Utility executives and regulators are once again going back to the past to fix the future. In an effort to ease the burden of compliance with the Environmental Protection Agency’s (EPA) proposed rules to reduce emissions from power plants, policymakers are revisiting the idea of creating a carbon market.

If this idea is actually implemented, it could make utilities that have invested heavily in green-energy technologies more valuable than their coal-based peers.

During my years working in the utility industry, I spent considerable time analyzing some of the first carbon plans that were proposed.

Although the idea of a carbon-trading regime has been politically contentious in the past, its time may have finally come.

In essence, a carbon market makes green-energy technologies, such as solar, wind and electric cars more competitive, since carbon-based technologies would become more costly to operate. As such, it would incentivize a massive shift toward renewable energy.

In July 2013, when the EPA first announced its Clean Power Plan to regulate carbon emissions from power plants, we said low-emission utilities such as Exelon Corp (NYSE: EXC), Dominion Resources Inc (NYSE: D), NextEra Energy Inc (NYSE: NEE) and Sempra Energy (NYSE: SRE) could become the new lords of the utility universe.

The EPA hopes to reduce carbon dioxide emissions nationwide by 30% by 2030. The targets assigned to each state vary widely, ranging from 11% for North Dakota to 72% for Washington. Most states have a target between 20% and 45%, according to an Inside Climate News report.

Chart A: The New Lords of the Utility Universe? 

Source: YCharts 

The EPA calculated targets for states by evaluating a number of factors, including their access to renewable energy and ability to reduce emissions by switching to natural gas power plants.

To meet these goals, according to the report, the EPA has proposed four methods, or “building blocks.”

• Increase efficiency at coal plants by upgrading equipment and modifying operations.
• Switch from coal-powered plants to less carbon-intensive sources such as natural gas-fired plants.
• Expand investments in solar, wind and other types of renewable energy.
• Increase energy efficiency in homes, buildings and industries to reduce power consumption. 

Clearly, natural gas producers, renewables developers and low-emission utilities will be the big winners, as well as the energy-efficiency technology providers who will help lower energy use.

But to many senior energy executives and regulators, the key to establishing this new world is developing a carbon market.

Though Congress has rejected such regulatory regimes in the past, the difference this time around is the EPA is implementing these new rules through regulatory fiat under authority granted by the Clean Air Act.

A Path to Compliance 

Because state regulators may soon have to comply with the EPA’s proposed rules to regulate carbon emissions from existing plants, they are now considering a carbon price, among other options.

At a recent conference for state public utility regulators, various experts explained that to comply with the EPA’s rules there were two options: 1) a cap on carbon emissions from each individual power plant; or 2) identify a carbon price for regional electric markets.

Because a cap could lead to reliability issues, most regulators are focusing on a carbon market.

And some utilities that will benefit from the plan are pushing hard for it, including Exelon, which owns the largest fleet of nuclear power plants in the country. The company has said well-designed carbon-reduction rules could be a driving force to modernize the country’s aging electric system.

In testimony to federal energy regulators in late February, Exelon’s Kathleen Barrón, senior vice president of federal regulatory affairs, said the EPA’s new rules would not require making a choice between greenhouse gas regulation and affordable, reliable energy.

In 2009, while working for a green-energy advisory, I led a study that evaluated the carbon footprints of U.S. utilities and correlated them to financial performance. I believe this new paradigm is an excellent starting point for investors seeking to understand how utilities’ valuations may change.

In our research, we used EPA and Natural Resources Defense Council (NRDC) data of the energy-generation capacity and carbon emissions of all participating utilities that were available.

By dividing each company’s CO2 emissions by its generating capacity, we obtained what was considered a fair assessment, adjusted for capacity, of each company’s carbon footprint in tons of CO2 per megawatt-hour (MWh).

The Top Low-Carbon Utilities:

1. PG&E Corp (NYSE: PCG)
2. Exelon Corp (NYSE: EXC)
3. Entergy Corp (NYSE: ETR)
4. Public Service Enterprise Group Inc (NYSE: PEG)
5. NextEra Energy Inc (NYSE: NEE)
6. Dominion Resources Inc (NYSE: D)
7. Sempra Energy (NYSE: SRE)
8. Duke Energy Corp (NYSE: DUK)
9. Edison International (NYSE: EIX) 

Among the financial metrics we included were return on assets (ROA), return on equity (ROE), return on investment (ROI) and EBITDA (earnings before interest, taxation, depreciation, and amortization). And interest coverage was added to the mix.

These ratios were each divided by the aforementioned tons of CO2 per MWh to create a measure that would capture a company’s financial performance as it relates to its carbon footprint.

The list above has been adjusted for mergers and name changes. And today, it’s a good bet that Edison International would rank even higher, given its divestiture in 2010 of its coal plants, as well as the fact that at least 34% of the fuel its subsidiary Southern California Edison uses to generate power comes from clean energy (half from nuclear power, the other half from renewable-energy sources ranging from biomass to wind).

At present, the EPA is reviewing hundreds of comments pertaining to its proposed carbon-emissions rules, which it plans to finalize this summer. Once the rules are issued, states have until 2016 to submit a plan on how they intend to comply with the EPA’s new rules, and can request an extension of up to two years, if necessary.

As we get closer to the summer, we’ll keep investors apprised of what these new rules portend for our Portfolio recommendations.

Additionally, we’ll highlight those utilities that are best positioned to be the new industry leaders. Though there’s always the possibility that challenges could emerge that derail these new rules, there is considerable momentum toward their implementation.