks mentioned.
Glenn Williams has more than 30 years of experience in power and fuels, including design, engineering, construction, startup and operations of large-scale power projects. He has had direct involvement with coal plants, natural gas facilities, and approximately half of the nation's nuclear power facilities and designs energy strategies for regulated and unregulated energy organizations. He received a bachelor's degree in electrical engineering from Northeastern University and a master's degree in technology management from the University of Maryland.