While there are a number of ongoing debates about how the latest Environmental Protection Agency (EPA) proposal will affect the power industry, it has long been clear to us what the impact would be.

The new rules, issued in early June, are designed to cut carbon dioxide emissions from existing coal plants by as much as 30 percent by 2030, compared with 2005 levels.

In terms of coal, my colleague Robert Rapier, who helms our sister publication The Energy Strategist, put it succinctly in his recent report entitled, “New EPA Rules Bury Coal,” where he wrote, “This regulation would effectively end coal-fired power in the US in the long run.”

And as far as which utilities would make the best investments in this new environment, we wrote last year about the companies whose resource mix would be most profitable in a carbon-constrained environment, in a report entitled, “The Carbon Revolution Returns.”

Although some utilities with coal-heavy fleets might be affected in the short term, the industry has already spent many years preparing for the possibility of such a regulatory regime.

As a result, most utilities should be able to comply with these new emission standards. For instance, Southern Company (NYSE: SO) has shifted its emphasis to natural gas, while Duke Energy Corp (NYSE: DUK) recently put its Midwest coal-heavy generation fleet up for sale.

But the real winner from this move to tighter carbon emissions restrictions continues to be natural gas, as this resource will increasingly be relied on for future power generation. Natural gas is cheap and plentiful, and except for renewables such as wind and solar, there are very few alternatives under this regime that provide both cost-efficiency and flexibility.

On a volumetric basis, replacing coal as a feedstock is an awesome undertaking. In the EPA’s own proposal, the agency predicts that if the rule were to become final natural gas would edge out coal to become the most common fuel for power plants by 2030.

In 2013, natural gas accounted for 27 percent of electricity fuel, compared with coal’s 39 percent share of the market. Nuclear followed at 19 percent.

This changeover to natural gas will mean more power plant construction, more pipelines, more, more and more infrastructure, which the energy utilities will earn a return on (notwithstanding the potential disruption from new technologies that still has to play out). So for some utilities, these changes will offer new growth.

Most investors are likely already aware of the shale revolution and its impact on utilities, but it should be emphasized that these new regulations would further accelerate this revolution by essentially imposing the adoption of natural gas by the utilities sector.

The degree to which natural gas replaces coal as a source of electricity generation in the US by 2040 will depend primarily on natural gas prices and still uncertain supply-demand factors, according to the US Energy Information Administration’s Annual Energy Outlook.

In all the scenarios that the agency projected, rising natural gas supplies drive replacement of coal for power generation both in private industrial applications, which will account for 22 percent of the increase in natural gas use through 2040, and on the grid, which will account for 78 percent of the increase in natural gas use.

If natural gas supplies are high, the price will fall and it will replace coal sooner, whereas if shale reserves are not as large as anticipated the opposite will occur. In the most likely scenario, coal use will remain flat and natural gas will grow despite rising in price to $8.16 per million British thermal units (MMBtu) by 2040, almost three times coal’s projected 2040 price of $3.19 per MMBtu (See Chart A). 

Chart A: EIA Scenarios for Natural Gas Growth 

Source: Energy Information Administration 

The EPA Plan

This new benchmark for existing power plants proposed by the EPA is to be achieved by a hodgepodge of different programs already in existence. And state regulators have the flexibility to choose the combination of policies they believe will best help them meet the new standards.

Among their options, states can direct power plants to cut emissions directly, either by switching to a fuel source with lower carbon emissions, such as natural gas, or by making upgrades to equipment or efficiency.

They can also meet the new standards by increasing the amount of energy drawn from renewable sources such as solar, wind or hydropower. Moreover, the EPA rules for new power plants, which were issued last year, essentially require plants to burn natural gas, or have technology installed that can capture and sequester carbon dioxide.

There are 47 states presently that have utilities that run energy-efficiency programs, 38 have renewable portfolio standards or goals, and 10 have market-based greenhouse gas emissions programs. The proposed federal plan looks to expand and build on these local state gains.

States will be responsible for presenting compliance plans to the EPA by June 2016, outlining their strategy to meet their assigned goal. The standards will be finalized by next June based on feedback over the next several months. We will keep subscribers apprised as these new state compliance plans are outlined, and what the ramifications might be to utility service territories. 

Chart B: Changes in Emissions Required from 2010 to 2030 Under the EPA’s Plan

Source: Bloomberg